The week of November 8th: No direction home

In the lead up to the G20 meet in Seoul, this past week has seen very subdued market action following up on the roller coaster that was the first week of the month. With markets making record year highs in the US last week, this week was all about searching for the elusive pullbacks. The Dow and S&P 500 finished the week about 2.2% in the red; after a week long consolidation. 

Friday turned out to be the most eventful day however, with a big sell off in the Asian session triggering off a domino effect in the European and American sessions. The Nikkei saw a sharp sell off following rumors that China is about to raise interest rates further. In fact earlier in the week, Chinese banks were told to increase reserve rates by 50 basis points in a move to counter inflation which gained ground in September to 3.6%. I am sure that we will see the rate hikes in the coming weeks, as I have argued in the past. 

However, Chinese rates aside, the Eurozone debt situation has dominated investor concerns this past week. On Friday, there was market talk of a possible $80 billion dollar bailout in the offing for Ireland, however, this was later dismissed by Irish officials. Nevertheless, the volatility seen in the Dow, S&P, and Euro/Dollar on Friday, was largely caused by concerns over Ireland's finances. The IMF came out with an official statement that there has been no official communication with Ireland, indicating that no loans will be sanctioned by it, and the issue of bailing out the economy would stand squarely on the shoulders of the European Financial Stability Fund. 

Until 2008, when things started to unravel for the Irish economy, it provided a tax haven for corporations, and boasted of high productivity levels. With the low interest rates in the Eurozone compounded by the inflowing foreign investment, a big property bubble had been formed. In 2006, Ireland saw the construction of about 100,000 new homes, a number which was 3 times the rate of a decade earlier. The Irish government and its main bank the Anglo Irish Bank have tried to put on a brave face since then, almost in denial of a lack of liquidity in the housing loans market. Anglo Irish Bank has lost about $20 billion of loans in default and another $64 billion of risky loans are floating around. 

It is indeed very difficult to form a long term opinion of the Eurozone. How long Germany can offer a ponzi scheme to the near defaulting 'peripheral' economies, is a question that often comes up in my mind. Since the Greek bailout of about $150 billion, the Europeans have tried to get their act together with proposals for all sorts of rescue measures and funds. The situation in Greece had to be dealt with in haste, and perhaps has offered a learning curve of an opportunity to European policymakers. How the Irish crisis is dealt with may provide a glimpse of the claimed stability that being a member of the Eurozone offers. Personally, I am skeptical of the leadership qualities of Trichet and co. 

Meanwhile, commodities seem to be cooling off for a bit with spot gold trading lower this week at $1370 down from the above $1400 levels seen at the back of the QE announcements. Crude finished lower as well, at $84.79. This might be a small correction caused by a stronger dollar, before prices rally up to $90 a barrel. The dollar strength seen this week has been in line with the possible turnaround I mentioned in the last post. It has been helped by the sovereign debt issues and has gone back to September levels despite the QE2 announcements. 

The main concerns of next week will continue to revolve around the Eurozone for and for the lack of any other directions, investors will remain cautions and confused. The meeting in Seoul will not offer any new revelations, and even there, Eurozone concerns are top of the agenda. The next time the heads of the G20 states meet will be at Cancun in December, which also promises to be of no special consequence to the fate of the world.