Trade Team Update

As the debate in DC and the panic on Wall St. rages, all markets have basically come to a grinding halt today. Volumes on global exchanges are near non-existent and the liquidity within the FX market is at severely diminished levels.

Bailout:

Overall, I do not think today's testimony did much to comfort the legislators who are under pressure from their constituents to tell the Fed and Treasury to screw off while trying to manage the pressure Bernanke and Paulson are putting them under to get this bill passed ASAP.

This may just be political grand-standing, but I get the sense that DC lawmakers are not sold on the main facets of the plan and this is why almost every lawmaker asks the same questions:

1. Why does it have to be $700 billion?
2. Why does the Treasury have to buy toxic assets at prices higher than the true market value?
3. What exactly will happen if the Treasury doesn't get authorization to access all $700 billion?
4. How will the bailout fix the housing market?

Will the bill be passed into law by Friday? No, I don't think so but I believe DC and the Fed are eager to give the markets something they can hold on to and work with in the time being.

Bernanke:

Bernanke made some very interesting comments today... comments we need to consider as FX traders.

Bernanke's claim is that if this bill doesn't get passed that unemployment will rise rapidly, access to credit would completely dry up, growth would come to a standstill, the housing market would suffer, and Wall St. would take billion-dollar hits.

Excuse me Ben, but haven't those issues been happening for at least the past 16 months? I remember not too long ago the unemployment rate was comfortably under 5.0%... where are we at now?

Other idiotic comments included Bernanke saying this bailout plan would not cause any inflation and that inflation would continue to moderate over the medium-term. I almost fell out of my chair when I heard that. They must have stopped teaching at Princeton that creating debt and printing money, and adding currency to the money-supply is the true cause of inflation...

When questioned about how this creation of debt would affect fiscal issues and deficit issues, Bernanke threw Paulson under the bus... his response was that Paulson's Treasury was responsible for handling those deficit issues and it wasn't the Fed's concern.

Bernanke did say that the $700 billion bailout would, and I quote, "add difficulty to the economy and fiscal health". Great, so he admitted it after throwing Paulson under the bus and passing the buck his way.

What could end up hurting the euro is Bernanke's comments on rates... he basically said current interest rates are artificially low and that they would rise sooner than later... the dollar bulls enjoyed hearing that comment today.

Paulson:

Paulson failed once again at selling his plan. We did get an interesting confession from Paulson... he said, "A rescue plan was studied over a period of months, hoped it would not become necessary; did encompass small banks as well as larger institutions".

A period of months? Wait a minute... just a few short weeks ago Paulson was saying the fundamentals of the U.S. economy are sound and that our banking and financial sector was sound.

If that was the truth why would they have started this process months ago while telling the markets everything is A-OK? You can see what kind of crap we're dealing with here... lies, cover-ups, politics, glad-handing, and a whole bunch of BS.

The Solution:

Many traders have asked me what I would do in this situation and what the solution is. I don't have the brains, the arrogance, or the wisdom to answer that question.

But, traders are asking so I'll going to throw an idea out there anyway...

I hate to say this, but I do believe government involvement is required. But, only to get the process started and not any more involvement than putting the wheels in motion of handling the toxic assests and selling them back to the market.

I think it is wrong for the Treasury to basically write a multi-billion check to Wall St. in exchange for all of their near-worthless assets. Those assets aren't totally worthless and this is where I think the government can come in to act as an "auctioneer" of these assests.

Under the current plan, the Fed and Treasury price these assets at what they believe they're worth. This is price-fixing. Price-fixing is not going to solve the issue because these assets need to be valued by the market and not price-fixed by the government.

In order for the Treasury to eventually sell these assets back to the market, only the market can decide what they are worth and not the Treasury. The Treasury wants to use the free market to participate in solving the issue, but the free market can't do what free markets do if the assets are pre-priced by the government.

That is one of my biggest issues with this plan and why I think it's potentially disasterous to go about it that way. In my view, I think the Treasury can ease the equities and securities markets and comfort the credit markets by stepping in to orchestrate an auction type situation where the free market could value the mortgage-backed securities (MBS) and then the Treasury could facilitate the transaction between the seller and the buyer.

The Treasury could then set-up an escrow facility to minimize the risk and give comfort to the markets that the government is in control of the risk and that the free market is in control of deciding prices. The Treasury could collect a small transaction fee or maybe charge 1 point per transaction.

That's a very primitive and simple plan. I don't have an economics degree so that idea may not even be workable. But the bottomline is, the Fed and Treasury almost have to be involved, DC has to back the plan, and the taxpayer exposure and debt burden needs to be kept at the absolute rockbottom minimum.

If the Treasury creates billion of dollars worth of debt, it's going to hurt securities and both of those factors are USD-. If the Treasury does a bailout job and can do it significantly cheaper than $700 billion, both of those factors are USD+.

For every $12 dollars the Treasury gets in taxpayer money, $1 goes to paying debt holders back for buying our securities. Under the Treasury's plan, at least $700 billion worth of new debt will need to be created, the defecit level will be raised to over $11 trillion, and because of economic conditions taxes cannot be raised. Plus, fewer securities will be purchased by foreigners.

I think you can see the risks there...

Tomorrow:

Home sales fell 2.2% vs. an expected fall of 1.6%. Home sales are down 10.7% year-over-year. There's a 10.4 month supply of unsold homes which is an improvement but still at recessionary levels.

Median home sales are continuing to plunge, falling 9.3% year-over-year. This is the largest plunge in the data's recorded history. The dollar should be paying a price for this data. It didn't today but that doesn't mean it won't in the near future.

Tomorrow we get a ton of data... New Home Sales, Initial Claims, Durable Goods, and a bunch of Feds speaking all over the place. Fundamentally I have no real views for tomorrow. I can make an argument for the data to be USD+ or USD-. It may not even matter if the market's are focused on this bailout bill or we have big moves in commodities or a potential breakdown in Treasuries or a surprise event.

Basically, there's a crapload of stuff happening right now and these issues and potential events can change the market in the blink of an eye. The trends can change with every passing rumor that market manipulations want to throw out to the wolves.

EUR/USD:

The longer the euro stays in this range between 1.4600 and 1.4720, the closer we get to making a bigger and more exagerrated move. I'm still very cautious on buying the USD.

It's frustrating to see the euro running out of steam up at these levels and there's certainly room to correct more, but what I know about these issues on Wall St, with the USD fundamentals, and issues happening with Treasuries, I see risk on the dollar and I do not want to be caught should the market make a sharp move against the dollar.

The euro is not without its own risks. The pressure growing on Trichet to cut rates and the possibility of a large European bank failure make the euro a risky trade. Basically both currencies suck.

The euro is still showing bullish signs within the price action but the upside momentum is sporadic and is preventing it from holding onto gains. The lack of decent buying liquidity is also a factor weighing on the euro and no one can predict if and when this buying liquidity will return.

Today's low (ask) was on my downside key level of 1.4611 and so far that level is proving to be solid support after several tests at the close of NY and start of Asia.

This whole bailout plan is nothing but USD-. Why the market isn't burning the dollar at the stake doesn't make much sense to me but we have to play the hand we're dealt.

The 1.4611 level is still very key right now. A sustained break there shold send us down to test 1.4580 and then potentially to the key 1.4550 level. I still have longs at 1.4555 and will hold those open for now.

We need to make a sustained break of the 1.4730 and then the 1.4790 levels in order to even think about getting above the 1.4800 level at this point. Maybe now that the testimonies are over the markets can refocus on the the tasks at hand and we'll see more volatility. This is what I'm expecting.

As always, use strict risk management and do not overleverage.

buffet updates

This move by Warren Buffet to invest $5 billion into Goldman Sachs is a total game-changer I think. It already caused a Japanese bank to announce an investment into Goldman.

I believe we see Wall St. rally tomorrow based on this news. This announcement by Buffet is huge. He's pulling a JP Morgan move and it's very smart and will certainly be welcomed and applauded by the Fed, Treasury, and the lawmakers in DC.

I would expect the Nikkei to rally and Wall St. to rally tomorrow which means volatility in the yen crosses and likely for the euro.

Trade Team Update - - 9/23/08

Most all markets were relatively quiet today, a lot quieter than I expected them to be. I guess global market players were busy watching the Fed and Treasury testify in front the lawmakers and were left confused by the political grand-standing we saw in DC.

Circus comes to town:

I don't really like the circus too much, it's kind of weird to me but I did enjoy today's circus on Capitol Hill. The clown car brought in Bernanke, Paulson, and Cox to testify before a Senate banking panel. Some of the politicians hit the Fed and Treasury hard, I was surprised.

Several Senators ripped up the plan and basically called it unworkable. Paulson's clause to give him free reign in decision making was challenged. Most Senators offered an alternative that made much more sense and wouldn't cost nearly $700 billion.

The idea is to tackle the issue a piece at a time and work through it sensibly and economically instead of creating a mass amount of debt and a mega burden being placed on the taxpayer at a time when the taxpayer (consumer) has gone into survival-mode.

From the wires:

Senator Dodd: Draft legislation from Treasury is unacceptable in current form - Insists it remains possible to get lawmakers to pass the plan before the November election if changes are made. 9/23/2008 2:34:05 PM

Senator Shelby: Reiterates that Congress will not rubber stamp the Treasury plan, will consider alternatives 9/23/2008 2:34:37 PM

As I said, I do not believe this program will get signed this week. The Senators overall displayed very strong concern and showed a real lack of faith in Paulson and Bernanke.

Paulson never expected this fight. He's up against the ropes and he's not pushing the plan through as easily as he expected. He has no real answers to offer and keeps repeating the same lines about how the plan must get signed this week in order to save Wall St. from Armeggedon. DC isn't buying it.

Paulson did more stuttering and circle-talking than selling. Bernanke was way more comfortable and more forthright with his answers. Bernanke said in very plain terms that the cost could exceed $700 billion and that the plan "might turn a profit, but couldn't be sure". At least he was honest about that...

Bernanke also made it clear risk was on the taxpayer. Bernanke painted a different picture of the bailout compared to that of Paulson. Paulson is a spaz and he's not doing a very smart job selling this to the lawmakers.

I think Paulson's in for a bigger battle tomorrow. Our favorite politician, Ron Paul, will get a shot at the goon squad and it should be at least entertaining. I really hope Ron hammers the Fed on this plan.

We knew there was going to be a political battle and we're seeing it play out in real-time. I do believe the legislation gets passed eventually, but it won't come easy. Americans are bombarding their legislators with calls and emails and telling them not to let the Treasury have the $700 billion. People are really pissed and are pressuring their representatives.

Stay tuned...

EUR and USD Risks:

Today I was talking with a respected trader and wanted to relay our conversation... we were talking about the EUR/USD and the risks on the pair -- equal risks on the euro and the dollar. This is food for thought type stuff, but issues that must be considered as we draw close to the extremely volatilie October through December session.

One of the equal risks is that of a rate cut. The Fed and ECB are both in positions to cut rates. The ECB has a slight advantage over the Fed and is not as likely as the Fed to cut, but there's a high enough probability the ECB gets forced to cut in the near-term.

How would the market handle a dual Fed and ECB cut? I can't answer that question because it will put us in unchartered waters. And speaking of unchartered waters, the EUR is also at risk because we've yet to have a real fundamental or financial disaster in Europe.

The market has not had to deal with a failure or a large downside shock out of the Eurozone. I'm still very much concerned about a larger European bank failure and what that could do to the euro.

Paulson has urged the ECB to enact a similar bailout plan for European banks. And as I said yesterday, we know Credite Suisse, UBS, and a few other big European banks have come to the Treasury for a piece of the $700 billion. Does Paulson know a failure is probably going to happen in Europe?

Look at this comment that came over the wires today:

EU Bank Supervisory: EU financial system exposure to LEH and AIG are somewhat muted 9/23/2008 1:52:18 PM

Lets read between the lines... this dude is not saying Europe's financial system isn't exposed to risk from those companies. So, if he's not saying there's no exposure, then he's probably saying there is exposure, especially when you read the last part of his comment about the exposure being "somewhat muted".

The question is, we know they are at risk, but what does "somewhat muted" in liquid cash terms?

I think any signs of weakness or some big downside surprises in the euro fundamentals, or a shocking bank failure, or a surprise move by the ECB cannot be ruled out and taken off the table. Those are valid risks and just another reason why we cannot establish a clear trend under current market conditions.

Bernanke made a comment this afternoon that was related to an issue I've been talking about with bonds. He said something about not knowing how the credit rating agencies would look at the U.S. debt. Two seconds later the euro started moving up and made an 80 pip retracement in under an hour. That's a miniscule example of what the euro would do if a bond downgrade were to happen.

Fundamentals:

Most of today's euro data was worse than expected and shows further proof that growth is weak in Europe. Today's Home Price Index showed that home prices dropped a dramatic 5.3% y/y in July. We are not close to a bottom. The bailout will not fix these housing issues, it won't stop foreclosures, and it won't create easier access to credit.

Bernanke said that if the House doesn't pass the bailout plan the U.S. "might" go into recession. We're already there based on what we've seen in the housing, consumer, and jobs sectors. Forget this "two negative quarters of growth" textbook crap. We're not in the Great Depression, but overall economic condition points to recession. The fundamental landscape is worse now than when the euro was at 1.6000. Europe is not far behind...

Fundamentally, we have another big day with the circus show part II. We get German IFO and the Eurozone's Current Account. I don't expect any big downside surprises with tomorrow's euro data.

Existing Home Sales is the big piece of data in addition to Crude Inventories. I have mixed view on the home data. Mortgage apps have been stabilizing and based on some reseach I believe we could see a print at expected or even above. I would be more surprised to see a strong downside number.

Obviously the big event is on Capitol Hill. I really hope this next group of politicians hammer Bernanke and Paulson on two fundamental issues that don't sit well with me...

1. Allowing foreign banks to get a piece of the bailout money.
2. Adding credit card debt and student loans to the bailout plan.

EUR/USD:

The euro retraced just as we expected. Our low today hit my 1.4621 downside key level to the pip and held before moving up after Bernanke's credit comments.

I'm not ruling out further downside testing and I have not taken any new longs above the 1.4550 level. I'm short from up at these levels above 1.4720. I mostly sat on the sidelines today and may do the same tomorrow if the markets behave the way they did today.

Now is not the time to get impatient about trading. With this bailout plan potentially getting signed into law at any moment, the whole ballgame could change in a matter of seconds. I don't want to get caught up in that kind of risk and chaos.

If the Asian markets are quiet we may see some decent ranging during Tokyo. I expect to see the volatility pick up after London and we'll hopefully get a better idea of the markets at that time.

1.4660-1.4680 is a key area to watch along with 1.4620 and 1.4580 levels on the downside. There's some decent resistance ahead of the 1.4730 and 1.4775 levels.

Today's key levels worked out well so I will post more later on. Be smart with your trades and your risk management.

Key Levels

Right now we're in the expected downside retracement from the 1.4860 level. We do have some more room to drop but there's downside resistance within the real time price action currently.

With more normalized market conditions, I'm going to post some key levels to watch. News or panic trading could certainly affect these numbers, but we'll see how they hold up.

Key downside levels:

1.4752
1.4727
1.4684
1.4666
1.4621

Key upside levels:

1.4838
1.4856
1.4883
1.4918
1.4944

I don't see any reason we can't make another attempt at sustaining a break of the 1.4800 level sometime before London opens. The 1.4760 level is initial key support. There should also be a battle between the 1.4680 and 1.4700 level should we drop that low.

Tomorrow's events in DC could play havoc on the markets, especially if no confidence is instilled in the markets and the panic trading continues.

A few traders have asked who I would recommend reading to get other points on the current situation facing the markets.

Here's my no-BS list:

John Mauldin

Mauldin is the only commentator/analyst I read. Where my analysis might be the art of the market, he's got the science. He's a trader too and he does his homework.

Financial Times

I prefer to stick to the news that comes over my newsfeed because it is what it is... they don't have copywriters manipulate the data or the delivery of the data.

But I like the FT when I want to see how certain events are being reported. I don't trust any newspapers, but FT stands out.

Trade Team Update - - 9/22/08

It finally felt like the good old days today... you remember those days when the euro would kill the dollar, gold and crude would go up, the Dow would get hammered, and treasuries would sell-off... now you can see why I've been saying there's a tremendous amount of risk on the USD right now.

The EUR/USD moved over 400 points bottom to top today, which is the single biggest gain by the euro against the dollar since 2001. Crude was up over 16% today marking its best gains in history. Gold was up over $35 and the Dow closed down over 370 points.

The 10-year yield has been skyrocketing and bond prices are falling dramatically. We are seeing a continuation of panic trading as money flows are pouring out of securities and into the safety of gold.

I think everybody is buying gold... the central banks, the conspiracy-theorist goldbugs, hedge funds, daytraders, and institutional players. At one point crude was up $25 today. Today was the last day of the October crude contract and going into the final two hours the bulls ambushed the bears and put on a short squeeze. It was certainly a beautiful move and one unlike we've ever seen.

I believe all of this is stemming from the continued uncertainties surrounding the Treasury bailout plan and the political tensions that are beginning to rise. There will be no comfort for the markets and little respect for the USD during this process and while the markets are left in limbo waiting for facts and the actual legislation to be signed into law.

One of our senior FXI members posted an article by these people called the London Forex Blog and these folks are already calling the Treasury's plan an "absolute success". This is irresponible commentary in my opinion. I caution all traders to beware of this mindless rhetoric.

Obviously smart money doesn't agree with with this London group. If smart felt the same way then gold, crude, and the USD Index would not be sitting where they're at now. I told you yesterday that these issues could send commodities and the USD Index to very dark and scary places... I think we saw some of this today.

We do not even have full disclosure of the entire plan, let alone government approval to carry it out. It may not even happen this week. Here's what Senator Reid said:

"A rubber stamp of the market rescue plan will not be tolerated, Congress taking situation seriously and necessity for legislation."

Senator Shelby says he:

"Has concerns that the Treasury rescue plan is not workable or comprehensive; wants to explore alternative solutions. More discussion is needed and not swift passage of the current plan."

Neither Democrats or Republicans are 100% sold on the bailout. I may be wrong but I believe Paulson submitted a measly 3-page report outlining the entire plan and basically expecting the Senate and House to pass it in a day or two. I don't believe we'll even see it completed this week.

We don't even know the market value of the assets the Treasury is offering to buy from the holders of the toxic MBS's. As I said yesterday, there are a lot of unanswered questions and too much speculation for the markets.

The markets have no confidence and this is why we see keep seeing extended and exaggerated moves almost every 24-hour period. An unconfident market is ill-liquid, and the brave money will use what liquidity they have to move their positions to into profits.

Tomorrow:

The euro will be tested tomorrow as we get consumer data out of France and manufacturing and services data out of Germany and the Eurozone. Fundamentally the euro has very weak to the downside. I haven't found a whole lot of evidence to show a strong turnaround the past 30-days, so we may see EUR- data.

If this price action momentum sustains into London and we get strong EUR data I expect we move up again.

But the real risk is with the testimony of Bernanke and Paulson. Each goon will be testifying before a different government committee and I would expect the exchange between Bernanke, Paulson, and the politicians to get heated at times.

These testimonies could cause quite a bit of volatility in our market and within the global markets. I can't stress that this is a high risk event. Any mispeak or confusing rhetoric could send the markets into panic selling again.

The other issue is that both Bernanke and Paulson know they're in front of the entire world markets, everyone will be watching and looking for clues. If they want to, they will use the opportunity to manipulate the markets. If the Fed and Treasury have gone back to being uninterested in a strong USD, they will not stop themselves from making commentary they know will weaken the dollar. If they want to prop the dollar up they will do this as well. Be prepared for anything.

EUR/USD:

Right now some of the upside momentum has eased but the risk is still clearly on the USD at this point. This move on the has more to do with gold's strength and the lack of confidence market players are feeling.

The euro is not suddenly getting strong overnight because the fundamental and financial problems in Europe haven't magically disappeared.

I've been waiting months for a big European bank to fail and the failure hasn't materialized. Today we discovered that UBS, Credite Suisse, and a few other big name banks have come to the Treasury with their hand's out, asking for a piece of the bailout cash.

It's not fun having to borrow from others, so if these European banks supposedly have no exposure to the same issues Wall St. banks have, why would they go to the Treasury for bailout money?

It's been great seeing the euro move up, but my concern remains on the possibility of a European bank failure going down soon. If this were to occur, I think there would be a run on European banks, the images would get broadcast all over the world of the nervous pensioners beating on the doors of their village bank, demanding their savings. That would put a hurting on the euro.

As far as the USD is concerned, all of these events on Wall St., the planned bailout, and the mass exodus out of Treasuries is very USD-. If commodities keep running and the market keeps buying crude and gold on dips, the euro should keep moving up towards the 1.5000 level this week. Strong EUR fundamentals will help the upside momentum.

After running a solid 400 points I would expect to see some retracement over the next 12-hours at some point. Price action is currently not showing a whole lot of retracement but things can change fast under these market conditions.

Be smart with your entries and your risk and be advised tomorrow could be extremely volatile.

EUR/USD Weekly Outlook 9/21 thru 9/26 2008 part 2

EUR/USD:

This week will start with a lot of questions that are unanswered. In reality, nothing has been fixed. The government has dropped a nuclear bomb on the markets and will take the responsibility for cleaning up the mess and rebuilding. Politics have become part of the equation. Banks will still fail, Wall St. will still panic at times. More jobs will be lost and more turmoil will hit the economy.

I don’t like to get emotionally caught up in panic, rumors, and speculation about anything extreme happening, but I do believe the USD fundamental landscape is in worse shape now then when the Fed stopped cutting interest rates. In the near-term I expect the unemployment rate to continue rising, job losses will stay at elevated levels, manufacturing should remain to the downside, and growth should remain non-existent.

I don’t care what the GDP numbers tell us, the U.S. economy is not growing and expanding. Those strong growth numbers we saw this summer were the result of the stimulus program. The next round of GDP data in the next quarter should be USD-. There is little access to credit right now. LIBOR is stressed and banks are hesitant to lend.

The U.S. economy will only truly begin to recover when the housing market finds a bottom, home values stop falling, inventories drawdown, and potential buyers get easier access to secure credit. I do not see a housing turnaround happening the rest of 2008.

The euro made a nice dip early Friday morning but as the market regained some of its sanity, the dollar bulls began covering their short positions and euro bulls returned with strong buying to drive the euro back up towards the 1.4500 resistance level.

All markets have been disjointed while this mess on Wall St. plays out. On Friday I finally saw some order in our market and I saw some proper price action behavior. Everything the Fed and Treasury are proposing is USD-. If the market decides to respond the correct way, we should expect to see the USD sold-off across the board.

As you know, the market’s not being behaving properly the past few weeks and I believe this is mostly due to the intervention and manipulation we’ve seen from the central banks and the utter lack of liquidity. If the big money movers decide to test the waters and do the right thing by selling the dollar, we will see the EUR/USD make its way back to the 1.5000+ level. A bottom should be in at the 1.3880 level and we should begin making higher lows and testing higher highs – if the markets do the right thing.

This doesn’t mean I’m closing from euro shorts from the 1.5800 and 1.5600 levels, but it does mean I’m going to take risk by buying the euro on dips and make an attempt to play the “logical” side.

I really don’t have much to say about the EUR/USD until the market opens, and I have adequate time to watch the price action and run my numbers. London will change the ballgame this morning as will NY and Wall St. money flows. So, be advised conditions are likely to be volatile, exaggerated, and we could see erratic price swings as the markets work through this mess.

Trading:

My view is clear: these events on Wall St., the government’s bailout plan, and the current fundamental health of the U.S. economy are all USD-.

On Friday I began scaling out of my USD long positions. My GBP/USD short at 2.1105 was closed at 1.8304 on Friday. All other dollar long positions in other pairs were closed for profits. I will not close my euro shorts from 1.5600 and 1.5800, they will remain open but I may begin closing euro shorts from 1.4600 and lower.

If you’re still holding short EUR/USD at 1.6010 and higher, you may want to consider taking some profits… maybe close a portion of the trade and lock in that tremendous ROI. I know some of you are still patiently holding, now you may be the time to reward your patience.

I will take risk on the euro long side. Last Thursday I gave strong warning against USD long positions on any of the majors. This warning remains even though we could see the euro test the 1.4300 level or lower. I believe there is now more risk on the dollar than on the euro even though the euro’s fundamentals remain weak.

I’m not really a yen trader, but watch out for those pairs. As these issues on Wall St. and on all global markets persist, the yen crosses will keep going schizo and the volatility will remain heightened. Trading any of the yen pairs is well beyond the realm of my risk tolerance and I urge strong caution there.

The best thing to do is keep a level head and not go into panic mode. It’s not the end of the world and these markets will eventually work themselves out no matter what. Most of you should not even be trading under these conditions. The risks are extremely high. What should may not always be what is.

I do not think the entire global financial system is collapsing and I do believe the markets will work toward equilibrium in the weeks ahead. None of this has come unexpectedly and we knew it would be ugly. Markets will be disjointed, volatile, and ill-liquid for at least the short-term.

I expect trading conditions this week to remain extremely difficult. As I said, I do not believe anything has really been fixed, but we’ve just seen a lot of political maneuvering and manipulation in order to calm the irrational and panicked market participants.

Expect the guerilla warfare conditions to continue this week. The games between the banks and brokers and retail traders will surely stay at criminal levels. Nothing can be done about this. Some brokers are worse than others, but they will all be playing games.

The fields are ripe to run stops this week… on both sides of the EUR/USD. As the central banks calm the markets I believe we’ll see more players come back, big time and smalltime players alike. Some risk will get put back on the table and we should see some higher liquidity levels.

Trading won’t be easy but it’s not impossible to pullout profits from this market. Many here have been doing it week in and week out despite the chaotic conditions. Traders here have reported ROI of 5% or more per week. Not only are those traders beating Wall St., they are beating impossible odds.

Be smart tonight and this week. Use strict risk and money management and do not overleverge. If you can be disciplined to do just that much, you will not only survive this market, you will come out of this mess better than when you went into it.

EUR/USD Weekly Outlook 9/21 thru 9/26 2008 part 1

USD:

Is the great dollar bull run of 2008 over? Possibly, but in my view, it never existed and was mostly smoke and mirrors. The dollar’s unstoppable run the past ten weeks, in my opinion, was manufactured by the Fed and ECB. Here’s why I believe this to be true.

First, look at the timing of the dollar’s rise. It happened while market participants were on summer holiday and the markets were completely ill-liquid. The field was ripe for harvest and the odds were in the Fed and ECB’s favor to manipulate the dollar during this timeframe. While Europe was on a seven-week holiday and the rest of the financial markets were focused on Wall St., the Fed and ECB used verbal and physical intervention to push the USD Index up and drop commodities. In fact the ECB started the gold sell-off which helped fuel the dollar’s run.

Do you remember our good friend Jean-Claude Juncker from the ECB? Do you remember how he shocked the markets three weeks ago by saying “the euro is overvalued in real terms”? He said that two times and both times he used that verbal intervention it pushed the EUR/USD down several hundred points. I do not believe it was pure coincidence he made those comments right before the U.S. financial markets melted down to the point they did last week.

The Fed and ECB knew all along what Wall St. would come to. Both central banks knew the government would have to take the entire U.S. financial system into receivership. And they knew what this was going to do to the dollar – destroy it. I’m not ruling out the possibility of more manipulation because this mess could ultimately send the USD Index and gold to places that are very dark and scary.

At this point we do not have full disclosure on the Fed and Treasury’s plan to save the financial system and to bailout Wall St., and to stop the housing market from collapsing. Basically, the U.S. government is going to buy bad mortgage assets, take on the risk, fund the programs with taxpayer money, and overtime re-price and resell these almost worthless assets to banks and financial institutions for a higher premium than what they are worth now.

For example, if Lehman Brother’s is only able to get $0.20 on the dollar for an asset, the Fed may be able to get $0.40 on the dollar. Then the asset is in the hands of another creditor, the original debt holder is off the hook for the worthless paper, the Fed makes a small profit, and everybody’s happy. That’s how it’s supposed to work, but the fact government is handling this delicate operation means it could be a disaster.

The Treasury says the plan will cost $700 billion and last a minimum of two years. The Treasury is raising the national debt ceiling to $11.3 trillion from its current level of $10.6 trillion. I put the cost at $1 trillion minimum. This is $1 trillion we don’t have and $1 trillion that will be created out of thin air. Debt must be created by the Treasury and sold to foreign investors. I’m not convinced that will happen right now, but more on that later.

We joke about the Treasury’s “printing presses”. It’s not a joke anymore because the presses will run. Bernanke and Paulson will have to inflate the money supply. You know what that means… inflation. That is the true definition of inflation – printing money – adding money to the economic system. We won’t really know how much money the Treasury prints because we don’t get M3 from the Fed.

But it makes sense now that we saw a season of dramatic deflation because the central banks knew we were headed into a prolonged period of inflation caused by flooding the money supply with a worthless currency. And that is the exact reason why I say the dollar’s bull run could be over.

Only further manipulation can prop the dollar up now. This is economics 101. This is the epitome of what Austrian economics teaches us. The Fed and Treasury’s programs and the money it’s going to take to run them are inflationary and suck the value right out of the dollar.

The dollar should be slaughtered. Gold should steadily rise. Foreign investment in U.S. debt instruments should continue to decline. More banks should fail. More panic should ensue in the weeks to come. And, in a perfect world, the dollar should be sold-off. Will it happen the way it “should”? Only the markets can decide the fate of the dollar… and if the dollar does get heavily sold-off I would expect to see more intervention.

Politics:

Politics are now coming into play and that’s a very bad thing. We are going to see some political battles over this plan to completely bailout the entire U.S. financial sector. Republicans and Democrats will battle and each party will use this disaster for their own political advantage.

The involvement of politicians means it will cost the taxpayers more money, it will be mismanaged, and it may even decide who the next president is. Both McCain and Obama are already using the issue to gain political leverage.

Last Thursday McCain said he would have fired the chairman of the SEC and on Friday he said he would not bailout Wall St. McCain better be sure all of his constituents and supporters and political allies feel the same way he does before he keeps running his mouth…

There are only two politicians in DC that I trust to do the right thing – Ron Paul and Jim Bunning. Paul and Bunning are the only two that understand free market capitalism and the problems with fiat currencies, inflated money supplies, and big government. They will be ignored during this process even though they are the only two voices of reason in DC.

Both Obama and McCain will fail miserably at their jobs as it relates to the economy and fixing the financial system. It’s a losing situation for both candidates. McCain knows as much about economics as I know about multivariable calculus (I never made it past algebra 1.2). McCain believes interest rates should be at 0.00%. Enough said.

I’m not real clear on what Obama thinks about the situation or what his plans are to fix it if he’s elected because he never says anything that makes sense. He talks in circles but you never get a definitive answer on anything. What I do know about Obama doesn’t give me any comfort that he has a clue.

McCain has a few big name corporate CEO’s and business people are aligned with him, but that doesn’t mean much to me. Warren Buffet is aligned with Obama… that doesn’t mean much to me either. No matter what, we’re in for a painful political war that will drag on while Wall St. continues to go from euphoric to schizophrenic and back again.

Bonds:

For weeks I’ve been talking about irregularities with U.S. bonds. I’m getting extremely concerned about bonds and it gives me just another reason to believe the dollar’s run could be over. When Paulson announced his bailout plan at the end of last week, bond yields shot up, prices dropped, and money flows poured back into equities.

This is a problem. The bailout plan is going to need heavy money flows going into bonds and not necessarily into stocks. We know that in July foreign buyers of bonds dried up to almost nothing. This is terribly USD-.

There are some very smart bond traders and very smart strategists in the bond market. I have to think they see what I see, which is a potential collapse of certain U.S. bonds and or the possible default by the Treasury.

Right before the big bailout plan was unveiled, panic-money poured into the 3-month T-Bill driving the yield to almost negative. I’ve never seen anything like that, it was shocking. But now that Wall St. is saved, money is going into equities and out of securities. The other issue is that I think the foreign view on the U.S. will be downgraded while this mess in the financial sector gets political and continues to drag on.

The U.S. government relies on billions of dollars of foreign money to buy debt in order to feed the deficit and keep the lights on in DC. If we see panic in the bond market or a collapse or the Treasury defaults, the dollar is going to take a whipping unlike anything we’ve ever seen.

As a currency trader I usually only focus on bond yields but now the prices matter because if the yields keep flying up that means the prices are dropping. If the prices collapse, we have issues. If we see a panic collapse with treasuries or treasuries get downgraded or the Treasury defaults on debt re-payments there will be a violent dollar sell-off. The central banks could try to intervene against that but the point to understand is any of those events would be highly USD-.

Fundamentals:

The data on the books this week is only going to serve to further complicate the issues were dealing with right now. We get a lot of growth data out of Europe. The bulk of this week’s fundamentals will come out of the U.S. as we get key housing, consumer, growth, and inflation data. Overall, I’m not expecting to see strong USD+ data this week.

Let’s not forget the fundamental landscape is not in great shape either. We’re still going to have a battle of to see whose data is worse, the USD or the EUR. But more important than this week’s data are the numerous speeches we get from the Fed and ECB this week.

The markets will be watching and listening for any clue, sign, or signal from the Fed and ECB on future monetary policy. Many believe the ECB will be forced to cut rates by at least 50bps before 2008 is over. I expect this speculation to ramp up as the pressure is put on the central banks to provide cheap money and easier access to credit.

We hear from Trichet, Bernanke, and Paulson this week. We also hear from several ECB’s plus we get Fed speeches from Fisher, Plosser, Warsh, Bullard, Lacker, and Evans. Bernanke and Paulson will be on Capitol Hill testifying.