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Five Things You Need to Know: Employment Report, Smells Like Yen Spirit, China Makes Like Archie Bell and the Drells and Does the Tighten Up, Same Difference?, Do My Eyes Deceive Me?


What you need to know (and what it means)!


Minyanville's daily Five Things You Need to Know to stay ahead of the pack on Wall Street:

1. Employment Report

Following the release of the ADP employment data earlier this week, and the ISM Manufacturing Employment Index yesterday, the consensus expectations for nonfarm payrolls heading into this morning's release seemed to be steadily ratcheting down by the minute. Worry warts. It needn't have been.

  • The change in nonfarm payrolls for December came in at 167,000 versus earlier consensus expectations of 100,000.
  • By this morning, just before the release, those expectations had largely fallen into the 80,000 range thanks to a bizarre print earlier this week courtesy of the ADP jobs report.
  • Further suggesting a potentially weak print, yesterday the ISM reported that its Manufacturing Employment Index fell 1.6% to 49.2.
  • And just like that, Bob's your uncle, the dollar crosses 84.50 and the early spring Fed rate cut hope disappears.

2. Smells Like Yen Spirit

"Load up on guns, bring your friends, it's fun to lose and to pretend"... the carry trade will never end. But you know what? There's apparently a chance, a small chance, the Bank of Japan will move ahead with plans to raise interest rates as soon as this month.

  • According to Bloomberg, newspaper reports from Japan suggested the Bank of Japan may raise borrowing costs this month, sooner than many expected.
  • The Nikkei English News on Jan. 3 quoted a BOJ official as saying higher rates would help sustain economic expansion, this two days after the Yomiuri newspaper said the bank may act as early as this month, Bloomberg said.
  • The BOJ has left rates unchanged at 0.25 percent since they were raised in July for the first time in nearly six years.
  • Recent economic data from Japan has opened the door to speculation (literally) that the BoJ may be forced to wait until this spring to try and raise rates again.
  • The yen fell 1.1% against the dollar last year and investors took great advantage of Japan's low interest rates to borrow in Yen and buy foreign assets, the so-called yen carry trade.

3. China Makes Like Archie Bell and the Drells and Does the Tighten Up

China's central bank raised the reserve requirement for commercial banks in a bid to stem a rising tide of liquidity in the banking system. In plain English, they "tightened up" to slow lending.

  • A bank's reserve requirement is the percentage of deposits they need to keep in hand, in this case deposited with the People's Bank of China.
  • Otherwise, the remainder of deposits above the reserve requirement may be loaned out to spur economic activity.
  • "Because of the continuous trade surplus there is a new increase in the already excessive liquidity in the banking system, (and) the pressure for lending to expand is relatively big," the central bank said in a statement on its website.
  • China is basically concerned about too much money flowing into the country and its financial system from overseas, pushing up domestic stocks, creating too much demand for credit, and putting upward pressure on the yuan.
  • This leads us to today's Number Four...

4. Same Difference?

So, what's the big deal, then? Doesn't this mean China is edging closer to what the U.S. would like - a rising currency - whether they like it or not?

  • The U.S. is happy to see the yuan rise, of course, and the widespread belief in this country is that China's estimated $1 trillion in reserves is due almost exclusively to China's $156 billion USD trade surplus thanks to a concerted effort to hold down the value of the yuan.
  • In Washington, the belief is that the trade deficit we are carrying with China has simply resulted in the U.S. exporting jobs.
  • A loss of jobs equals a loss of votes and the last thing anyone in Washington wants to lose is votes.
  • To get a somewhat different view of the trade deficit, we wanted to bring to your attention a piece in today's Wall Street Journal by Michael Spence, a senior fellow at the Hoover Institution and the Philip H. Knight professor emeritus of management in the Graduate School of Business at Stanford University.
  • According to Spence, there are essentially two motives for China's reserve accumulation (and for that matter, the many other countries accumulating forex reserves).
    - "One is to put the countries in a position to exercise some control over the exchange rate, and hence their competitive positions in global markets, exports and growth."
    - "The other is a kind of self-insurance, admittedly expensive, against having to borrow in periods of volatility or crisis, and weakness."
  • According to Spence, the U.S. position on China's trade surplus is politically driven and partly right, but partly incoherent.
  • The part that is right, he says, is that holding the yuan down removes pressure for the economy to evolve and keep up with development.
  • The part that is incoherent is the notion or belief that our overall trade deficit or our bilateral trade deficit with China is closely connected to China's policy of neutralizing the impact of the trade surplus and capital inflows.
  • The graceful way out of this, he says, is gradual: an increase in U.S. savings relative to investment, a reduction in savings relative to investment in China and Japan, a probable further lowering of the market-determined value of the dollar in the short and medium term.
  • And that, in our view, is precisely why we won't see any of the above... except for an increase in savings relative to investment in the U.S.... because it would be a "graceful" way out.

5. Do My Eyes Deceive Me?

Speaking of currencies, according to Merrill Lynch's Richard Bernstein, if we are looking at the fourth quarter rally in stocks then it appears our eyes may indeed be deceiving us.

  • According to Bernstein, many of the recent rallies in various asset classes are a form of "money illusion."
  • For example, the fourth quarter rally in U.S. stocks was almost entirely due to this kind of illusion.
  • Bernstein writes that when priced in Euros the Dow peaked in October and... you might want to sit down for this... was actually down in the fourth quarter.
  • The nearly 16% rise in the Dow last year was actually only about 4% priced in Euros, he notes.
  • Eh, so what, you might say. I get paid in dollars, I buy in dollars, so dollars are all I care about.
  • That misses the point, Bernstein notes. Each dollar you get paid in buys less and less as the currency declines.
  • Let's put it another way. Step back for a moment and think about this: when a currency declines so does one's standard of living.
  • Hmmm, rally don't taste so good now.
  • But no worries. Remember, we're bullish on the dollar in 2007.
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