Ad Hoc Commentary – a year of two halves

2012 would perhaps be remembered as the year of two halves. In the first part we welcomed the auspicious Chinese Dragon. We are now moving to the very much hyped return of the Mayan feathered serpent (Quetzalcoatl). The fringe minority will cry Armageddon, but the rest of us knows better.

For the rest of us, we have more realistic stuffs to worry about. As our turning point of Aug 24 approaches, capital will move from seeking value, to avoiding danger. The reason we chose Aug 24 was simple – we believed, and still believe, that Uncle Ben will disappoint on QE3 during his Jackson Hole annual retreat. This together with our believe that Europe had solved itself (it just needs time to go through the motion) had led to a sell-off in US treasuries.

We think that this sell-off in US treasuries is a head-fake. The time to fade it is perhaps after Jackson Hole. It is best to express it via yield curve flatteners after Jackson Hole. Outright receives are dangerous because you never know how long the European euphoria will last before the Japanese jinx hits us. For Asian bonds, it would be a much harder call as the Asian currencies are losing its luster as exports slows. We remember that Asian currency strength and bond prices are correlated – strong Asian currencies lead to capital inflows into Asian bonds.

The sovereign debt crisis will likely migrate to Japan next. We need to remind ourselves that the local people had lost faith in their own nation after Fukushima 311. Pre-Fukushima, they could easily count on the local people to bring money home. But post-Fukushima, it is uncharted waters. It does not help that the mainstream papers are eroding confidence even further with headlines like:
How Japan Lost Its Electronics Crown

The gold bugs who are screaming QE3 will soon realise that Uncle Ben is not naive. He has Operation Twist till year end to deal with new issuances. Only a simpleton will assume that Uncle Ben will always default via the printing presses. For now, they are not defaulting and shoring up government finances via the tax path – Bush tax cuts expiring and the 3.8% Obamacare tax are cases in point.

So we are likely heading for a period of stagflation on three driving forces – taxes driven by sovereign debts, food driven by weather, and energy driven by geopolitics. But don’t expect it to appear in the closely watched core-CPI numbers. Tax is excluded because it is a ‘necessity’, food and energy is excluded because it is not ‘core’.

On food driven by weather, since our piece on Jun 26 where we said wheat was set to explode, wheat prices had exploded from 724 to above 900 dollars and is now hovering at 865:

Guest Post : Ad Hoc Commentary – Wheat prices set to explode by Bernie

On energy driven by geopolitics, it is worth noting that the Muslim Brotherhood dictatorship had taken over Egypt. The West turned their backs on a dictator, who was a Western ally, to get a new dictator whose motives are generally a mystery for now. So much for democracy. The noose is quickly tightening on Israel. The West should be careful with Syria’s al-Assad. Many seem to have forgotten that the 1973 Arab-Israeli War was between Israel and a coalition of Arab states led by Egypt and Syria. Those in the markets care because 1973 coincided with the first oil spike of the 1970s.

Egypt’s New President Moves Against Democracy
“…Mohammed Morsi has given himself complete legislative and executive power, plus the right to select writers of a new constitution…”

Good luck in the markets.