Short the country with the least monetary expansion
2015-01-27 8am EDT | #airport #BOJ #ECB #Fed #St Maarten #stocks
There is a beach on the Caribbean Island of St Maarten called Maho Beach. What makes the beach unique is that they built the Princess Juliana International Airport directly adjacent to it.
This isn’t some rinky dink little airport with propellor planes buzzing in for a landing. This is a full on International Airport that lands Airbuses and other monster jet planes. So you get a special group of liquored up, lobster tanned tourists sitting at the end of the runway getting blasted with sand as these behemoths come dropping from the sky in for a landing.
You wouldn’t think that you would need this sign, but let’s face it – sometimes the obvious isn’t quite so obvious to all.
I feel like we need a similar sign for all the US bulls who think that the strength of the US dollar is not going to affect the world’s biggest economy.
Over the past six months, the US dollar has rocketed straight up. It has rallied over 20% in a blink of an eye.
Many market strategists are bravely trying to put a positive spin on this rise. They are claiming the rise is the result of a relatively strong US economy. And to a large extent, they are correct. The US dollar has been the strongest major economy, but it is mostly because the rest of the world is so bloody terrible.
Growth is collapsing everywhere, yet so far, the US has been fortunate enough to be somewhat immune.
However, I think the US economic bulls are kidding themselves if they think that this global economic slowdown can stay away from the US shores forever. The business community’s reaction to changing macroeconomic variables is much slower than itchy trigger finger traders or portfolio managers. A business manager for a large global company does not start hiring or firing staff until it is excessively obvious that the trend has changed.
Therefore it is no surprise that we are just now starting to see headlines of massive layoffs. It seems like every time you turn around there are more and more US companies taking an axe to their staff count. From ZeroHedge:
Here's the computer industry which includes permanent layoff queen HP; it layered another 5,000 job cuts on top of the 16,000 it had announced earlier in the year, and on top of the tens of thousands it had announced in prior years. The segment also includes Microsoft which is now implementing its own mega job cuts. In October, the segment announced 6,509 job cuts for a total so far this year of 55,511. That's up 92% from a year ago!
The electronics industry - Cisco among them - announced 1,648 job cuts for the month, bringing them to 18,153 year-to-date. Up a stunning 136%!
The telecommunications industry - which includes money-losing Sprint, now 80% owned by SoftBank of Japan - announced 5,217 job cuts for the month, which brought the year-to-date total to 20,038. Up 81% from the same period last year.
All three tech segments combined clocked in with 13,374 job cuts in October and 93,702 for the year so far. Up 97% from the same period last year!
That's more than just the routine tweaking of the work force, where some people get laid off in one area of the company and other people get hired elsewhere. This time it's serious. And they're all doing it: Microsoft (18,000), layoff-meister HP (21,000), Cisco (6,000), Intel (5,350), Sprint (2000 on top of the 5,000 by which it already reduced its workforce so far this year), TI (1,100), Dell (1,000), EMC (1,000)..... You keep going like this, and pretty soon you're talking real numbers.
Tech's layoff announcements are likely to blow past 100,000 for the year, on track to be the worst year since 2009, when it announced 174,629 job cuts.
Or how about last week’s announcement from Bank of America that they would fire 4,000 more people? And those are examples from the supposedly “strong” industries of tech and finance. The bloodshed from the US’s brightest economic sector over the past few years is going to be epic. The shale energy bubble has created so much over capacity that it will be years before they ever hire again. In the coming quarters, there will be more and more layoffs from this previously growing sector.
Whereas over the past couple of years the United States has been the “cleanest shirt in the dirty laundry pile,” that story is growing old. The idea that the US can continue robustly growing in an environment of a strongly rising dollar and collapsing oil prices is a pipe dream.
The global economy is suffering from a lack of demand. In this new day and age, absent aggressive monetary and fiscal stimulus, most developed economies quickly slip into a self reinforcing deflationary credit contraction cycle.
The countries that inflate the least, find their currencies rising and their economy sagging. This trend became brutally obvious with the advent of Abeconomics. In the years leading up to the election of Prime Minister Abe, the Japanese economy was suffering from an ever increasing Yen.
Once the BoJ stepped on the gas pedal, the Yen started going down, and although the long term success of the program is still up in the air, at the very least it caused the Yen to fall and for the immediate deflationary pressures to be put on the back burner.
However the deflation did not disappear, it was merely exported to another country. At a time when the BoJ and the Fed were both expanding their balance sheet, in 2012 the ECB attempted to wind down their previous balance sheet expansion from the European credit crisis. In doing so, the ECB not only didn’t expand their balance sheet, but they actually shrank it by a third! This had a disastrous effect on the European economy.
In the space of a couple of years, the Euro rallied over 55% versus the Yen. Imagine you were BMW or Bosch trying to compete against the Japanese. It is tough slugging when your currency appreciates by over 50%. No wonder the European economy has been so moribund.
In both of these cases, the Japanese in the early 2010s, and then the Europeans during the past couple of years, there was a hope that they wouldn’t need to resort to this sort of monetary expansion. There was a belief that extraordinary measures were not needed, and if they simply followed a prudent monetary policy, the economy would right itself.
But those sorts of ideas are from another era. The global economy simply has too much debt without enough growth to support it. The limited economic growth that is available will go to the countries most willing to cheapen their currencies to steal it.
If a country attempts to stand firm against this irresponsible monetary madness, they are going to find themselves suffering just like the Japanese in 2010, or the Europeans in 2014.
And that is where we find the US today. The Federal Reserve is attempting to wean the economy off the seemingly never ending quantitative easing and ZIRP (zero interest rate policy.) The Fed hasn’t even raised rates yet, but the US dollar has already exploded higher.
But the days when an economy can roar higher during a tightening cycle are behind us. Many strategists will pull out the 1990s play book and point to that period of stock market strength combined with a strongly rising US dollar.
The idea that any country can actually significantly tighten monetary into this global economic sinkhole is laughable. Not only can the Fed not normalize policy, but as the rest of the world continues to expand their Central Bank’s balance sheet, the US will import more and more of the world’s deflation. Forget about raising rates, it won’t be long before the lack of an expansionary Fed’s policy will put the US in the same situation as Japan in 2010 and Europe in 2014.
The Fed will put a brave face on it – just like the Japanese and Europeans both did. They will attempt to normalize policy. But the global economy is far from normal. Failing to realize this will be another policy error.
Our job as traders is not to decide about what should be, but to focus on what is. There is no sense lamenting the fact that any normalization of monetary policy is going to be a disaster. Instead let’s focus on what this means for the market and figure out how to take advantage of it.
If I am correct that the US economy is going to import the world’s deflation, then that should mean at the margin that US bonds will outperform and that the stock market will under perform.
On Friday I wrote that about the idea that maybe it was time to short the Japanese stock market, and although I did dip my toe in the water, upon reflection I think the US market is a much better short opportunity. The Bank of Japan is still expanding their balance sheet. I am concerned that the European QE will steal a lot of thunder from the Japanese economy, but it will be equally disastrous for the US economy. And not only that, in the US you don’t have to fight the Central Bank.
I think in the coming weeks it is going to become increasingly obvious that US economy cannot simply shrug off the global economic slowdown and the US dollar rise. As this becomes more clear, I think the US dollar will put in an interim top. There will be talk about more QE, but I don’t think the Fed will even contemplate that until things get really bad.
The stock market is going to find itself in the uncomfortable situation of being fully priced in a slowing economy with a Fed that is not willing to return to support any dip. Even though it is sad to say this, the worst performing stock market (and economy) will be the country that is the least aggressive in their monetary policy expansion. This year that will be the US. Trade accordingly.