I assume it's quiet in here because people are shell-shocked. They're watching stocks and indices drop like rocks, and wondering where it will end.
I suggest that people should also be watching currencies. While people are distracted by trading halts and the overnight collapse of Asian markets, they're missing a key process as it unfolds. Around the world, currencies are falling, some are crashing, some have collapsed.
Iceland's krona has lost most of its purchasing power, Hungary's forint is down about 50%, India's rupee just made a record low against the dollar, the Swiss franc, loonie and Aussie dollars have all plunged from 16% to 30% and more in a few months.
Iceland's OMX index has lost 89% so far this year. It took the Dow from 1929 to 1932 to lose 89%.
Other than the USD, most currencies are falling, both in dollar terms and in terms of gold, and this process has been underway for months. The single standout exception to the rule is the Japanese yen. A year ago, a dollar bought 118 yen. Today, a dollar buys about 92 yen. The USD lost a quarter of its exchange value against the JPY since last October.
This event was predictable, and was predicted by any number of astute analysts and even non-astute persons like me. Trillions of yen were sold short, no one was long yen, everyone was short the yen and when everyone is on the same side of the same trade, it's about over. Yen sold short must be bought back to close the transaction.
The consequences to Japan are already serious and likely to be deep and persistent. With a currency that strong, and no practical way to weaken it, Japan can't sell its imports at competitive prices when the competition (China, Taiwan, Korea) all have much weaker currencies that make their goods cheap in dollar markets, better known as the United States.
The consequences to U.S. banks are catastrophic. The investment and trading sides of Wall Street banks took hundreds of billions of dollars worth of yen from the Bank of Japan when the yen was cheap, and they did deals and bought investments and played idiotic games with borrowed yen. Now they have two problems. Their deals and investments are falling apart, and at the same time (and not coincidentally) the borrowed yen must be repaid at crippling exchange rates 20% to 30% higher than the borrowed rate.
Wall Street banks and funds did their deals at high rates of leverage. That's CrookSpeak for gambling with money that was mostly borrowed. Now that the deals and bonds have gone bad, all that leverage must be unwound. To a certain substantial extent, the leverage unwind is exacerbated by the unwinding of the yen carry trade.
The foregoing is a roundabout way of saying that there are deeper losses ahead, for stocks and paper assets of all types. Despite the terrified flight into fixed-income, bonds must feel the pain, too. Funds that are being pounded with margin calls and redemptions are selling everything that will yield cash, and that means bonds are sold along with the espresso machines and the mirrors in the restrooms.
There's no avoiding the conclusion that we have entered deflation in dollar terms at this point. Look at the charts for stocks, bonds, real estate, gold, oil, copper, whatever you like. Groceries haven't done us the favor of going on clearance yet, but they will soon enough. How can I be so sure? Feedstock and energy inputs are getting the hatchet. Think Kellogg's: Corn has tumbled from $8 to $4 a bushel, natural gas is down from $13/tcf to $6/tcf, the price of OTR and farm diesel is way down. No one at the Corn Flakes factory is threatening to strike for higher wages. They're too amazed that they still have a job.
Pretty much everything it takes to make a box of Kellogg's Corn Flakes and deliver it to market is way down in price. Falling costs give Kellogg's the room to cut prices in order to retain market share in a weak economy. Kellogg has a lot of competition, and they will meet it.
So I've concluded that we are seeing more than price compression due to fund liquidations. We actually have deflation on our hands--that is to say, the monetary pond is draining away faster than the Fed can fill it with new liquidity. It's happening because Wall Street built a dam out of imaginary credit structures with imaginary values and imaginary profits. The derivative dam has crumbled, and the profits are rushing out the breach and taking the money supply and the economy downstream with them.
But, before you panic and start digging your own Mogambo Bunker Of Doom (MBOD), consider this: the deflation is limited to two venues. They are the U.S. and its faithful ally and trade partner Japan. But you knew that. Deflation is not likely to hang around indefinitely, however many correlations are drawn to the 1930's.
Outside of the US and Japan, they don't have deflation. They have inflation, stagflation or indeflation. Pretty much every central bank in the world is churning out credit and currency at a pace that reeks of desperation. Stock prices are falling around the world, and commodities are tending to fall, but not all commodities and not in all currencies.
Put these trends up against each other and take a snapshot: Worldwide credit is expanding at a high rate, while prices are trending lower even as supplies of goods are diminishing. Prices can't keep falling in that world.
Bank deleveraging is a worldwide process, and it will not end this week. Still, the stock markets are at the end of a major leg down, and likely to back and fill a bit before beginning a relief rally that could last for months. But earnings are not about to return to the corporations anytime soon. At Dow 8000, price/earnings multiples are far too high for a market bottom.
And don't forget, housing prices are still falling. Credit thingies are still going to zero. If the Treasury really means to bail out the markets, they will end up owning most of the banks. If you want to see what that will do for stock prices, check the last trade for FNM.
When the Dow does bottom and deleveraging has run its course, then the creation of money and credit around the world will finally manifest itself, not in higher asset prices, but in higher prices for tangibles. The gold bugs will feel the pain until then, and finally get their vindication. By then, many of them will have thrown in the towel and sold their gold at $700 or maybe $600. That's how markets work. They chop and gyrate until the majority have been pitched off the mechanical bull.
Today silver fell below $9 an ounce. I doubt that's the ultimate low, but I would gladly buy silver at that price if I could get any. I can't get any, because I won't pay tulving $7 over spot. When you can buy silver near the spot price again, it will be too late to get in early, but too early to sell.