Saving the Financials

Today’s guest post comes to us via Macro Man — a portfolio manager at a London-based hedge fund, he trades global currencies, equities, fixed income, and commodities. Over a long and varied career, Macro Man has been an international economist, a sell-side currency strategist, and a currency options market-maker.

His topic? Saving the Financials.



Plus ca change, plus c’est la meme chose.  Given the ongoing travails of the financials, particularly the Agencies, it’s tempting to simply re-issue this post from early last month.  However, there are a few fresh developments in the never-ending saga of financial institution distress that merit comment.

Most notable of these is the Fed’s decision to import monetary policy from China, which in some ways is a welcome change from standard operating procedure.   Although the PBOC has hitched its wagon to the Federal Reserve in terms of setting the level of the Chinese currency and interest rates, regular China watchers will know that credit there is allocated largely by administrative diktat rather than supply and demand.

Apparently, the Fed has adopted the same model, at least if the Wall Street Journal is to be believed.  That the Fed has given CS a "nudge, nudge, wink wink" hint that they should continue to trade with Lehman isn’t particularly surprising, and in many ways is justified as a pragmatic measure to avoid systemic risk.

But it seems fairly obvious that some well-known financial institutions that currently exist will, at some point in the not too distant future, cease to do so, at least in their current guise.   One would hope that there are more comprehensive policy prescriptions in place than "gee, it would really be swell if you didn’t pull their line" moral suasion should such an outcome arise.   On current form, however, there don’t appear to be any.

In that vein, your humble scribe is pleased to offer the "Macro Man Plan to Ensure That People Keep Trading With Institution X".    While some of his suggestions may seem outlandish, please bear in mind that his recent modest proposal to reduce the US government funding gap appears to have resonated with the Governor of New York.

At the heart of the Macro Man Plan is that financial institutions adopt the incentive programs offered by other service industries such as retailers and minor league baseball.   To encourage ongoing business relationships, banks and agencies (and maybe even the odd hedge fund or two) should offer the following suite of incentives to potential counterparties:

1) Loyalty cards.  In a scheme familiar to supermarket shoppers around the world, counterparties would be issued with loyalty cards and accrue bonus points for each transaction that they conduct.    Once certain thresholds are reached, these could be redeemed for goods at the bank’s affiliate partners, such as Amazon, Tesco, Wal-Mart, etc.   In exchange, these latter firms would receive free investment banking advice.

2) Buy one, get one free!   Lehman, Merrill, Fannie and Freddie:  maybe you could sell more (or, more to the point, any)  of your RMBS portfolio if you offered potential counterparties a "buy one, get one free" deal.  Think about it……

3) Free oil!  For every ticket that generates more than $250k worth of VAR, offer counterparties one free barrel of oil.  When your £170,000 sports car only gets 11 mpg, every little helps….

4)  A free T-shirt with every ticket!    Every time you trade with bank X, they send you a free T-shirt!  In fairness, this would really only appeal to very junior traders fresh out of university, but hey; we at Macro Man Industries want to cover every demographic.

5) 1000 free shares of stock with every trade!  Every time you trade with Bank X, they’ll give you 1000 shares of their stock absolutely free!  You win by getting free stock, they win because the infinitesimal revenue that they book from each trade will labeled as "new capital" on the balance sheet, and they can announce to the world that they have raised yet more capital from eager investors.    Of course, if the stock price goes down, then you incur a mark-to-market loss.    On second thought, maybe they should offer free puts on 1000 shares with every ticket….

Elsewhere,  a brief follow-up to yesterday’s post.  One of the things that Macro Man does in his real job is to run indicators that attempt to determine which fundamental themes are driving currencies at any point in time (don’t ask, he’s not going to be more specific than that.)  And what’s interesting about the recent dollar move is that none of the  fundamental themes that traditionally drive exchange rates has been in play during this dollar move.

This morning he quantified this into a combined "thematic strength" indicator, wherein a high reading indicates that currency markets are trading very thematically, and a low reading suggests that so-called fundamentals are not driving FX.

And what we can observe is that this is the least thematic market since the summer of 2003.  It appears to have been micro (idiosyncratic decisions and/or momentum), rather than macro, that has driven the recent dollar rally.   So if you’ve struggled to understand why the buck is up, don’t worry; it’s taken a lot of people by surprise.

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  1. Bruce commented on Aug 25

    I couldn’t help but notice that Morgan Stanley has taken their forecast for the S and P 500 down 7% over the weekend to 1300 for the end of the year..since it closed Friday at 1292…one might think that the investment banks are finally getting the big picture too….maybe they are factoring in weakness in the investment banks!

    Bruce in Tennessee

  2. rww commented on Aug 25

    With the ongoing destruction of credit, why is it surprising that the dollar is up?

  3. Philippe commented on Aug 25

    August 23rd was giving a chance to either watch the closing of the Olympic Games or the closing of the Central Banks governors meeting in Jackson hole.
    Both are of Greek inspiration Epidomene was represented at J.H but the hydre of Lerne was overwhelming to the extent that when addressing a Central Bank representative one does not know to whom he is speaking, the economist head is answering to the Bankers and the head of the Banks supervision to the economist.
    At the end of the meeting everyone seems to agree that the best course is to wait for Heracles and the cleaning of of Augias stable.

  4. Thomas commented on Aug 25


    I’m not sure how you are determining what factors to use to model whether fundamentals are driving currency movements in the US dollar at any given point in time.

    But perhaps you need to change your model assumptions because clearly the growing realization that a major recession in both Europe and Asia is imminent.

    And the reality that said recession will cause a major easing in monetary policy in these regions going forward is what is driving the current appreciation of the dollar.

  5. MelH commented on Aug 25

    Is macro man suggesting that bucky has PPT backing?

  6. scorpio commented on Aug 25

    i think the US $, and currency markets genly, not as big as people think they are, ie subj to same traps, momentum as stocks, bonds, commodities w hedge funds as big as they are.

  7. Bill commented on Aug 25

    The stats just released show home that sales rose a little but prices plunged . At some point no credit, no buyers , prices plunging faster the a collapse ( capitulation ) ?

  8. bdg123 commented on Aug 25

    Given all of the trade in the world for an entire year is conducted in a single day of the currency market, I’d like to know “what fundamentals” he is talking about. The currency markets are the source of more speculation than any other market on earth. So, contrarily, what has happened from 2003 until recently is not that the market was trading on fundamentals as you seem to intimate, but that it was trading on massive speculation. Now, speculator control over the markets is waining. And, now the dollar is trading more on fundamentals. Which, btw, is the reason why I have been saying for years that the dollar would rally when the global economy hits the skids. And, indeed it is.

    The dollar gaining strength is based on fundamentals and very strong ones at that. Trying to assign it to government intervention or other forms of manipulation is a losing position espoused by those whose understanding of market dynamics were wrong. It’s a nice crutch to blame it on conspiracy.

  9. Stuart commented on Aug 25

    ” The dollar gaining strength is based on fundamentals and very strong ones at that. ”

    Sounds like someone’s been sippin’ a bit too much jungle juice/aka kool aid. The only fundamental that has saved the buck from a lower level is an endless supply of proof that we can lie better than they can. The buck’s bounce was purely technical momentum, faciliated with a little help from the SEC forcing a short squeeze in the financials. If you call that fundamental based, please don’t visit wikipedia.

  10. bdg123 commented on Aug 25

    Ah, Stuart, people will defend their positions at risk of great harm. It is more important to the right than to make money. So, rather than admit you might be wrong, you will defend your position at great cost. I bet you are a great investor. Your remarks validate that I will continue to have a means by which to make a living indefinitely. You reinforce my faith in reality . I didn’t say fundamentals had anything to do with a positive US economy.

    Btw, Barry, one reason why I enjoy your blog is that you never restrict the flow of information.

  11. Stuart commented on Aug 25

    Then please by all means, list the very strong fundamentals. btw, fortunes were made by many shorting the BKX, XLF members…..

  12. bdg123 commented on Aug 25

    That’s marvelous. I was bearish on financials three years ago. Were you? What does that have to do with the dollar?

  13. Stuart commented on Aug 25

    Say good night sunshine. Go tie it into your own comments, no one is going to do it for you.

  14. Uno commented on Aug 25

    Could the dollar appreciation have a political fundamental aspect to it, that many models never care to factor in (hint hint U.S. elections coming and massive amount of foreign lobbying going on by politicians).

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