The urge to buy rising prices – the euro move is a good example …
It is interesting how rising prices encourage us to buy and falling prices encourage us to sell when it comes to stocks and bonds and other financial assets. Yet it takes that opposite price action when it comes to consumer goods or chewing gum or beer (except for beer snobs such as JR) to motivate us to move. Trading financial assets seems to represent pure and simple reverse retailing markets. It is an adage as old as Wall Street.
I was talking about this with David Newman yesterday, as I manage a small amount of equity money for a family friend and his wife (taken on after they were crushed by their broker in the 2000 crash—70-year olds in all tech wasn’t a good idea it seems). He is 83 years old and she is in her early 70’s. Needless to say it is not the time for that investor profile to be taking chances, but rising prices continue to suck my friend in. He has been calling me a lot lately to ask why I don’t put more cash to work. He has come up with many new ideas for his portfolio (some good ideas in the mix as he is still quite sharp). I keep telling him at his age this is a game about hitting singles in the market with the primary goal of keeping what you have and generating income without stretching into junk for yield or swinging for the fences on crazy ideas.
The strategy of swinging for singles has worked just fine, granted we didn’t participate as we “should” have during the big run in the market last year in his portfolio, but we did fine given our objectives. But with the Dow approaching 12,000 he will have no more of it. He wants more of his cash invested. And he may be right. I don’t know.
This market may blow off to 15,000; heck why not Dow 36,000—I think that was a title of a book during the last boom in US stocks al la the e-Craze. But there are also a lot of reason why this market is due for a rest at least; and something much bigger at worse. Thus, I continue to stall and find reasons why just now “may not be the best time to invest that cash”—I tell my friend. This is in light of his real needs and risk profile, not in light of my ability to forecast the stock market. But maybe his optimism here is telling us something.
I share this to suggest we see the same phenomenon to a different degree in the currency markets. Granted, it is not the same because currencies are all relative. Effectively you cannot buy a currency without making a sell decision on the other side. But I think a good example rising prices bringing people into the market is the EURUSD pair.
It is no surprise to say rising prices crystallize and embolden rationales. They become more believable when price goes our way. We all have an urge to project our “rightness” on price when we get it right. I plead guilty. But I am also quite happy to get it right for the wrong reasons. I have watched this currency game long enough to know price action may be pure self-feeding money flow and have little to do with the underlying rationales stated as the reason for the move. In fact, we see this sequence play out most often near the end of a move—it makes sense.
This is the self-feeding aspect of price action we see in all markets. It just seems the rationales get much more skewed in currencies and maybe that is because there is another asset to always consider—it is all relative. Let’s quickly examine the euro rationales we think have led to a very nice move in EURUSD over the last couple of weeks [we don’t examine the bad news rationales for the dollar here, although we all know they are vast].
The rationales behind this move higher in EURUSD:
1) Chinese buying of bonds. Yes, this may be helpful, but it is not a lasting solution and doubtful we will see this sustained.
2) European Union working to improve the Stabilization Fund. Yes, this is also good news as it goes, but the question is: What are they really doing and will they do relative to the press releases that suggest Germany may step up to agree to more funding?
a. How much more funding? Some say the fund will be doubled. Well, if the problem was small, a doubling of the existing fund would be a big move. But the problem is very large so the doubling of the stabilization fund may not be enough.
b. Unsustainable lending rates from the stabilization fund. Even if the fund is doubled, as rumored, the question is will periphery countries benefit from it. Given the existing structure for pricing loans to borrowers, the rate at which the periphery would have to borrow is extraordinarily high and unsustainable.
3) Periphery countries will be given money to buy back their own debt. This is likely good as it goes, but considering again just how much debt these countries have outstanding, any buyback will be a drop in the bucket and will do little to lower their relative debt to GDP profiles.
4) European Central Bank to hike rates sooner rather than later. This is quite supportive of the euro, no doubt. Relative yield is a good thing for a currency. But, we don’t think it is politically viable to raise interest rates given incredible strains on most of the economies in Europe, with the exception of Germany. No doubt the ECB has been their first and foremost to establish a monetary policy to suit Germany, but this time the political fallout might be too overwhelming.
Maybe all the rationales will prove true. If so, the euro will likely carry much higher. For now, we aren’t biting. We think this move is almost over. [Key word in that sentence is “think.”]