Friday, February 1, 2013

Rate of Change


Say you’re a Doc, working out of NYU Hospital on 1st and 34th, and on October 29 you park your car in the lot next door. Sandy rolls in, and the next morning your car is 20 feet underwater. You’ve got insurance, so a week later, check in hand, you look at new cars and narrow it down to two. A decked out Lexus LS460 and very nice Audi A8. The walk out price on both cars comes to 8o grand. Which one do you choose?


That was just three months ago. At that time the relative value of these cars was equal. If you assume that 80% of the cost of the car was the imported value, then you were “paying” 50,394 Euros for the Audi and 5,12o,000 Yen for the Lexus. At the exchange rates in early November, the Euro component of the Audi was $64,000 (80,000 X 80% X EURUSD 1.27).  The Yen cost was also $64,000 (80,000 X 80% /80.00). The EURJPY exchange rate was 102.

Today the EURJPY FX rate is 1.2650. The dollar cost of those Euros and Yen have changed substantially. $68,900 is now the Euro component of the Audi (+3,900). The dollar cost of the imported Lexus has fallen to $55, 350 (-$8,649). Looking at just the FX rate changes, the cost of the Lexus is down to $71,350, the Audi is up to $84,910. In three months there is a $13,560 price gap. Now which one do you choose?


I bring this up to make the point about how very rapidly the terms of trade have turned against Germany (all of the EU) and in favor of Japan. What is striking, is how quickly the adjustment has been. Consider this 15 year chart of the EURJPY:




What jumps out in the chart is the huge drop in the FX rate that occurred staring from July of 2008, and ending in February 2009. I discount that period of extreme volatility as it was marked by global instability. During those same months the S&P fell 50%. Everything was going wild.

If you exclude (or diminish) the 2008-09 experience, then you could could say that the movement in the EURJPY over the past six months is the most violent (vertical lines) in recent history.


The period from 1999 to 2004 is notable as an “up” period for EURJPY. The trend for that period was driven by steady currency intervention by the Bank of Japan. So the spikes higher for the EURJPY are quite different than what we are witnessing today. The Yen is not weakening because of a forceful Central Bank. If anything, the BOJ has “disappointed” on what it has promised to do.

What we are witnessing is Yen weakness (yes, coupled with Euro strength vs the $). The rate of change has been very substantial, arguably, this is the most volatile period in FX over the past 15 years.


Compare the prior periods of FX upheaval to today. In many ways, what has happened of late with the Yen versus the major currencies is unique to history. What is also amazing (to me) is that this FX violence is happening at a time when equity markets are soaring.

From 1999 – 2003 NASDAQ  fell 70%, the S&P got clipped for 40%. 2008 – 2009 was a horror show. Today, the equity markets are thriving on the FX instability.


Are we in one of those “New Paradigm” things with markets again? A financial world that can go through a very turbulent period in FX, while there is no fallout anywhere else?

For what it is worth, I didn’t believe in the New Paradigm in 2000, I don’t believe in it today.








  1. I don’t believe it either. Now the question is – what to do? Sit on the sidelines and pray for the correction? While your cash earns zilch?

  2. The equity market has been forecasting an economic recovery every January for years — usually the euphoria is based on the “unexpected” rise in employment numbers. After a few weeks, someone points out that the seasonal adjustments used by the BLS produces these “unexpected” numbers. Everyone says “Doh!!” and we wait for a repeat the following year.

    While the stock market (not the underlying economy) has gone up a little in the past few years — the amount was less than CPI during the same period. In 2008, the S&P was at 1450ish, lets assume CPI has averaged 2.5% since then (which if anything is low balling the estimate). 1.025^5 = 1.13… 1.13*1450 would get you 1640 on the S&P today, instead of 1513.

    Kyle Bass had a great quote in a CNBC interview today. He pointed out that Zimbabwe had the best performing stock market this past decade. But if you had your portfolio in Zimbabwe stocks, you can only afford to buy 3 eggs. While you gained in “stock performance”, you lost far more to inflation

    As long as corrupt morons are allowed to force 1970s economic policy on G7 economies, we will continue to suffer under stagflation, poor employment, disco music and polyester leisure suits. This time will not be different.

  3. Re: “The Yen is not weakening because of a forceful Central Bank. If anything, the BOJ has “disappointed” on what it has promised to do.”

    True, the BOJ has disappointed to date (Shirakawa is such a fuddy-duddy), but what’s driving the yen is mainly expectations that PM Abe will appoint an uber-dove to succeed Shirakawa, whose term ends on April 8. BOJ governor and deputy governor nominees are to be scheduled to be named before the end of this month.

    • Right. If we have another 30 days that look like the last 30 days, there is going to be a big hiccup. Imagine what these new guys are going to do on the first day they take over. By then the EURJPY could be 1.35 and USDJPY pushing 100.

      Japan is running a trade deficit. They import 100% of their oil for gas. The prices of EVERYTHING is going to explode.

      What would happen if the US government engineered a 30% increase in gas/food over 6 months?? There would be riots in the streets and calls for impeachment.

      This is not going to go over so easy in Japan. This is happening too fast.

      • I agree it’s happening too fast but it would be funny if Japan is able to exit deflation so quickly after all these years. BTW, Japan can easily revert to a trade surplus by restarting enough nuclear reactors. The LDP (now the ruling party) is pro-nuclear, so it’s likely only a matter of time before Japan is running trade surpluses again. Given the weak yen’s impact on domestic energy prices, the public also may become more amenable to restarting nuclear reactors.

  4. BK. I see what your saying,why the calm in the markets,but could you hypothetically tell us whats causing this disconnect?

    • $ 4 Billion of POMO buys from the Fed in NY every single business day. 85B a month! More than during the worst times in 2009.

      That’s what’s gunning the stock market. Bernanke his foot planted squarely on the gas pedal. We are going as fast we can.

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  6. Japan’s yield curve hasn’t moved much.

    30 year 1.99%
    10 year 0.77%

    If the bond structure moves the same percentage, in the same time as the currency, that would be real worry.

  7. Which one do you choose?

    Easy question for me. I wouldn’t own a Japanese-brand auto, so the choice has to be the Audi — regardless of all the factors discussed. Actually, I would prefer a Chevy Suburban or a GMC Yukon XL. The exchange rates never enter into that decision….. LOL

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  9. I know many newsletters are recommending buying Japanese Equities with the Wisdom tree play. It’s also part of the Agora’s trade of the decade. I believe Japan is bringing back some Nuclear now, and that trend will likely continue to some degree while importing LNG. If they are able to figure out how to cost effectively take care of their seniors that could turn to making money in the U.S. as baby boomers retire.

    What do you think Japanese stocks a buy?

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