Monday, November 20, 2006
Tale of two markets; Bonds and FIG equities
Fixed income markets are pricing in soft landing-Financial Institution equities are pricing in "no landing" as in, we''ll continue to fly as long as "they" let us with "they" referring to foreign creditors. The crucial element in the equation contnues to be the dollar, which holds the key to this "no landing" scenario. For now, it seems like every time we get closer to $1.30/Euro, the dollar buyers step in. In the event of a "run" on the dollar (say to below $1.35/Euro), all bets are off to this idealized scenario for financial institution stocks (and bonds). The stakes are rising for those who believe "it" can't happen, with "it" being a vote of "no confidence" for the dollar. Perhaps its a low probability scenario, but certainly not a "zero' probability, and in my view closer to 25% to 35% (say by late 2008/2009). A safe way to play domestic financials is with long/short hedged trades, capturing short-term mispricings among names in comparable sector (say it once again for the long COF/short AXP trade; more on this to come in future posts). Recent action of Japanese financials hint of something fishy is going on.