The Italian Job...
Daily Pfennig

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In This Issue..

* The dollar continues to rally...                      
* Obama bounce picks up steam...                    
* ECB and BOE meet this week...                       
* Brazilian reals on a roll!                                 

And Now... Today's Pfennig!

The Italian Job...                      

Good day... And a Terrific Tuesday to you! A very icy Tuesday here in St. Louis... When I left home this morning (I live Southwest of the office) there was nothing on the ground, but as I got closer to the office, I could see the ground was wet. Arriving in the parking lot, I found the wet to be nothing but ice! You should have seen me attempting to walk from my car to the front door! Shuffling my feet very slowly was more like it, but can you blame me? That's all I need is to take a nasty fall on ice when I'm already walking with a cane! Oh well, I'm here, and safe...

Well, front and center this morning, the dollar has gained a huge chunk of ground back from the euro and Swiss franc that it had lost last month. The euro has seen the underside of 1.34 in almost a month, but that's where it sits this morning. And the Swiss franc has taken a tumble too... So, what's the reason behind this move? Ahhh grasshopper, sit, and listen, there's a story to this that you'll want to hear!

You see, there's a bond scandal that was uncovered in Italy, with Italy losing large sums of money, and some major banks like Deutsche Bank and UBS are right smack dab in the middle of the investigations. With Deutsche Bank in Euroland, and UBS in Switzerland, there you have the story behind those two currencies taking a beating from the dollar the past two days. There are other banks like JP Morgan Chase reportedly involved, but the majority of the problems resides in Europe... Let me try to explain the problem, as I know it to be from reading the story in the U.K. Telegraph last night.

Investment bankers, many based in London, spotted a major opportunity in the 1990s. Italian cities and regions wanted to borrow money. In order to avoid ballooning debt, the central government required local authorities to put away a percentage of the loan every year in a "sinking fund" so that when it was time to repay the full sum, they would be able to do so.

Investment banks offered to manage the sinking funds. While the funds initially had to be invested in Italian government bonds, the criteria were widened to include other government debt within the European Union. This could include debt from countries seen as more likely to default, such as Greece, as long as it was triple-A rated.

The banks took a fee to manage the sinking funds. They argued to the Italian authorities that as well as saving the money to repay their initial loan, they might also make some money from the investments. Many did when the global economy was booming.

All of the contracts were different. But critics have said some contained a "sting" which was not properly understood by some of the Italian authorities. While the local authorities only earned a return on the money they put aside, the value of their total loan was at risk. The banks could invest all of the money the authority had borrowed through bonds. If everything went well, the bank would pay a return based on the incremental amounts the local authority was putting into the sinking fund, and keep the rest as profit.

If things went badly, it was the local authority which would have to pay for the loss - and then also have to pay off the bond when it became due.

And THAT my friends is the big bugaboo right now... Things have not gone well, and the local Italian authorities (like cities) are left holding the bag, and they have no way of paying this debt! It's a remake of: The Italian Job!

OK... That was a long explanation, but one that was needed, I believe, to explain this mess... One thing that I did notice in the story is that a Japanese Bank (Nomura) was involved, and this is the first instance of any involvement of a Japanese Bank in any of the mortgage bond meltdown and now this. Could be why the Japanese yen has seen a removal from terra firma the past couple of days.

There's also the euphoria going on from the Obama Bounce... I've explained this a couple of times now in the first few days of 2009, so I won't go there again, but when the President-elect goes on TV to discuss is "stimulus plan" the "bounce" gets magnified. There's a lot of euphoria being built up for this plan. My problem is the size that it will end up being once the lawmakers get their hands on it, and begin hanging other spending bills on the plan. That just adds to our National Debt, folks... And that, in a nutshell, is a BIG Problem for me...

The euphoria is spilling over to the risk takers, as I explained yesterday. The Big Winner yesterday was the Brazilian real, which last week had a full 6 figure move higher, followed that yesterday with a full 8 figure move higher! WOW! OK... Before we get too excited about reals, let me point out that this huge rally in the past week, has left reals about at November's levels. It's still got a long way to go, to get back to last summer's levels... But, Shoot Rudy! Why throw cold water on this move? 14 figures higher is better than 14 figures lower!

OK... Have you been following this Madoff stuff? So... I hear that the lawmakers are going to grill the SEC... As if! As if the lawmakers, save for Ron Paul, could have figured out what Madoff was up to if they were the SEC! But, it's interesting anyway... The thing that ticks me off about the Madoff meltdown is that his people pulled the wool over the SEC's eyes, even though there had been 8 probes by the SEC in the past 16 years...

Other lawmakers expressed concern about the make up of the SEC and even whether it should exist. Rep. Ron Paul, R-Texas, said he believes Congress should eliminate the agency, which he argued gave investors a false sense of security about Madoff and other problematic investment vehicles. "Investors should be self-reliant," Paul said. 

Did you see the collapse of Auto Sales yesterday? YIKES! Where have all the car sales gone? Long time passing... Shoot Rudy, even Toyota has announced that they will shut down their plants for 11 days in Feb and March... Now, that's should tell us something... Here's what the Wall Street Journal printed... "GM posted a 31% drop in U.S. light-vehicle sales for December, while Ford reported a 32% fall. Toyota saw a 37% decline, and Honda saw sales drop 35%, closing out the auto industry's worst year in more than 15 years."

Of course one might think that there would be some "real" sales for autos, eh? And not that cheesy "you get what we pay" promotion... I mean something with some real meat to it! Better to sell than to see it rot on a sales lot!

Well... The European Central Bank (ECB) and the Bank of England (BOE) both meet this week to discuss interest rates. There's some speculation out there that the ECB will cut rates, especially after it was announced this morning that inflation for the Eurozone has fallen to lowest level in 2 years... Of course oil prices are behind that fall in inflation, but still... The ECB has done a marvelous job of providing price stability, even when Oil prices were shooting for the moon... Of course, I'm of the opinion that we'll see Oil prices shooting higher again, and this is all great right now, but it won't last.

Inflation for the Eurozone hit 1.6% in December, down from 2.1% the previous month... Now that inflation is back under the ECB's 2% ceiling target for inflation, we could very well see them cut rates this week... But, I'm going to go out on a limb and say they will be prudent and wait... But then, I don't know about any smokey back room deals between the Fed and ECB...

The BOE will also meet, and I DO expect them to cut rates this week... The BOE is cut from the same cloth as the Fed, and believes that lower interest rates are the way to a Lender's heart... I would argue that the way to a lender's heart is through their stomach... They need to be fed tons and tons of cash, which is another arrow in the Fed's quiver that they are using... But not the BOE at this time...

Today, in the U.S.... We'll see Factory Orders for November (pretty long lag, I agree!) which I believe will follow up the previous month's rotten print of -5.1% with another negative print of -2.3%. We'll also see Pending Home Sales for Nov. , and later today, we'll see the color of the last Fed meeting minutes, when they cut rates to .25%... These ought to be good!

The ISM (non-manufacturing) Index, which covers the Servicing Industry, will print too... And I don't normally give two hoots about the Index, except for the employment component of the report, which is normally where I get my thoughts about where the total Jobs Jamboree will print. There, I just gave away one of my secrets! And you didn't have to pay a penny for it either! WOW! What a guy! OK, stop it Chuck! Seriously though, I do use the employment component of this report to give me a clue about where the National jobs will print... So, here's a key to look for!

Currencies today 1/6/09: A$ .7115, kiwi .5870, C$ .8405, euro 1.3350, sterling 1.46, Swiss .89, rand 9.31, krone 7.0420, SEK 7.94, forint 200, zloty 3.04, koruna 19.79, yen 94.10, sing 1.4790, HKD 7.7535, INR 48.69, China 6.8363, pesos 13.35, BRL 2.1820, dollar index 83.81, Oil $49.66, Silver $10.87, and Gold... $841.55

That's it for today... I have been remiss in not taking a moment to thank everyone that sent along Christmas and New Year's wishes to me. They were all truly appreciated! I just heard on the radio that there are auto accidents all over because of the ice on the roads. Usually I begin to get phone calls from co-workers this time in the morning, knowing that I am here, and asking me "how are the roads?" We had a "full desk" yesterday for the first time in a long time, with Jen and Ty returning from vacation. Half the desk is sporting a cold, which means the other half will be sporting it next week! Me? So far so good, I keep feeling like one is coming but, with all the immune system boosters I take, it turns out to be nothing... I guess they work! My little buddy, Alex, was funny last night, as he was convinced there would be a "blizzard" this morning, school would be cancelled and he would be sledding all day... He's getting up about now, I can only imagine his disappointment... He really was convinced! OK... I could be the only here today... Now wouldn't that be funny! So, I had better get to work... I hope your Tuesday is Terrific, and not icy!

Chuck Butler
EverBank World Markets

Posted 01-06-2009 9:01 AM by Chuck Butler