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Of Mice and Cheese


No more Fendi!


"Get in your mouse, and drive away!"

-Uncle Buck

Good morning and welcome back to the slippery track. It's been a full month since the upside rebound but supply has emerged as we grope fertile ground. With fresh '04 highs a short rally away, the bears have dug in and have something to say. "We're not gonna lay down without a fight," said Boo to his crew with all of his might, "the bulls seem assured that the future is bright but the action of late isn't feeling quite right!" Can Hoofy emerge for one final surge or will the ursine finally fulfill their urge? We'll know soon enough as we shake off the jitters and ready anew for a dance with the critters!

There are a lot of moving parts in the market right now but the debt fret is center stage. With the fixed income clique up to their eyeballs in exposure and obvious dandruff flakin' from the 10-year chart, the collective focus has shifted towards the specter of higher rates and the attendant implications. Unfortunately, the connect-the-dots that is our macro environment isn't a linear assessment and therein lies the art to the trading science.

Taking a step back and a deep breath, the broader implications are somewhat intuitive. A weaker dollar makes U.S. investments less attractive to foreigners and weakens demand for our debt (leading to higher rates). We've had this conversation before and the fact that it found its way onto the front page of the Money & Investing section of the WSJ will likely crowd the discussion further. You know the debate--Hoofy is ready to accept higher rates as a function of a stronger economy while Boo thinks the consumer (tied to their home with ARMS) will be royally screwed.

From my humble perch, I would assign a one in four chance that deflation unexpectedly emerges. The only way that can happen, in my view, is if China stumbles hard and/or Elmer closes the greenback spigot. That would damper demand for (pick an asset) and slowly pffffft! the bevy of emerging echo-bubbles that are littering our landscape. Not coincidently, that is also the only scenario that I can envision where the metals give back their gains and trap the newbie jitter bugs.

The higher probability, in my assessment, is that the evolving dynamic continues to proliferate (albeit not in a straight line). Liquidity is a bull's best friend and that thought isn't lost on our friends on the Beltway. They seem resigned to a weaker dollar as the least of many evils and despite their public persona. The verdict, however, won't be a domestic decision and that brings us full circle to our two-fold dilemma. At what point do foreigners implement protective policies and, more importantly, when will that tip stateside pscyhology to reflect the potential implications?

This likely isn't today's business but it's certainly something to monitor as we race towards the fourth quarter letters. Portfolio managers have been conditioned to ride the tide and ignore the slide (that's been the profitable path as supply has felt obligatory and unmotivated). Still, the accepted agenda has pushed volatility and sentiment to lopsided levels and traders are more focused on the degree of the rally rather than the balance of a probability spectrum. Disicpline remains a trader's best friend and balance may prove to be our greatest ally.

Good luck today.


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