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gipa69
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By Vivianne Rodrigues
NEW YORK, Feb 16 (Reuters) - The weakness of the Japanese yen against the dollar and euro and the popularity of carry trades do not yet pose a "serious risk" to global financial markets, economists in New York said on Friday.
"People forget the yen is a free floating currency and ultimately, its value reflects Japan's economic fundamentals," Roger Ferguson, former vice chairman of the Federal Reserve's Board of Governors said at a panel at the Council on Foreign Relations in New York. "Interest rates are extremely low in Japan and inflation is subdued."
Japan's low interest rates have encouraged investors to borrow yen, and sell the proceeds to invest in currencies that offer higher yields on their assets, a popular trade known as the "carry trade." The trend has helped to push the Japanese currency down to record lows against the euro and a four-year trough against the dollar. On a trade-weighted basis, the yen is at its lowest in more than 20 years.
The widespread adoption of the carry trade has raised concern among some analysts and investors that a rapid reversal of such practice would have a sharp impact on the value of currencies not only in the U.S. and Europe but throughout emerging markets.
Stephen Roach, chief economist at Morgan Stanley in New York, said that while carry trades are not yet a threat, investors should not expect them to be "winning bets" indefinitely.
He pointed that the dollar tumbled more than 20 yen in the space of just a few days in October 1998, after the Russian debt crisis prompted a massive unwinding of carry trades that sent investors scrambling to buy back the yen.
"We don't want to be caught in a situation like in the late nineties when everybody decided to get out of the yen overnight," Roach said at the panel. "The value of the yen is far from being an anomaly, but the massive level of carry trade bets is a greater source of instability and speculation in the currency markets."
For Ferguson, who is currently a member of the executive committee of reinsurer Swiss Re, a disorderly unwinding of carry trades could only take place in the event of an "inflation scare" in Japan, followed by a sharp rise in benchmark rates.
The Bank of Japan's next monetary policy meeting is scheduled for Feb. 20-21. Market expectations are equally split on chances of the central bank raising rates next week to 0.50 percent from 0.25 percent after strong fourth-quarter growth, a Reuters survey showed. For details, see [ID:nTKU002826].
"We are seeing pretty good growth out of Japan, but inflation is very low," Ferguson said. "The BoJ will probably do as expected, and if anything, may raise the rate by 25 basis points."
NEW YORK, Feb 16 (Reuters) - The weakness of the Japanese yen against the dollar and euro and the popularity of carry trades do not yet pose a "serious risk" to global financial markets, economists in New York said on Friday.
"People forget the yen is a free floating currency and ultimately, its value reflects Japan's economic fundamentals," Roger Ferguson, former vice chairman of the Federal Reserve's Board of Governors said at a panel at the Council on Foreign Relations in New York. "Interest rates are extremely low in Japan and inflation is subdued."
Japan's low interest rates have encouraged investors to borrow yen, and sell the proceeds to invest in currencies that offer higher yields on their assets, a popular trade known as the "carry trade." The trend has helped to push the Japanese currency down to record lows against the euro and a four-year trough against the dollar. On a trade-weighted basis, the yen is at its lowest in more than 20 years.
The widespread adoption of the carry trade has raised concern among some analysts and investors that a rapid reversal of such practice would have a sharp impact on the value of currencies not only in the U.S. and Europe but throughout emerging markets.
Stephen Roach, chief economist at Morgan Stanley in New York, said that while carry trades are not yet a threat, investors should not expect them to be "winning bets" indefinitely.
He pointed that the dollar tumbled more than 20 yen in the space of just a few days in October 1998, after the Russian debt crisis prompted a massive unwinding of carry trades that sent investors scrambling to buy back the yen.
"We don't want to be caught in a situation like in the late nineties when everybody decided to get out of the yen overnight," Roach said at the panel. "The value of the yen is far from being an anomaly, but the massive level of carry trade bets is a greater source of instability and speculation in the currency markets."
For Ferguson, who is currently a member of the executive committee of reinsurer Swiss Re, a disorderly unwinding of carry trades could only take place in the event of an "inflation scare" in Japan, followed by a sharp rise in benchmark rates.
The Bank of Japan's next monetary policy meeting is scheduled for Feb. 20-21. Market expectations are equally split on chances of the central bank raising rates next week to 0.50 percent from 0.25 percent after strong fourth-quarter growth, a Reuters survey showed. For details, see [ID:nTKU002826].
"We are seeing pretty good growth out of Japan, but inflation is very low," Ferguson said. "The BoJ will probably do as expected, and if anything, may raise the rate by 25 basis points."
gipa69
collegio dei patafisici
The following excerpt was taken from the Wall Street Journal on 2/13/07:
"This has been a period of unparalleled calm across a broad sweep of financial assets. It has been 143 days since the Dow Jones Industrial Average posted a 2% decline -- the longest such stretch in nearly 50 years. Bonds are quiescent, as is the dollar against the Euro and Yen. Moreover, the Chicago Board Options Exchange's implied volatility index (VIX) remains extremely low...
The VIX and other measures of implied volatility are low, in part, because investors are selling put and call options - 'selling volatility' in Wall Street parlance. That helps to drive option prices - and implied volatility - even lower. Selling volatility is usually a great way to make money, since sharp market moves are rare. The problem is that if a big move does come, the losses can be massive. Such a conflagration might not come. But there sure is a lot of dry tinder."
My Take: By now, we are all very familiar with the data on how insufferably long it's been since we've had a two-percent correction (or a 10-percent correction for that matter), and how "low" the CBOE Market Volatility Index (VIX) is, and how there is a serious come-uppance out there for the market as it must pay for these "sins."
First off, I can take issue with the "low VIX" argument as well as the argument that "selling volatility" is the culprit for this low VIX. The VIX is not low relative to the realized volatility of the market, which by some measures has been deep into the single-digits for quite some time. For example, the S&P 100 Index (OEX) has now closed between 660 and 670 - a minuscule 1.5-percent range from top-to-bottom - in 33 of the past 37 sessions.
I understand the argument that premium selling can itself create low realized volatility, but there is no doubt in my mind that the vast majority of the 3.6 million open puts in the front three months on the S&P 500 Index (SPX) - most of which are far out-of-the-money and all of which trade at big premiums to comparable call options - were initiated by buyers, not sellers. This means that despite the so-called low VIX, there is a big put protection trade out there that serves to contain market pullbacks.
So the "low volatility means the market is an accident waiting to happen" argument has holes in it as outlined above. And for contrarians, there appears to be two scenarios to consider that would fly in the face of the conventional wisdom on volatility and the stock market:
(1) The market rallies sharply and the VIX also rallies, thus defeating the consensus that an increase in volatility must be accompanied by a market decline. This situation occurred in the 1995-1999 bull market, when the VIX broke out of a multi-year dull trading range in 1996 and began moving steadily higher.
(2) The market rallies and the VIX moves firmly into single-digits, thus defeating the consensus that volatility can't decline significantly from current levels. In fact, I would say the single biggest factor working against the market for now is the unwillingness of investors to accept a VIX level below 10, which leads to selling pressure when the VIX declines toward this level.
"This has been a period of unparalleled calm across a broad sweep of financial assets. It has been 143 days since the Dow Jones Industrial Average posted a 2% decline -- the longest such stretch in nearly 50 years. Bonds are quiescent, as is the dollar against the Euro and Yen. Moreover, the Chicago Board Options Exchange's implied volatility index (VIX) remains extremely low...
The VIX and other measures of implied volatility are low, in part, because investors are selling put and call options - 'selling volatility' in Wall Street parlance. That helps to drive option prices - and implied volatility - even lower. Selling volatility is usually a great way to make money, since sharp market moves are rare. The problem is that if a big move does come, the losses can be massive. Such a conflagration might not come. But there sure is a lot of dry tinder."
My Take: By now, we are all very familiar with the data on how insufferably long it's been since we've had a two-percent correction (or a 10-percent correction for that matter), and how "low" the CBOE Market Volatility Index (VIX) is, and how there is a serious come-uppance out there for the market as it must pay for these "sins."
First off, I can take issue with the "low VIX" argument as well as the argument that "selling volatility" is the culprit for this low VIX. The VIX is not low relative to the realized volatility of the market, which by some measures has been deep into the single-digits for quite some time. For example, the S&P 100 Index (OEX) has now closed between 660 and 670 - a minuscule 1.5-percent range from top-to-bottom - in 33 of the past 37 sessions.
I understand the argument that premium selling can itself create low realized volatility, but there is no doubt in my mind that the vast majority of the 3.6 million open puts in the front three months on the S&P 500 Index (SPX) - most of which are far out-of-the-money and all of which trade at big premiums to comparable call options - were initiated by buyers, not sellers. This means that despite the so-called low VIX, there is a big put protection trade out there that serves to contain market pullbacks.
So the "low volatility means the market is an accident waiting to happen" argument has holes in it as outlined above. And for contrarians, there appears to be two scenarios to consider that would fly in the face of the conventional wisdom on volatility and the stock market:
(1) The market rallies sharply and the VIX also rallies, thus defeating the consensus that an increase in volatility must be accompanied by a market decline. This situation occurred in the 1995-1999 bull market, when the VIX broke out of a multi-year dull trading range in 1996 and began moving steadily higher.
(2) The market rallies and the VIX moves firmly into single-digits, thus defeating the consensus that volatility can't decline significantly from current levels. In fact, I would say the single biggest factor working against the market for now is the unwillingness of investors to accept a VIX level below 10, which leads to selling pressure when the VIX declines toward this level.
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