t Shadow Capitalism
USD strength once again was the theme of the day in FX, as
MARKET COMMENTARY BY NAUFAL SANAULLAH
Thursday, November 11, 2010
Fireworks out of Ireland and Cisco drown G20 non-progress
Quiet day in dataflow today due to the Veteran’s Day holiday
in the US, but tech bellwether Cisco gave the market quite
the bomb to digest with its earnings conference call last
night, forecasting 3-5% YoY sales growth vs the 13%
consensus projections. The largest US provider of networking
solutions attributed the poor outlook on stifled government
spending, on both state and federal levels, introducing the
post-stimulus hangover effects into techspace. Across the
Pacific, Chinese data last night provided the other main driver
for today’s trading session, with misses in IP and retail sales
but strong beats in CPI and PPI. Risk sold off, however, on the
back of the Cisco numbers, although most selloffs were pared
by session close. Eurozone concerns continue to persist, with
10yr Irish yields now eyeing 9%, and the spillover into Spain,
Portugal, and Italy bond markets gaining traction. Contagion
risk is rising, as is acute credit event risk from Ireland,
particularly if overnight funding becomes tight or nonexistent
for Irish banks. Merkel’s proposed crisis resolution
mechanism involving haircuts for private bondholders on
debt issued in 2013 and beyond is providing some selling
pressure, but considering the timeframe, it appears likelier
that the real liquidations are resulting from solvency theses.
The S&P sold off four-tenths of a percent today, after gapping
down on the CSCO news and paring losses most of the day.
The 1200 level was once again tested and that level will
provide significant context for future direction. I will be
comfortable getting short equity on a break below 1200, due
to the extended nature of the current rally. However, POMOs
start again tomorrow, as per QE II, so it will be important to
see how far QE liquidity has been discounted.
DXY rallied back to the 78.35 level marking recent cycle highs.
Above this level it will be in range of challenging its 55d and
potentially beginning a new uptrend. A dip in the near-term
from current levels would probably be constructive, and set
up the potential for a head & shoulders breakout. EURUSD
was a big driver behind USD strength today, as it sold off yet
another big fig on continued periphery concerns. As
mentioned previously, the big difference about today was the
contagion risk that is spiking up, as Portuguese, Spanish, and
Italian bond yields spiked along with Ireland’s, while NOK HUF
and PLN sold off with EUR. A 700 pip selloff in a week does
not bode well for the euro going forward, and unless QE II
liquidity manages to keep USD depressed, interbank liquidity
could start tightening around the world (USD TWI and foreign
financial commercial paper outstanding have high inverse
correlations), exacerbating the concerns in Ireland. It is
important to point out that the acute risks out of Ireland are
not really pertaining to the sovereign sector—although there
are clearly sizable imbalances that need to be addressed, the
government is fully funded through next summer, unlike
Greece’s situation last spring; however, there is significant
acute risk in Irish banks, and their funding capacities are
going to be driving near-term fluctuations in the euro and
Eurozone yields.
AUDUSD sold off on the risk-off, USD-bid market today,
breaking back below the recent breakout through October
highs, trading south of parity again. Copper prices declining a
percent are not helping matters, but the unexpected rise in
Australia’s unemployment rate to 5.4% vs 5.0% expected
announced today added the real selling pressure. This comes
after a 5.3% MoM decline in the Westpac Consumer
Confidence Index, showing growth risks from hawkish policy
may finally be rising. Obviously the most significant
implication is in housing, where a 1.7x household
debt/disposable income and 1.4x mortgage debt/disposable
income characterize the housing bubble in Australia, where
the First Home Vendors Boost program has sent mortgage
debt/GDP to 0.87x, now higher than USA’s 2007 high of 0.83x
(also note that this is a GDP-adjusted ratio, discounting the
structural economic advantages Australia has over the US,
and still signifying blatant bubble risk). However, home loans
in September grew another 1.3%, above 1.0% estimates,
although this doesn’t take into account the 40-45bps hikes in
mortgage rates executed by Aussie banks in their quests to
remain competitive and keep margins high in response to the
RBA hike to 475bps earlier this month. Trough inflation has
clearly been hit in Australia and the hike cycle has a ways to
go, although perhaps not in the immediate future, and this is
going to put pressure on already-strained Australian
households. I went short AUDUSD on the technical
breakdown back through parity as well as on the selloff in
copper from the resistance level I pointed out in last night’s
piece. Though the property bubble will most likely begin its
decline in Q2 or Q3 2011, I see near-term pressure building in
AUD and if this translates into reflecting (or catalyzing)
longer-term imbalance liquidation, I will hold my short and
ride the wave down. Australia’s economy will probably not
enter acute crisis even if any of these scenarios play out, due
to its very strong structural properties, but its currency and
asset values could see drastic selloffs due to overvaluation.
Unlike the US, such a crisis most likely would not additionally
expose structural imbalances, considering Australia does not
seem to have many. The Australia-China relationship is also
pertinent to this discussion, on both sides of the causal
relation structure. China has also hit trough growth and
inflation and the PBoC will likely be hiking by next year, if not
this December, ending the strong infrastructure spending-
fueled boom in copper demand (and consequently prices),
much of which was satiated by Australian miners, whose
astronomical earnings provided ample liquidity inflows into
Australia. The shift in China’s political dynamics going forward
will put pressure on its own overvalued property sector, in
which apartments are typically sold unfurnished without even
basic electrical outputs as a result of being little more than a
speculative marketplace, which further dampens copper
demand and puts pressure on Australian exports. Although
inherently domestic catalysts may send Australian property
prices falling, the addition of the Chinese factor will
exacerbate the issue, perhaps causing a real free-fall.
Aside from the more sensationalist theses involving bubbles
and crashes galore, an interesting bit of data to note is the
recent surge in commercials positioning in cotton. Astute
readers may have noticed I went short cotton futures
yesterday and this was a big reason behind it. As presented in
the graphic below, merchant long-positioning in cotton
futures is now above 2008 highs, at the height of a
speculative-fueled boom that resulted in a crash. Unlike other
commodities I’ve been bullish on, like soybeans and wheat,
copper is an industrial (not food) commodity and much of the
price rise is due to the same Australian-Chinese industrial
complex driving copper prices so high. The Pakistani floods
also helped drive the move higher in the second half of 2010,
but obviously that was a nonrecurring non-trend event. As
Indian export shipments finish in December, the panic buying
from end-users hedging against surging prices may prove to
be the demand at the margin, in which case a sizable
correction would result. I’m not suggesting there is crash risk
in cotton, and in fact believe that it is in a strong bull market,
but a sharp correction along the way is what I’m playing and
current technicals are allowing me to dip my foot in the water
with a short, which has already generated an 11% mark-to-
market profit thus far.
Cotton Futures - Commercials Long Position
80000
70000
60000
50000
Contracts
40000
30000
20000
10000
0
2006 2007 2008 2009 2010
On a side note, readers will notice that I went long EURUSD
today, though I’m short the same pair as well as several other
euro crosses. After the multiple 400+ pip in-the-blacks in the
PnL, and after EURXXX crosses falling sharply to near-term
support levels concurrent to USD perhaps approaching a
near-term correction, I wanted to hedge a bit of downside (in
this case upside) risk and lock in some gains by going long a
bit of EURUSD and reassessing in the next week or two
whether to sell the hedge and hold my core positions or take
profits on the core positions and have a great entry on the
near-term reversal in euro, as the Eurozone debt concerns
play out and QE II begins. I’m putting my EURUSD long stop
level at the 55d (extrapolated using current dP/dt to 21 days
and subsequently subtracting a buffer level for intrasession
volatility) and consider it a discrete, separate position from
my short in the same pair.
OPEN TRADES
Short X | 47.30 | stop 49.25 | -1.05%
Short AKS | 13.90 | stop 14.25 | +2.66%
Short ACOR | 28.00 | stop 28.70 | +1.00%
Short AAPL | 321.00 | stop 330.00 | +1.36%
Long PTR | 130.35 | stop 124.20 | +4.60%
Short /HG | 4.06 | stop 4.15 | +1.97%
Long /CL | 87.33 | stop 85.40 | -0.84%
Short /CT | 151.50 | stop 160.35 | +10.96%
CLOSED TRADES
Long ELP | 24.26 | close 24.22 | -0.16%
Long /NG | 4.05 | sell 3.83 | -5.43%
NEW TRADES
Short AUDUSD | 0.9980 | stop 1.0075
Long EURUSD | 1.3625 | stop 1.3530

Short APOL | 51.90 | stop 54.00 | +29.42%

Long TBT | 32.65 | stop 31.80 | +11.66%
Short /ZB | 133’24 | stop 135’15 | +5’00
Long AMZN | 159.10 | stop 152.00 | +7.08%
Long VECO | 39.00 | stop 36.30 | +12.27%
Long YHOO | 15.65 | stop 15.35 | +7.38%
Long USD/JPY | 80.75 | stop 79.85 | +165 pips
Long ACAS | 6.67 | stop 6.25 | +10.05%
Long MSFT | 25.20 | stop 24.85 | +5.55%
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DISCLAIMER: Nothing contained anywhere in this commentary, including
analysis and trade ideas, constitutes or should be construed as investing or
financial advice, suggestion, or recommendation. Please consult a financial
professional and do due diligence before engaging in any purchase or sale of
securities.

Long GRA | 30.04 | stop 29.80 | +13.15%

Long F | 14.25 | stop 13.85 | +16.55%
Short EUR/NZD | 1.8370 | stop 1.8650 | +900 pips
Short GBP/NZD | 2.0885 | stop 2.1900 | +235 pips
Long CAD/JPY | 79.60 | stop 78.55 | +240 pips
Short PWER | 10.58 | stop 11.40 | +15.50%
Short EUR/CHF | 1.3725 | stop 1.3910 | +405 pips
Long BRKR | 14.80 | stop 14.45 | +3.92%
Long AIG | 43.49 | stop 41.00 | -2.25%
Short BP | 42.40 | stop 44.80 | -1.91%
Long MUR | 66.01 | stop 62.90 | +3.71%
Long CEO | 226.96 | stop 210.55 | +2.03%
Long MXN/JPY | 6.600 | stop 6.450 | +110 pips
Short EUR/USD | 1.4170 | stop 1.4275 | +570 pips
Short EUR/CAD | 1.4145 | stop 1.4205 | +445pips
Short EUR/AUD | 1.3995 | stop 1.4105 | +325 pips
Short EUR/NOK | 8.120 | stop 8.180 | +20 pips
Short QQQQ | 53.60 | stop 54.40 | +0.41%
Long USD/HUF | 195.45 | stop 192.70 | +80 pips
Short SPG | 106.45 | stop 110.10 | +4.69%
Long NTES | 41.40 | stop 39.40 | -1.96%
Short NZD/USD | 0.7820 | stop 0.8005 | +40 pips
Long /ZS | 1286.55 | stop 1267.00 | +1.20%