Euro Banks Net Short on US Dollar

"In a dramatic shift, the U.S. branches of foreign banks became net borrowers of dollars from their overseas affiliates for the first time in a decade, Federal Reserve data released last week showed."
http://www.reuters.com/article/2011/08/18/banks-europe-fed-idUSL5E7JI0Q20110818

The dollar carry trade is in full swing. The euro banks avoid currency conversion by borrowing/shorting dollars from their US branch. They go out and buy assets with the borrowed dollar. Potentially commodities and/or bonds.

If the US dollar reverses hard, a euro bank unwind will weigh heavy on the respective held assets. The USD ETF chart shows a monthly potential for a H&S that takes USD to zero. The banks have little confidence in continued use of the USD. That H&S is only a left shoulder and head, so a drop to $24, recoil to $35.50, then terminal drop to zero. This is a dooms-day scenario.

A more likely scenario is a rebound from $25.50 to $42.50 (50% retrace, potentially in progress), followed by a drop to $10.00 mid 2012 or $15.00 by late 2012. This could spell severe inflation of commodities, but a rampant 50% rebound from $25.50 to $42.50 would surely cause euro banks to unwind their carry trades (possibly in commodities, stocks, and other assets), potentially forming another 2008 asset-class downturn.

If you thought 2008-2009 was a bottom, the consequences of a US dollar collapse may introduce even greater volatility. This kind of move would fulfill a secondary 10 year lost decade starting at 2008 lows and lasting until 2018. Less of a dooms day scenario, but a horrible defeat to mid-term investors (baby boomers holding off retirement).

TED's Steady Incline, Fear Barometer Rising

The TED Spread continues its steady rise, but failing to cross above 26.2. There may be a resistance to higher premiums until an unexpected event occurs. Euro-trash debt is being managed. The PIIGS are restless, but not squealing too loudly.

The US Treasury sent a press release with the subject "17 Community Banks Across the Country Receive $214 Million to Help Small Businesses Access Capital, Create New Jobs" speaks about $214 million provided to US Banks for the purposes of small business lending as part of the "Small Business Jobs Act." It continues saying $337 million in SBLF funding has been made available to date. Additional SBLF funding announcements will be made on a rolling basis in the weeks ahead.

In short, this means the Small Caps have been given a significant shot in the arm with cheap loans. This should goose the small caps to outperform the mid/large caps over the next two or three quarters. Since $214M (new)/$123M (previous) is a 173% increase, which may have contributed to a 6% YTD IWM increase, and a 37% 1-Year IWM increase, so a projection is a 10.4% IWM rise in the next 6 1/2 months, and a 64% forward 1-Year rise.

From the same press release "The State Small Business Credit Initiative (SSBCI), which is also a key part of the Small Business Jobs Act, allocates $1.5 billion to new and existing state programs that will leverage private financing to spur $15 billion in new lending to small businesses and small manufacturers. A total of 54 states and territories applied to take part in the SSBCI and 16 states have already had their applications approved for $570 million in SSBCI funding.

So if you thought $214M in new loans was good for Small Business, $1.5B is being spent to leverage 1:10 loans to small businesses for $15B in total funds available.

This legislation may instigate a small business bubble. Or at least an expansion of the economy and Wall Street into perceiving significant small business growth. Bank lending typically lays the foundation of many economic cycles.

In the meantime, the cost to protect your portfolio with a collar is still elevated. The CSFB still has potential to continue the existing range between 30 and 22. However, the market
US Debt Ceiling fear is a driving factor. Gold's new high confirms fear in the USD and US Treasuries. Baring a failure of Congress and the President to agree on a significant Debt Ceiling deal, the CSFB is poised to strike 30 and then decline as the new market trend sets in.

Watch the five day rate of change on the IWM and QQQ to spot the new trend when the CFSB hits near 30, or falls below 26. And follow in the direction of the rate of change.

TED Slowly Climbing & Fear Barometer Sideways Channel

Since 1/19/2011, the CSFB has trended in an upper sideways range between 25 and 30. Given the three main moves in this channel, there is a high probability a new pattern wants to form (quite possibly a fall back to the lower channel in the 20 to 25 range observed between Jan 2010 and Jan 2011).

The TED Spread is not overly concerned. Banks feel there is heightened intra-lending concern, but nothing out of the ordinary for Greece's micro-debt crisis.

The Greece fire has been calmed, but premiums remain high and may trend higher as the US debt ceiling debate continues. Everyone has placed their bets on the two parliament votes, but there are three steps of acceptance: one vote to initiate the reform, a second vote for implementation of the reform, and finally the citizens {accepting the outcome, or voting out the powers that be, as is all the rage these days overseas.}

There is a high possibility for a positive debt ceiling outcome (raise the debt ceiling) to turn into a pessimistic market outcome as fear, uncertainty, and doom (FUD) can cast a shadow over the market. Reduce spending, increase taxes, and improve growth and employment will be key factors to balancing this budget.

In the meantime, the bullish rally this week reclaimed much of the June losses.
If we are at the top of a near term bear channel, this would justify the CSFB climbing to 30 again, and then collapsing back into the mid-20s, so premiums can ramp-up for US debt-ceiling vote in August.

Our President and Congress will take the debt ceiling vote to the Nth hour, since both parties feel very strongly about their own ways to bridge the gap. Let the political noise get louder, but don't let it distract you too long.

NFLX Recap

NFLX went above 240 by May expiration. Selling a higher call at 250 or higher would have been profitable, as NFLX launched then dragged back to 245. A H&S pattern formed but failed at 50% of a right shoulder, which projected a $200 price level.

NFLX Ready To Short?

It is never too late to short NFLX. Just lower the expectations.. NFLX did. ;) The less optimistic earnings call from NFLX is not stopping Nas-crack.
Maybe sell a cash covered May NFLX 240 call, looking for theta. If assigned, sell a higher call, at least let NFLX reward you for being wrong.

Forecast from the daily chart:
A slow side-grind through the high 220s would be the most pain for the late shorts and mid-term dip buyer crowds.
A fast rebound to 242 would shake out the weak shorts.
A test of 223 would be a sign of further weakness, with a test open for 193, but the long term support says look closer to 200 (a nice psychological number).

EuroZone Debt Crisis? Banks Are Not Worried, But Currency & Bonds Are

The TED Spread is not moving on the Ireland bailout and the possible 'contagion' to other Euro sovereign debt. TED has held under 15 since 11/24/2010. A sharp breakout would be an indicator to start protecting equity positions. Until then, the risk level is lower.

However, since November 5th, the EUR/USD currency pair has been falling, implying weakness in the Euro currency. And, the Emerging Country Sovereign Debt ETF PCY is showing short term support. I expect a retest of that support ($27.25), since everyone wants to see whether this is a real crisis forming.

The CSFB moved higher since November 5th, 2010, and fell back slightly on the 12th and 26th, both down days after either a running bull the day before. The cost of protecting a position is lower now relative to September 20th, and the market was 5% higher between September 20th and November 24th.

As the market has chopped around the SPY 120-118 range, the risk premium has gone nowhere but up between 11/16-11/29. A confirmed downtrend would be at least two consecutive days where SPY break lower, with a move lower in the CSFB.

Comfortable Churn

On a 3month, MidCaps are underperforming the Qs. The SmallCaps are struggling on the lows, but currently attempting to exceed the Qs on highs.

TED says banks/credit troubles are an afterthought, and continues to trend lower. This implies Euro debt is on par with US debt.
The fear barometer is holding flat as the market channels flat the past week, implying a comfort level in the /ESZ0 1140s.