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Thursday, March 20, 2008

Massive De-leveraging Slams Commodities

Margin requirements have been raised at most of the major exchanges over the last couple of days. More importantly, margin requirements on CFD’s (Contract For Difference) have been raised DRASTICALLY. CFD’s are the weapon of choice for commodity investors. That is literally sucking the life right out of the usual suspects: Oil, and Gold. All other commodities, especially those that have gone parabolic, metals and softs, are getting the same treatment. This is MASSIVE de-leveraging at its best.

A simultaneous bounce in the US dollar isn’t helping any either. The US Dollar is bouncing from deeply oversold territory after a steep steady decline. A protracted bounce WILL SMASH commodities. A protracted bounce is quite plausible as the weakness in the Euro area economies becomes more obvious.

European March Services, Manufacturing Growth Cools (Update1): “Growth in Europe's service and manufacturing industries slowed more than economists forecast this month, a sign that the euro's appreciation to a record and oil prices above $100 a barrel are hurting economic expansion.

A preliminary estimate of Royal Bank of Scotland Group Plc's composite index fell to 51.9 in March from 52.8 in February, Reuters Plc reported. Economists expected a decline to 52.4, according to the median of 14 forecasts in a Bloomberg News survey. A reading above 50 indicates expansion.”

Dollar Rises Against Euro, Yen as Oil, Commodity Prices Decline: “The dollar rose to its strongest in a week against the euro as speculation a global economic slowdown will reduce demand for raw materials pushed gold and oil lower.”

This morning oil went deep into the $99 handle and gold is pushing to get below $900. What did you think a global economic slowdown would do? Duh.

On 03/11/08 I warned of this sudden break in my post Parabolic Commodities: The End is in Sight. There will be spectacular bounces, but they will be nothing but shorting opportunities. Recent price action in equities is a perfect example. Strength is now to be sold, not weakness bought.

Check out Bespoke’s Commodity Snapshot for another closer look.

The Fed cut 0.75, unleashing a massive short squeeze in the S&P 500 (SPX). Prices jumped 4% plus only to stall out yesterday around the 1340 area. Failure around the 1270 area would result in a cascade of selling that NOBODY can halt. The Fed is almost out of ammo and tricks. It is now only a matter of time before the final rinse cycle...

How do we know it was nothing but a short squeeze? How do we know it wasn’t REAL, SUSTAINABLE buying? The folks at Bespoke did all the hard work and collected the data in Short Covering Rally?

Bernanke May Run Low on `Ammunition' for Loans, Rates (Update1): “Federal Reserve Chairman Ben S. Bernanke may be running out of room to pump money into the financial markets and cut interest rates to rescue the economy.

The Fed has committed as much as 60 percent of the $709 billion in Treasury securities on its balance sheet to providing liquidity and opened the door to more with yesterday's decision to become a lender of last resort for the biggest Wall Street dealers. The central bank has cut short-term rates by 2.25 percentage points since September and will probably reduce them again tomorrow.”

This has been picked up by others, but is important enough for me to stress again here. The Fed has FINITE resources. They are being RAPIDLY DEPLETED. With rates now at 2.25 there is not much left on the rate cut front. With 60% of the balance sheet committed, there is not much left there either. The markets are LARGER than the Fed. There is a limit to how much the Fed can do.

“The actions mean the Fed, and consequently U.S. taxpayers, are assuming additional credit risks.”

In the end, the US taxpayer WILL get stuck with any bill.

Hellasious over at Sudden Debt got it right in his post: The Fed As Bank: “The Federal Reserve may be a central bank with special rights and obligations, but in the end it, too, is a bank and has to be very careful who it lends to and what kind of collateral it accepts in exchange.”

Bernanke has been anything but CAREFUL. The Fed is now sitting on all the junk NOBODY else wants. Hopefully it can give it all back in time…

Related Posts:
The Truth About Our Financial Problems In America


Stagflationary Mark said...

The parabola could not be denied! ;)

Anonymous said...

I really enjoy your commentary. Its concise and well-written. Keep it up.


Thai said...


Ben you have a great blog and deserve regular praise.

You did say commodities would get pulled down in this deflation just the other day (kudos), but do you think they will go down as much as equities and other asset classes? Or rather is there some inflation in the system that will still (in your opinion) keep them relatively less scathed?



Ben Bittrolff said...

Yon, Thai,

Thank you.

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