Friday, November 30, 2007

LIQUIDITY WATCH. HALF EMPTY OR HALF FULL?
. Federal Reserve: "Factors Affecting Reserve Balances", November 28

- Fed's Treasuries holdings: $793.8bn (+$0.9bn)
- Other central banks' Treasuries holdings: $1,225.3bn (+$2.0bn) (*)
- Other central banks' agency securities: $806.2 (+$3.7bn) (*)
- Global Dollar Liquidity Measure: $2,825.3bn (+$6.6bn)

(*) Off-balance-sheet items
agustin_mackinlay@yahoo.com
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[1] Weekly Fed balance sheet watch: half empty or half full? In terms of the Global Dollar Liquidity measure, the month of November is now officially the second weakest of the year. As Peter Garnham puts it in today's FT, "the monthly increase [in Chineses foreign exchange reserves] represented the smallest rise since September 2006". Is the glass half empty, as I suggested last week? Or is it half full, as the Citigroup-ADIA and Fortis-Ping An deals indicate? In other words, is the slowing pace of foreign CBs reserve accumulation indicating growing interest in stocks and acquisitions? Or is it —rather onimously— a sign of flight-to-quality dollar-buying within emerging economies? To look for clues, quantity indicators (such as monetary aggregates) will be pretty useless here. Market-based indicators should provide the answers. See below...

[2] Market-based indicators: encouraging news — but still in a range. Our Endogenous Liquidity Index surged 8.5% over the last three trading sessions, spurred mostly by the shyness of the VIX and by improving junk bond spreads. Even more encouraging, ten year-inflation breakevens have once again fallen sharply (232 bps), suggesting the likelihood of further rate cuts from the Fed. Meanwhile, the platinum-gold ratio is holding well in the midst of the precious metals sell-off. When valued against this market-based "Goldilocks-Stagflation" indicator, a 1525 target for the S&P500 looks possible. Beyond that, caution should prevail: surging Moody's Baa spreads are telling us in no uncertain terms that corporate earnings are increasingly at risk.

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