China & The Dollar

[NoTalent]

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Yes, but somebody eventually ends up holding those crappy loans. You think its a coincidence that Fannie Mae suddenly reports $10 Billion in derivative losses from "hedging" (that they tried to sweep under the rug)and are experiencing massive liquidity problems (they cut their dividend and skipped executive bonuses this year)?

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I think we are in agreement here. I don't think it is a good thing at all and the people who invest in these are going to get hurt. It's hard to tell how many companies have their fingers in these MBS's.

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Bottom line: get your money out of the US pronto. Smart money like Buffett, Soros, Gates are already long gone.

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I've heard people say this a lot--but how would you recommend someone going about this? Do you just directly buy other currencies? Or some sort of funds that invest in others?

[laserboy]

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I've heard people say this a lot--but how would you recommend someone going about this? Do you just directly buy other currencies? Or some sort of funds that invest in others?

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The most investor friendly way to go about it would be to invest in international bond funds. A number of currencies offer much more attractive macroeconomic prospects while still offering higher interest rates. Brazil, for instance, offers 20%+ interest rates and has a kickass central banker.

Brazillian Real vs. US Dollar

Also Asian currencies may rise under the logic that their central banks no longer be forced to artificially devalue their currencies to stay competitive with Chinese imports.

Another strategy would be to buy commodities or commodity producers in anticipation of foreign countries increasing consumption and investing their reserves in gold or oil rather than declining dollars.

Or you could invest in foreign companies or ETF's under the logic that globalization will ultimately transfer wealth out of the hands of debtor nations like the US and into the hands of emerging creditor nations like China, India, and Brazil.

I recommend the book 3 Billion New Capitalists by Clyde Prestowitz if you are interested in this topic, though its not really an investment book.

[Sniper]

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in trouble when the rates go up.

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The fed has been raising rates and no significant upsurge in "trouble" has occurred.

[Sniper]

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Another issue is loan originators pretty much are risk free. They approve anyone who walks through a door--take their 0.2-0.4% of the loan and then sell it to someone else (who bundles it up with other loans and then sells it to investors). I wish I could have gotten in on that

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You Can!!!

Take a look at NLY

[thuja]

China had a competitive advantage by artificially pegging its currency to the US dollar, its major trading partner. By not allowing it's currency to appreciate in the open market due to its high level of ecomonic growth, China became the low cost global manufacturing source. The revaluation of China's currency will slow its growth, by making it's exports more expensive. One possible side effect would be curtailing increased Chinese demand for oil.

What effect this will have on the US dollar remains to be seen. In the US gov't has been pushing China really hard behind the scenes to brake the currency peg.

As stated above the US currency has enough major issues of its own already: the current account deficit, the budget deficit, and the real estate asset bubble (Greenspan's legacy). The only thing needed to send the US currency into a freefall right now, would be if foreign investors on masse decided to stop refinacing the current account deficit through their ongoing purchases of US government securities.

US citizens should think seriously about protecting their personal wealth in the event of a drop in the US dollar. Think about diversification to reduce your risk exposure. If all your wealth is in the US, your portfolio is not divirsified.

Look at holding some other currencies such as the Euro, or holding stock of foreign companies. Gold is always an excellent hedge against currency depreciation. Gold tends to retain its value in crisises in real dollar terms. Oil also has intrinsic value as a desired global commodity. Oil is also good for diversification as it's commodity price is inversly co-related to the US stock exchanges.

How much you diversify depends on what probablity you assign to the US currency having a major devaluation in the medium term, but I would think at least 10% of your portfolio should non US dollar demoninated.

[Dan Mezick]

Asian ETFs may benefit immediately from this play by China.
See them here.

[Dan Mezick]

Good post.

You mentioned Treasuries. China will now need to purchase FEWER of these; this will have an upward effect on USA rates.

Also, the play here by China makes it easy for them to purchase stuff here (read: shares of energy and natural resource companies) and makes their merchandise more expensive here for US (WALMART) consumers.

One way to benefit is to consider shares in Asian ETFs which may be direct beneficiaries of the new imbalances created by gettnig rid of the dollar peg.

See EWS, EWM, EWY, EWA.

Short WALMART, long Asain ETFs sounds like the right idea.

[adios]

Your logic is right if the Chineese really turn their currecy loose which I doubt seriously for many reasons. The WSJ had a good article on the front page today about the new policy. From the article:

China's central bank had for years bought enough dollars to keep the yuan pegged at about 8.28 to a U.S. dollar. In yesterday's move, it let the currency appreciate to 8.11 yuan to a dollar. Now China will limit the yuan's move each day to plus or minus 0.3% against the dollar. It will also allow the yuan to move by a degree it didn't specify against a handful of other currencies independent of its moves against the dollar. The government isn't saying the currency will move every day, or how much it will move over time.

Details of the basket setup will apparently be kept secret, since Beijing didn't say which currencies will be included. At the onset, the U.S. dollar is likely to remain most important. While it isn't clear just how much further China will allow its currency to appreciate, some economists see yesterday's decision as the start of a gradual move up in the yuan. J.P. Morgan Chase predicted the yuan will gain a further 5% by year-end.

Bond market rallied today. A perspective from a trader I respect:

1) China still depends on selling Wal Mart et al alot of crap .......... they can't really afford to have the USD collapse on them and i suspect folks realized that today as well as fact no currencies or %'s in that basket the Chines will peg to were ever ID'd meaning it could be very heavy weighted to USD .........

2) China owns billions in US Treasuries and MBS bonds ........ hurting the USD and driving rates higher in USA would be financial suicide for that position .

3) USA export to China ? ....... maybe lawyers and stockbrokers ? .......... i'm questionable that at the margin , a weaker dollar / stronger Yuan makes alot of American made stuff cheaper than Chinese made stuff ......

4) a stronger Yuan makes oil/copper/steel/etc that much cheaper ........ also makes US companies cheaper too ......... this part of the analysis strikes me as spot on and in part i suspect today why commodities doing OK

[adios]

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You think its a coincidence that Fannie Mae suddenly reports $10 Billion in derivative losses from "hedging" (that they tried to sweep under the rug)and are experiencing massive liquidity problems (they cut their dividend and skipped executive bonuses this year)?

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This was offset by gains in the underlying assets that were being hedged for the most part. My understanding is that the losses on the derivatives were not reported on the income statement originally because Fannie Mae stated that the hedge complied with FASB rules where the derivative losses need not be reported on the income statement if the hedge has a 92 percent or greater correlation to price movements in the underlying assets in the opposite direction. Upon further review the derivatives did not meet the 92% criteria and thus the losses in the derivatives were recognized on the income statement as the increase in the underlying assets were not for obvious reasons.

The real problems with Fannie Mae are these IMO:

1) The debt-to-equity ratio is too high (up to the moon) for many people's taste when their is an implied government bail out if problems arise. I believe that Fannie has had to reduce their debt-to-equity ratio. And this does have an impact on earnings.

2) An unclear strategy in employing derivatives to synthetically match the duration of the loans they make with the funding of those loans. Note that this is a different strategy than many other lenders employ.

Liquidity in the mortgage market is mostly due to the securitization of loans where investors can buy bonds and such that are backed by mortgages. As I've stated before I trust the ratings of MBS by the agencies more than I trust the ratings on corporates.

[laserboy]

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Liquidity in the mortgage market is mostly due to the securitization of loans where investors can buy bonds and such that are backed by mortgages. As I've stated before I trust the ratings of MBS by the agencies more than I trust the ratings on corporates.

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In my opinion, the agency ratings are a sham. Why do Fannie Mae bonds carry the highest investment grade when, as you said, their debt to equity ratio is so high and they are having so much trouble maintaining their already absurdly low reserve requirements? That is hardly worth whatever paltry rate they are offering. They should be in the junk heap with Ford and GM.