Tuesday, 21 February 2012

Greece, Euro, and risk-on

Greece and the Euro crisis
So Greece got a deal. No surprise, as the details had already been on the table for weeks. Unless you are a hedge fund and have directly speculated in a default, it is also largely irrelevant. Yes, Greece may need more money in a year’s time, but that is not important for the investment decisions taken today.

The risk-on situation that has prevailed since the October 2011 has been curious in the sense that it has taken place under very low trading volumes. This is frequently observed at cyclical turning points and last year we had two such points, leaving many investors somewhat schizophrenic. Recently, we have had the most dramatic change in relative prices of the various asset classes in more than three decades, but with no flows to support that movement.

Depending on one’s point of view, this can be blamed on the Greek crisis or the uncertainty about the global growth outlook.

As far as we see it, both of those factors are firmly off the table and that will be the situation for at least some months. USA is recovering nicely, Europe (including UK) is pouring cheap liquidity into the financial markets (new 3-year LTRO coming up in a couple of days), China has eased bank credit for a second time. German economic strength is surprising on the upside and we are past the point of maximum deflationary pressure on Europe’s economies.

We suspect that it could bring “real” money managers, i.e. those who invest important volumes, to change their mind and to begin running after the market. In practical terms this would imply that they begin to increase their holdings of risk assets and rotate out of safe haven assets.

With growth in Germany and US surprising on the upside, T-bonds and Bunds are decidedly expensive, and yields will increase as the risk premium is taken out of those markets. Risk pricing is also likely be taken out of other presumptive “safe haven assets”, Norwegian Kroner, Swedish Kronar, Danish mortgage bonds and what not. It will not look good once the asset rotation starts in earnest. Speculative Euro short positions will continue to be squeezed out.

Some weeks ago I wrote a few words about the brewing oil crisis relating to Iran’s nuclear programme. Curiously, it appears that two developments are happening at the same time. From various sources, it seems clear that there are in fact negotiations between US and Iran to defuse the stand-off. At the same time, oil market speculators are now beginning to hype the story and telling us that oil can go through the roof. Follow this story closely.

Just to make sure, oil could see quite a rapid increase before it derails our indicators that the risk-on situation is intact.

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