Is this the start of a global financial crash?

[Pippa]

I know alot of folks on this forum already get dailyreckoning, but for those who don't.......

The Rapid Decline of North Sea Oil

The Daily Reckoning

Paris, France

Monday, 5 March 2007

*** Goldman, Merrills, Morgan Stanley...they're all
junk? ...and gold gets whacked too...

*** Mother and child reunion...a tasty dish in the
making...Chinese money supply...market view from "Dr
Doom"...drought at the Estancia...

*** North Sea oil, a bonanza on the wane...and the
government aren't helping...and more...

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---------------------

Bill Bonner in Paris:

Watch out, the yen is rising.

Here's our theory: hundreds of billions of dollars are
caught up in the 'carry trade.' Speculators borrow yen
at preposterously low interest rates. They trade the
money for other currencies - notably those of English-
speaking countries - in order to place the money in
higher-yielding investments. They then pocket the
difference and think they are geniuses.

The game works beautifully. Nothing goes wrong until
something goes wrong, that is. Then, the speculators
get spooked and begin to look for the narrow door that
leads out of the trading room. In the best of cases,
they exit in an orderly fashion, selling their high-
yielding investments and buying back yen so they can
repay their loans. Dollars, pounds, and New Zealand
dollars go down. Yen and Swiss francs (another low-
interest rate currency borrowed for the carry trade)
go up.

You will know, dear reader, when the game is over when
you see the yen and Swiss franc rising.

Recently, both seem to be moving up. The British pound,
on the other hand, took a step down. So far, the
movements are so orderly they haven't even been
noticed. But watch out...if something goes really
wrong, speculators will make a mad dash for the door
and many will be crushed.

Last week's mini-crash in China scared a few
speculators. US stocks, for example, got hammered down
below where they began the year. The stocks and bonds
of the money shufflers - Goldman, Morgan Stanley,
Merrill Lynch - seem to have topped out. The swap
market tells us that their own traders regard their
bonds as though they were junk.

The real action may come today, tomorrow...or a year
from now. But when it comes, you will be better off
holding yen and Swiss francs than dollars or pounds.
Sterling looks particularly risky to us - since so much
of the hot money of the money shuffling trade has found
its way to London.

In the meantime we note another curious thing...gold is
getting clobbered too. How could that be? Remember,
there's no magic to the yellow metal. It goes up and
down like everything else. Gold is money; it represents
purchasing power. The excess liquidity pumped into
the world economy by the central banks, the carry
traders and the financial industry represents a kind of
inflation of purchasing power too. When inflation
increases, so does the price of gold - typically
overshooting. A collapse of the liquidity bubble on
the other hand, represents a decrease in purchasing
power...a deflation. Gold will not necessarily go up
when that happens; it could go down. People will
need cash to pay their debts. Cash, for Americans,
means dollars.

We don't buy gold because we think it is going up
(though we do think it is going up). We buy it because
we see the financial world as much riskier than most
people think. Inflation...deflation...we expect some
kind of 'flation' as a result of all the debt and
credit pushed onto the world over the last 15 years.
Remember, a correction should be equal and opposite to
the deception that preceded it. This new 'liquidity' -
trillions of dollars worth - pretends to be real money.
It is not. It has no resources...no real savings behind
it. Since it is not real...when the correction comes,
it will disappear - along with many of the 'assets'
and much of the "wealth" that people today think
they have. The good thing about gold is that it will
still be there.

More news:

--------------------

Adrian Ash, reporting from Hammersmith:

- Oyakodon is a lunchtime favourite of Japanese
school children. A bowl of rice topped with chicken
and egg, it translates literally as "mother and child"
- a tasteless joke for the chicken and its
offspring, perhaps.

- But add a dash of soy sauce and it makes for a very
tasty meal.

- The chicken and egg question of Japanese carry-
trades, on the other hand, is rapidly making investors
sick the world over. Which came first - the end of
carry, or the collapse of share prices in Shanghai?

- The newswires blame Beijing's threat of higher
interest rates...new restrictions on stock market
IPOs...even a tax on financial speculation! But what if
the sudden unwinding of the carry-trade caused Shanghai
to collapse instead? If you think that oyakodon has got
little to do with the FTSE100 losing 7% since this time
last week, take note dear reader. For the chicken and
egg question also applies going forward.

- Just when will the markets regain their appetite for
risk? Will the entire global carry-trade - estimated at
anything between $330 billion and $1 trillion - need to
unwind first? The City can't wait for an answer.

- Word in London on Friday claimed that several major
players thought the Yen's sudden up-turn couldn't roll
on. So they went straight back to shorting the Yen on
next-to-nothing interest rates, ready to invest the
cash for a better return elsewhere.

- Those traders will be feeling sick already, however.
The Pound - a top destination for carry-trade cash -
has now sunk nearly 3.6% against the Yen since Friday
morning. All things being equal, the expected pay-out
to JPY/GBP carry trade players would have only been
4.75% over one year as it was. Now the speculators' no-
brainer winnings are shrinking...and fast.

- Borrowing cheap Yen at 0% like this used to be such a
no-brainer, in fact, that asset markets across the
globe went off their head. Even the Nikkei picked up,
ending its 14-year bear market, as the Japanese
currency sank. Lower export prices made Japan Inc.
competitive once again. So long as Japanese interest
rates stayed low, and the Yen just kept getting
cheaper, what could go wrong...?

- But suddenly the dish of the day is hard cash, most
of all Japanese cash served in prompt settlement of
"short" positions.

- The Swiss Franc's also back on the menu; with base
rates at barely 1.9%, they've sat below the Swiss
National Bank's inflation target of 2.0% since the end
of 2001. Now the SNB's threatened to raise its rates
too, just like the Bank of Japan, and everything else
is off - stocks, emerging markets, asset-backed
securities, high-yield currencies...

- "Japan and Switzerland have large current-account
surpluses," noted Stephen L. Jen for Morgan Stanley
late last month, "4% and 16% of GDP in 2005
respectively [plus] a solid net investment position
(36% and 114% of GDP in 2005), and higher-than-
potential economic growth."

- Says Jen, "Most economic theories predict that the
JPY and the CHF should have appreciated in 2006. In
fact, our valuation models, which are based on these
economic theories, suggest that the JPY is now more
undervalued than the Chinese RMB. For the JPY and the
CHF to depreciate, their low cash yields have almost
certainly played an important role."

- In other words, the cheap Yen only got cheaper thanks
to investors selling the Yen because it was cheap. As
even a school child could see, the word "cheap" figured
loudly in the carry-trade logic. So anything risking a
rise in the Yen posed a big fat risk to carry-trade
investors, too.

- "The latest plunge in global stock markets came on
the heels of a hike in the Bank of Japan's overnight
loan rate to 0.50%," says Gary Dorsch at
Sirchartsalot.com, "its highest in a decade, and
renewed warnings by Swiss central bankers of a
tighter monetary policy in the weeks ahead, and threats
of a short squeeze on speculators betting against the
Swiss franc."

- If the end of the carry-trade caused the collapse in
Shanghai - which is still pulling down asset prices the
world over today - will it take fresh declines in the
Yen and Swiss Franc to fund a bounce in the markets
from here?

- On Feb 28th, the Bank of Japan's Atsushi Mizuno
warned the world that the carry trade "could cause
distortions in global asset prices by speeding up
capital outflows from Japan." This is better late than
never perhaps, a typically speedy response from a
central bank wonk.

- But the problem now is capital inflows back into
Japan. Squeezing a full-grown chicken back into its
egg-shell was never going to be easy...

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[ianryder]

http://money.cnn.com/2007/03/05/markets ... 2007030607
Another good update on the carry trade - this time top of CNN Business News

When markets are more volatile, expect big gains and big losses to come hard and fast, Roubini said, referencing the yen's abrupt movements during the Asian financial crisis, when the yen jumped as much as 12 percent during one 72-hour period in 1998.

"This is not a risky trade I would continue if I was an investor. Any trigger can cause a sudden movement at this point," Roubini said.