Charting around Asia
by John Needham, The Daniel Code Report | March 4, 2008
PrintAsian markets continue to mirror global denial that the days of the “Goldilocks” economy are over. At one end of the world we have the great Australian myth that “China will save us”. This refers to the giant wealth creation in the Australian mining sector which, much of it via Japan has fed the China infrastructure growth story. National Australia Bank Chief John Stewart acknowledged Australia’s reliance on Asian markets when The Australian Newspaper reported his comments this week:
“One of his worries was the terms of trade changing sometime in the future. If it happened, resource prices would fall and that would mean lower taxation levels going to the government. "A lot of the small to medium enterprises living off the resource boom (would be) doing less business and we will then wake up one morning to find corporate Australia, together with consumer Australia, mortgaged up to the eyeballs. I don't see it happening any time soon but it would be nice if it didn't happen at all,"
Hope springeth eternal!
Half way around the world Asia hopes for continued strength from the US consumer to continue to fuel the modern China miracle until economic maturity brings their people into the “modern” world of consumerism, baubles, trinkets, toys and everything else of bad taste and doubtful value from the west as it has done in Japan, Korea and Taiwan post war. Beijing is already well on the road.
In US consumers faced with much higher costs of and newly limited availability of credit wonder only how the government is going to maintain the unlimited supplies of fiscal and consumer liquidity that has fueled the western consumer boom of the past decade.
Hope based on a realistic assessment of the probabilities and the achievement of a worthwhile aim is one of man’s endearing qualities. It is a real and valid emotion. Hope merely because the alternative is painful and has unpalatable consequences is a mean and spurious emotion. It is the latter that is now being foisted on Asia which will bear much of the consequences of the more recent excesses of the global financial alchemists. Today HSBC announced a further $17 billion in credit impairment directly related to the US housing boom which is an adjunct to the ultimate consumer society, the “have it now” mentality proposed, polished and launched by ten thousand advertising campaigns and a media, like all modern business focused only on this quarter’s figures.
History tells us that the last to disclose their losses will be the Asian banker. So far we have seen UK, Europe and Australia confessing that they were end players to the US investment banking game. Is it credible that these operators tickled a mere $12 billion out of the giant Japanese banks? And what about China; were they inoculated against the falsely rated bond disease? There is more to come.
A macro view of the present credit problems is that it really isn’t a global problem. It may be a huge problem for investors holding the toxic paper but it seems that much of these bonds have been housed in off balance sheet structures of banks and investment banks. Eventually those losses will be disclosed and realized though we can expect different cultures to have differing time frames on the disclosure timetable. Even though the undisclosed losses are massive and in the order of $300-400 billion, that of itself is not the problem. Sure, there will be headlines and extravagant news stories but capital will be replaced by central banks into the banking system by endlessly extended repos against ever poorer classes of paper and the historic wealth transfer from oil consumers to oil producers is already starting to flow back to the capital light financiers as Sovereign Wealth Funds, the principal beneficiaries of long term elevated pricing levels in oil recycle that money into equity positions in the banks and financiers who got stuck with the spuriously rated asset backed bonds.
The real problem is that much of the profits generated in the Goldilocks economy were notional at best. Goldilocks it seems was a bottle blonde! In the endless repackaging of the many classes of bonds that have supposedly earned such spectacular profits for marketers and investors, the common denominator is that these issues did not trade on regulated markets. Regulators from Maestro Greenspan on down were seduced with the notion that the financial engineering that created these instruments was good, progressive and served to diversify risk. Since no one knew then or now what the true extent of these instruments were and how the counterparties would stand up, it is hard to see how a realistic judgment could be made, but certainly no regulator showed any concern until the walls started crumbling.
One way to view the carnage in the more esoteric credit markets, CDOs, CP, SIVs and all those other groups of initials is to say that present capital losses (when disclosed and realistically priced) are the sum of notional profits previously assessed and realized. Put simply, banker/investor X buys an asset backed bond. In that bond there is a mixture of mortgage backed securities, corporate bonds, some debt insurance masquerading as a financial instrument such as CDOs and other bits and pieces. The various packages of debt, because that is what they are, have different covenants, differing rates and differing terms. The black magic of financial engineering makes this bond that is wrapped around the debt impossible to value in the conventional way. There is no organized market for them, each is different and there is no realistic assessment of the capacity to pay by those entities on the other side of the transaction. This is solved from a marketing perspective by having one of the major rating entities assign an investment class debt rating to the instrument and that is what the purchaser relies on together with in some cases a limited buy back warranty from the vendor which may or may not be enforceable.
The key point is the valuation method is “mark to model” in other words the security is worth what the marketer/packager says it is. Now we know that many of the assumptions in the model were overly optimistic but the point of this argument is that massive, indeed record profits accrued from the notional gain in the worth of this paper. Add some serious gearing and you get real money out of the machine. Those notional profits have been realized in the sense that they have been booked to account year after year, borrowed against in the form of debt or new share issues and the largess distributed and gone. The total value of those contrived profits which were only really generated in a computer’s hard disc will exactly equal the capital losses that will eventually be realized. It follows that if most of the fiscal engineering was bogus and that party is now over, what is going to replace that notional profit on the P&L of the mainly US businesses who have been the principal beneficiaries?
To put the whole package into perspective, US GDP was estimated to have increased 4.9 percent, or $649.1 billion, in 2007 (source BEA) so the total degraded credit issue globally is only 70% of a single year’s increase in the GDP of US alone which is about 19% of global GDP. However if my view is right the hit on future profits in the paper shuffling sector will be significant.
In my story for Financial Sense on Friday (see my archives on the FSO main page or at the Danielcode website) I told you how the NZ and Australian credit markets were suddenly deteriorating. As if on cue Australia’s benchmark S&P/ASX200 index dived 3% on Monday to 5,405.8.
"It's all due to fears of a recession in the U.S.," said Comm Sec chief equities economist Craig James in Sydney, Australia.
Apart from the odd headline day Australian markets are actually holding up very well considering how overvalued they are. The Reserve Bank of Australia continued its flirtation with the very policy Paul Volker warned about and today raised official interest rates a quarter of a point but they are still only at 7.25% well below any consumer pain threshold. The market yawned in response.
On the SPI chart below I have put the primary Danielcode targets in mid blue and the targets from the first reaction high (the high after the high) in navy blue. The interesting point in many of the Asian markets is that some of them are correcting their primary swing whilst others are tracking the Daniel numbers off the reaction swing. This usually happens in 3 wave corrections so implying a higher degree of market optimism. Australia is in the optimistic camp as usual but they will soon be proven wrong.
Associated Press reported from SEOUL, South Korea (AP) -- Most Asian markets tumbled Monday as investors reacted nervously to a steep decline on Wall Street Friday after disappointing economic and corporate news renewed worries about a U.S. recession. This market too is in the optimism camp and has barely matched its initial reaction in its trip to the February low. The next leg down is targeted towards 1416.
Japan's benchmark Nikkei 225 index plunged 4.5 percent to close at 12,992.18 on Monday. The Nikkei has held for 7 weeks at the 13000 level where there are 2 degrees of Daniel number sequence support. A break of this level will likely see a fast move to 11958.
Shares in China remain in a strong position. The retracement has been modest and the past fortnight has seen a good attempt at a rally from right at its Daniel number. The ongoing strength of this rally will give a good clue to the next quarter’s price action. Perhaps China’s banks were inoculated against the credit dramas after all!
The dollar's drop to a three-year low against the yen also weighed on sentiment in Tokyo as dollar weakness erodes overseas earnings at Japan's exporters. The dollar fell as low as 102.59 yen, its lowest in more than three years and down from 103.96 yen late Friday in New York. The chart below is the US Dollar index which is right at intermediate degree Daniel number support. Stronger targets lie below.
Hong Kong’s Hang Seng index has been rallying since 22 January. Pessimism returned Monday, sending Hong Kong's Hang Seng index sliding 3.1 percent to close at 23,584.97 but that still maintains price within the existing trading range. The Hang Seng is corrected its major swing so the longer it can hold its present range the stronger it will be. This is a daily chart below.
"The biggest economy in the world is mired in recession and everybody suffers," said Fulbright Securities in Hong Kong, summing up regional feelings.
The Taiwan index is the strongest of the Asian markets and is mounting a determined rally. The black line is 50% of the major range.
Meanwhile Gold and Silver continued their roaring bull markets. This chart is from www.thedanielcode.com which has successfully picked every turn in gold this year with the biggest variance from target being just 1.7 points.
The following chart is Silver. There is considerable congestion in the Daniel targets at this price level and immediately above. This is a futures chart which suffers from fluctuating premium but the targets are from different price structures and the congestion is meaningful.
CAUTION-The Daniel numbers on these charts are from historic sequences that may not be current at the time of publication. They are appended for historic interest only. Do NOT use these numbers to trade markets. Current Daniel sequence numbers for most currency crosses are available to subscribers at the Danielcode website.
Copyright © 2008 John Needham
Asia Editorial Archive
John Needham is a Sydney Lawyer and Financial Consultant. He publishes The Danielcode Report and writes occasionally on other markets. He lives with his family in Australia and New Zealand.
“The fox knows many things, but the hedgehog knows one big thing. A Hedgehog Concept is not a goal, intention or strategy to be the best. It is an understanding of what you can be best at. The distinction is absolutely crucial”. ~ Isaiah Berlin, The Hedgehog and the Fox
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John Needham | The Danielcode Report | Taupo, New Zealand | Email | Website
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