Happy Days for Chuck

Good day… Chuck got some great news yesterday, as his doctors gave him the word that all’s OK, and there’s no sign of new cancer! He had us all worried after his setback on Monday, and it was great to hear everything is looking good. He is off to Florida this morning, but left me with some tidbits of info to share with everyone this morning.

We will get a couple of pieces of data this morning, and Chuck gave me his opinions on each:

“1. Trade Deficit… The ‘experts’ have forecast a deficit of $58.5 billion, which would be about $1 billion more than in the previous month of August. But for my money I’ll say it comes in even worse… Why? Because I just look back at the softness of the ISM Manufacturing Index, and the -2.1% drop in durable goods shipments to think that.

“The deficit continues to be the dollar’s worst nightmare… Second of course is Treasury Secretary Paulson, who once again was telling people he believes in a strong dollar policy… He probably still believes in the Easter Bunny, and tooth fairy too!

“2. Consumer Sentiment for this month so far… Well… If all this bad stuff that keeps getting reported hasn’t dampened the spirit of U.S. consumers, I don’t know what will! Look for a further decline in this Index number to 80, from last month’s 82…

“This is a ‘secondary’ piece of data, and therefore doesn’t carry much weight… But nevertheless it will not be dollar friendly when it prints, if I’m correct!”

So the dollar is poised for a fifth straight weekly loss as the continued negative data will likely push the Fed to reduce borrowing costs a third time this year. Big Ben Bernanke was in front of Congress yesterday and tried to indicate a neutral stance on rates. The Fed Chairman told lawmakers in Washington yesterday that he expects the economy to ‘slow noticeably’ this quarter, but also warned of ‘upside risks’ to inflation. This two-sided approach was meant to indicate the Fed would keep a steady hand on rates until the end of the year, but the markets weren’t buying what Ben was selling.

Future traders focused on the negative growth comments, and increased their bets that the Fed would have to step in with another rate cut before year-end. Bernanke’s overly optimistic prediction of a bottom in the housing market and reasonable growth by spring of 2008 is fodder for a fairy tale. The reality is that the U.S. housing market will not reach a bottom until well into 2008, banks will be forced to take even larger write-offs, and credit will get even tighter. American consumers will not be able to keep up their borrow and spend habits, and the U.S. economy will slow even more than Ben and his boys have predicted. Throw in higher inflation from rising oil prices and we have the worst kind of situation: rising inflation with a slowing economy.

Unfortunately this FOMC is behind the curve, not in front of it and Bernanke’s statement that the Fed would be dependent on upcoming data is even more proof. Bernanke finally admits that the economy will slow ‘noticeably’ in the fourth quarter. (Thanks for that news flash Ben, we saw it coming a year ago!). But while he seems to be very good at stating the obvious, he is holding fast to his optimistic predictions of an improving U.S. economy early next year. In reality, they have no idea where the economy is going, and are simply along for the ride. Don’t let yourself be fooled by Ben and the boys; these are the same guys who said the subprime mess wouldn’t have a noticeable impact on the U.S. economy. Investors need to protect their portfolios by diversifying into currencies and metals.

Two central banks that are definitely ahead of the curve – the ECB and BOD – decided to keep interest rates unchanged yesterday. Both said they need more time to assess the economic impact of turmoil on credit markets sparked by the U.S. housing slump. With European inflation accelerating to the fastest pace in two years, the ECB is still leaning toward another rate increase.

Chuck sent me the following comments on the euro last night:

“The euro (EUR) was given some room to roam by the European Central Bank (ECB) yesterday, when they kept rates unchanged along with the Bank of England…

“It sounds to me as if the ECB ministers are growing concerned with the euro’s latest move… ECB President Trichet talked about how ‘brutal moves in currencies are never welcome’… That’s the first we’ve heard from Trichet about the euro’s rise that wasn’t rah-rah for the euro…

“But this could merely be playing out the game in the media… I doubt the ECB will resort to the type of intervention that the Bank of Japan did a few years ago. So for now… The euro has the wind in its sails and open sea ahead!”

I’ll use Chuck’s mention of the BOJ to move on to the biggest gainer of the past two days, the Japanese yen (JPY). The yen has moved back up and actually traded with a 110 handle this morning as carry trades are being reversed. Investors are seeing risk return into the markets, and are taking their gains on some of the high yielders to pay down their loans in yen.

This latest move by the yen has many of the big time currency gurus predicting a further rally. Citigroup put a large trade on yesterday betting the yen will move to 108 in the next three weeks. Lehman Brothers and Deutsche Bank are even more aggressive with their yen predictions. Lehman is calling for the yen to trade to 100 yen per dollar by the end of 2008 and Deutsche Bank forecasts a 97.5 level in the next 12 months. They both are calling for the yen to rise as credit-market losses prompt investors to pare purchases of higher yielding assets with loans from Japan (the reversal of the carry trade).

The Bank of Japan will be announcing their interest rate policy next week on November 13, but everyone is expecting them to keep rates steady. The chance of a rate increase this year is virtually nil, but look for an increase to start off the new year in January. But the yen could increase even without a rate increase as investors exit the carry trade.

We have been swamped on the desk over the past couple of days with calls generated from Jimmy Roger’s comments on the Chinese renminbi (CNY). And as usual, Mr. Roger’s timing was excellent. The renminbi rose the most in almost two weeks against the dollar after China’s plans to diversify its $1.43 trillion in foreign exchange reserves caused the dollar to slump.

But don’t get too excited about the renminbi just yet. The currency is up just 5.3% against the dollar this year. The currency is still ‘managed’ by the Chinese government who will take their time in letting it rise, no matter how much pressure is placed on them. Ty Keough sent me a story last night talking about how Treasury Secretary Henry Paulson is increasing pressure on China to let their currency appreciate faster.

China’s exchange rate is “viewed by many countries as a source of unfair competition,” Paulson said in a speech late yesterday. He also reiterated his support for a ‘strong’ dollar. Do you think he understands just how ridiculous he sounds telling the Chinese to let their currency increase while saying he is supporting a strong dollar? If China would let their currency rise, the result would be a decrease in the value of the dollar as they currently have to purchase dollars to keep the Chinese renminbi down. Just what do you think would happen to the greenback if the Chinese listened to Paulson and stopped their purchase of dollars? Believe me, it wouldn’t be good for Paulson’s ‘strong dollar’ policy!!

Currencies today: A$ .9154, kiwi .7689, C$ 1.064, euro 1.4677, sterling 2.098, Swiss .8909, ISK 60.22, rand 6.5980, krone 5.3271, SEK 6.3332, forint 172.88, zloty 2.48, koruna 18.16, yen 111.07, baht 31.52, sing 1.4425, HKD 7.7768, INR 39.14, China 7.4165, pesos 10.85, BRL 1.7524, dollar index 75.19, Oil $95.38, Silver $15.18, and Gold… $829.43

That’s it for today… Great news on Chuck! Goes to show you what a positive attitude and having thousands of people praying for you can do. Now he will be able to have a nice relaxing weekend with his family down in sunny Florida. Congratulations to St. Louis’ own Taylor Twellman of the NE Revolution. Taylor scored what is probably the prettiest goal I have ever witnessed on a bicycle kick to give his team the win and advance them to the MLS finals. Hope everyone has a fantastic Friday and a great weekend.

Chris Gaffney
November 9, 2007

The Daily Reckoning