Swiss negative rates as soon as June 19th, 2014?

on May 30, 2014 in Currency, Economy, Home | 8,626 comments

Some traders are still skeptical that Mr. Draghi will make much of a move at all, then any meaningful action by the ECB president could further hurt the EUR. But we should watch out for local repercussions. The Swiss National Bank will not want to see the EUR below its CHF 1.20 minimum exchange rate target, so if that level is challenged, the SNB could introduce its own negative rates at the June 19th meeting. Cutting its deposit rate below zero is potentially a more powerful policy for the SNB to weaken its currency than for the ECB. Credit Suisse Group as mentioned in the past that it would begin charging other banks interest on CHF deposits. UBS, the country’s biggest lender by assets, also said it would charge fees on certain deposit accounts to discourage bank clients from parking cash. However, any measures have been implemented to date. A strong lending growth also entails risks for financial stability. In the past, excessive growth in lending has often been the cause of later difficulties in the banking sector. Swiss real estate is feeling the effects of the SNB’s long policy of low interest rates with prices for owner-occupied apartments growing at an average rate of 6 percent per year since 2008, which could be a source of concerned. If a central bank imposes a scenario of negative interest rates on excess reserves to the banking system, the cost of the interest will be ultimately passed along to deposit-holders (i.e. their saving customers), whether through fees or negative interest rates. Under normal conditions, depositors may be willing to pay a small fee for the convenience and security of keeping their money in the bank rather than as cash at home. However, at some point, if negative interest rates become high enough, bank depositors may elect to take their cash out of the system. For example, a credit card holder may choose to make a large upfront payment on a credit card and then run down the balance rather than the usual practice of making purchases first and payments later. In any case, the actions by the world’s central banks, the FED, that were used to avoid The Great Depression Part 2 are now coming home to roost. By using untried and untested measures to avoid what was a banking system-created crisis in the first place, central banks have backed themselves into a policy corner from which extrication may be painful. We need look no further than the current situation in Switzerland; even though it is small by world standards, the Swiss economy is showing how the impact of unconventional monetary policy can have wide-ranging and unexpected results. In my opinion, Swiss authorities should consider introducing temporary negative interest rates to discourage foreign investors from holding CHF in the event the currency begins to appreciate again and preserve its competitiveness. My conclusion is that the likelihood of a negative interest rate being imposed by the ECB is near zero. It is not going to happen. However, a bold move from Mr. Draghi could eventually trigger local repercussion and force the SNB into action...

Inflation breakeven rate

on Oct 11, 2012 in Economy, Home | 754 comments

Inflation breakeven rate refers to the difference between the nominal yield on a traditional bond and the real yield on an inflation-linked bond with the same maturity. It has been used as a tool to obtain the expected inflation. Nominal rate ≈ real rate + inflation expectation In fact, the nominal rate of return incorporates the real rate, expected inflation, inflation risk premium and a liquidity risk premium. Nevertheless, assuming the inflation and liquidity risk premium to be fairly stable over a short period of time, the changes in the breakeven inflation rate capture the changes in inflation expectations. Your fixed-income investments may not consequently provide the real return investors seek during periods of high inflation. It’s important to know whether your traditional fixed-income investment breaks-even with inflation. If inflation averages more than the break-even, the inflation-linked investment will outperform the fixed-rate. Inversely, if inflation averages below the break-even, the fixed-rate will outperform the inflation-linked. It is possible to benefit from the rise in inflation while being hedged against rising interest rates by buying inflation-linked bonds and selling traditional sovereign bonds with similar maturity. Ultimately, for inflation-linked bonds to offer a potentially safe way to preserve real wealth they should not have any credit exposure. However, Italian inflation-linked bonds as well as their nominal counterparts trade at a discount to compensate for the higher volatility and credit risks. Most investors realize that they should be cautious when using the break-even rate, because many other factors enter into bond prices besides inflation expectations, including inflation risk premium and a liquidity risk premium and also credit risks....

The end of USD’s reserve currency domination?

on Aug 2, 2012 in Currency, Economy, Home | 1,017 comments

How could the USD’s long time most favoured currency status be in jeopardy? There is indeed great concern around the financial trajectory of the US economy. I expect that the outlook for the US fiscal position will weigh heavily on the USD in the quarters ahead. Consequently, the USD’s role as the world’s reserve currency has been called into question. In the near term, however, a strengthening growth profile could help provide a temporary period of USD strength. In the long term, the prediction of a multi polar currency world replacing the current USD dominance is a plausible scenario. Today, more than 60% of all foreign currency reserves in the world are in USD. But there are big changes on the horizon. The BRICS continue to flex their muscles and use of their own national currencies with their respective trading partners rather than the USD.  Global growth over the next decade is likely to mirror the current sluggish recovery, with emerging countries growing faster than more advanced counterparts. Currency use remains dominated by the USD despite the growing importance of emerging markets. I think it is still quite possible that this will only be a very gradual process and very likely that the USD will still play a key role in the world economy. If the world is unwilling to continue to accumulate USD, the US will not be able to finance its trade deficit or its budget deficit. The implication is for a decline in the USD’s exchange value and a sharp rise in prices. We are reaching the end of the era of the USD centric global currency system. With global demand for USD’s falling, central banks around the world will inevitably reduce their USD reserves. That reduction further weakens the USD against other currencies and in turn drives up inflation. Due to the current bearish market sentiment the stronger position of the USD is on my opinion a short term...

Tier one capital, a gauge of financial health

on Jul 19, 2012 in Economy, Home | 1,603 comments

Tier one capital is the core measure of a bank’s financial strength. It is composed of core capital, which consists primarily of common share and disclosed reserves, but may also include non-redeemable and non-cumulative preferred share. Tier one capital represents a bank’s most reliable and liquid assets that can be tapped, if necessary. The use of tier one capital in evaluating a company’s financial health is helpful because it is a measure of liquid assets and provides a degree of confidence both to regulators and investors. It’s a ratio regulators use to gauge strength with a 6% minimum floor required under Basel 2 agreement. By law, banks are required to maintain a certain level of tier one capital on their balance sheet.  A tier one capital ratio of more than 15% implies that a company is conservative and prudent with its spending and capital reserves. Technically, tier one capital ratio is made by dividing a firm’s tier one capital by its risk weighted assets. A firm’s risk-weighted assets include all assets that the firm holds that are systematically weighted for credit risk, meaning that each asset is assigned a weighted according to their risk level. In some cases, a tier one ratio can be a deceiving measure of a company’s financial strength. This is because, in addition to the equity capital and disclosed reserves, there can be other hidden assets not reported on a balance sheet. Watch out for financial...

Is the Baltic Dry index getting drier?

on Jun 21, 2012 in Economy, Home | 761 comments

The Baltic Dry Index is a measure of the cost associated with shipping of goods such as raw materials, grains and other commodities. Since prices for shipping coal, rice, wheat and other commodities are seen as a proxy for the strength of world trade and global economy, a falling Baltic Dry Index suggest that ship owners are cutting prices in the face of falling demand. The BDI has basically gone from the 3000 mark in beginning of 2010 to 1120 in May 2012. That is a decrease of over 60% in slightly more than 2 years! If the global economy is not heading for a recession, then why is global shipping slowing down so dramatically?  Since the Baltic Dry Index provides a glimpse of global trade of major raw materials and involves the assessment of shipping rates worldwide, it adjusts before the overall economic picture changes. Consequently, many economists believe that measure of global shipping activity such as the Baltic Dry Index is a reliable economic indicator. The Baltic Dry needs however to be handled with a degree of caution, but it does provide information about trade flows that is both timely and unaffected by speculation. It is not exclusively an index for the demand side of the equation. It also captures the supply side of the shipping industry which has been impacted in the last few years by oversupply. To sum up, if rates go up it can come from either a supply shortage or a steady commodities demand, explaining the volatility surrounding the index. In a situation where ship owners match demand, which over the long run they will, then rates will normalize and be reflected in their costs and profit margins. Anyway, it is an index worth keeping an eye...

Argentina’s crisis = Greece’s crisis

on May 31, 2012 in Economy, Home | 737 comments

Argentina’s crisis was a dire financial downturn that affected profoundly Argentina’s economy during the late 90s. Extensive borrowing accumulated over the years by the Argentinian government, both domestic and foreign, was gradually sending domestic interest rates up. In the hope of eliminating the rampant inflation, Argentina pegged the ARS to the USD at a rate of one to one. In doing so, the government hoped to ease pressure from international lenders who had been dissatisfied by the currency’s inflation, and who had begun to reject pesos as a way of payment. Initially, it appeared as the economy began to stabilize and brought inflation to a halt. Inflation was tamed, however, beneath the surface, nothing much had changed. Corruption and tax evasion were eroding economic prosperity, the budget deficit with heavy off-balance sheet spending was still expanding, there was literally no progress in labor market and the structural reforms badly needed, and there was clear loss of economic competitiveness. Furthermore, during the slowdown of the late 90s, the dollar dramatically appreciated, increasing the value of the peso along. Argentina’s export market evaporated leaving the country in a challenging situation. Still, the government was reluctant to abandon the peg, and instead opted to tighten macroeconomic policy by reducing spending, increasing interest rates, and increasing taxes. The hope was to bring the currency under control and when the peg will be removed, the peso would maintain its value, thereby giving a further boost to price stability. This plan, however, never happen in practice. The downward spiral became quickly non manageable, and the immediate danger was that Argentina defaults on its debt could create a crisis in the international financial system and hurt investor confidence during a period of global slowdown. The critical point of the crisis was the virtual cessation by the government of its foreign debt payments and which lead down the road to a restructuring of its debt. The currency peg was removed and debt denominated in dollar converted in devalued pesos. This painful process helped Argentina to bottom up! Do you notice any parallels with the crisis in Greece? Does paving the way out of the crisis for Greece means moving out of the...