Nikkei, Ford , the US long bond and Mr. A Wiggen of Agora fame.

The other day I happened to see Mr. Wiggen on TV. Every 10 years he sticks his neck out to predict what will be the next 10 years best investment. Last time it was long gold/short the Dow Jones – which proved to be a very good trade. This year his best choice is long the Nikkei, short the US Government long bond. The guys at Agora are fiercely independent and even if they can be accused of all sorts of things like sensationalism they are definitely out-of-the-box thinkers. This 10-year call resonated well with me so here it is revisited.

Nikkei 225 Jan 2010 F Jan 2010 3

 F Jan 2010 2

St louis fed jan 2010 long bond

I put Ford in simple because it had recently completed a pattern known as a “diagonal” or an expanding wedge. It takes stocks down ( or up, as the case may be) beyond an extreme value and therefore leads to a rather violent reversal once complete. Japans Nikkei may be close to a low but the pattern is not complete and consequently, even though I agree with Mr. Wiggen over 10 years, I do think we should go a few thousand points lower first.

Note that the 30-year bond chart is similar to the Nikkei chart, however, its down trend lasted 30 years or so whereas the Nikkei has only been at it for 20, ergo a few more years and a little lower is certainly not out of the question.

Copulas , Cupolas etc. March 18. ( math. formulas and physics)

It was in the Toronto Star this morning, all our economic problems can be blamed on the Gaussian Copula. If you are like me and do not remember what that is , other than a little box on a roof with a wind vane on it, here it is from Wikepedia.

gaussian copula march 17

So what this obviously tells you ( 64 trillion worth of financial derivatives are priced on it), is that as long as you stay more or less in the middle of the road everything works as it should, however, as soon as you hit the gravel shoulder you are totally out of control.  Explained in simple terms, the chance of getting the plague is 1 in 10, the chance of starving is 1 in 10 and the chance getting shot is 1 in 10. The chance of all 3 happening is therefore 1/10×1/10×1/10=  1/1000 (which is true in the middle of the road). This assumes a covariance of –1, in other words none. In reality this would only happen in wartime exactly when these things tend to happen in threes (when you are on the gravel shoulder) and the odds of all three happening might be 1/100 which means that the math underestimates the actual risk by a factor of 10X, on 64+ trillion this can become a problem! Which leads to today’s Fed action, the buying of 300 bln longer term securities on top of the 700 bln mortgages already announced. By messing directly in the securities market the Fed is attempting to suspend economic rules. Granted these differ from physics in that at least for a little while it can be done, whereas the Fed has as yet not found a way to make water flow uphill. Here is the long bond chart courtesy St. Louis Fed.

ST louis fed 1

After the announcement the 10 year dropped 50 beeps putting it back at near the lows of the above chart. On the 30 year it was about 40 b.p. and looks like this;

longbond yield

The yield dropped from about 3.8% to 3.4% The last time long rates were artificially capped, I believe, was in the 5/10 years following the war, so from 1945 t0 1955 or so. Then the US was able to ration just about everything while the economy transitioned to peacetime. Also the US was for most practical purposes a closed economy. Either they will try to replicate those circumstances or it will soon become very clear that this does not work. Either way it seems to me high time to get out of long bonds. By the way, as all things have a PV, present value, it is worth noting that this SINGLE MOST IMPORTANT FACTOR determining the economic value of just about everything is the discount rate. From 15.5% to 2.5% everything became 2.55X as valuable. Were we someday to move back to the average of say 7%, that alone would take the stock markets down by 35% (assuming earnings stay the same!). All this with a CPI at 0.4% per month.