THE DIVE & the modest recovery - buying opportunity or a brief calm in the storm?
If your like me it was a bit confusing trying to figure out just what happend in late February. If anything it speaks to the herd mentality that seems to pervade Wall Street. Maybe its made a bit more "herd" like by automated trading. As best as I can see it, the sell-off began in Hong Kong when it was believed that the Government was about to begin cracking down on higher risk forms of investment. As the world turns so did the wave of selling. First in Europe then on Wall Street. Next came the denial by the Chinese Government - no crack down. Then came more explanations and everyones hero - Alan Greenspan - uttered the "R" word (even if qualified with "one-third chance"). Gentle Ben (Bernanke that is) then calmed things down with his reassuring words on the good feelings he had on the world economy. However, the rumblings continue to be felt, i.e. a certain uneasiness about the possibility of recession.
Why is that? Have corporate profits leveled off as Alan says they have? Is rising employment going to create a labor shortage thus pushing up wages? These two factors are believed by some to have been the catalyst of the internet bubble....ever rising wages further eatting into tight corporate profits made even more tight by increasing global competition and the inability of the New Economy to create the constantly increasing efficiencies needed to keep apace of rising wages.
If your like me I believe the sell-off was an anomaly and thus an opportunity to buy stocks on the cheap. If the modest recovery we've enjoyed is tell tale then the majority of investors seem to agree. However, there are alot of experts out there issuing warnings and being generally wary. (see one of my favorite columnists BUTTONWOOD in The Economist -http://www.economist.com/finance/displaystory.cfm?story_id=8829603)
CARRY TRADING
The rise of the yen relative to the dollar has lead some to move out of the carry trading business. Here one borrows money in a "weak" currency then purchases bonds or other instruments with a higher return in another currency (e.g. treasuries). The difference in return (e.g. 4.5% T-bill vs 0.1% Jp gvt bond) is the profit made by the speculator.
Many professional traders use this trade because the gains can become very large when leverage is taken into consideration. If the trader in our example uses a common leverage factor of 10:1, then she can stand to make a profit of 45%.
The big risk in a carry trade is the uncertainty of exchange rates. Using the example above, if the U.S. dollar were to fall in value relative to the Japanese yen, then the trader would run the risk of losing money. Also, these transactions are generally done with a lot of leverage, so a small movement in exchange rates can result in huge losses unless hedged appropriately.
ref:http://www.investopedia.com/terms/c/currencycarrytrade.asp
The rise of the yen relative to the dollar has lead some to move out of the carry trading business. Here one borrows money in a "weak" currency then purchases bonds or other instruments with a higher return in another currency (e.g. treasuries). The difference in return (e.g. 4.5% T-bill vs 0.1% Jp gvt bond) is the profit made by the speculator.
Many professional traders use this trade because the gains can become very large when leverage is taken into consideration. If the trader in our example uses a common leverage factor of 10:1, then she can stand to make a profit of 45%.
The big risk in a carry trade is the uncertainty of exchange rates. Using the example above, if the U.S. dollar were to fall in value relative to the Japanese yen, then the trader would run the risk of losing money. Also, these transactions are generally done with a lot of leverage, so a small movement in exchange rates can result in huge losses unless hedged appropriately.
ref:http://www.investopedia.com/terms/c/currencycarrytrade.asp
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