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Risk Reversal Continues

Since one of the top Bloomberg stories today focused on Bill Gross’ highest cash position since the fall of Lehman Brothers, I think it is appropriate to assess the backdrop that might explain his actions.

The article focused on the idea that Bill Gross foresees largely rising rates in the United States in 2010.  That idea might have some merit, but it would probably be more likely that Gross expressed that view by shorting treasury futures and interest rate swaps.

I believe the reason that he is getting cautious is the same reason that I have focused on the rapid decline of Greece and rapid rise of the dollar.

The default risk on Greece is spiking rapidly

The default risk on Greece is spiking rapidly

Greece needs to be bailed out.  The question is whether it’s going to look like the US bank bailouts of 2008/2009.  Can the IMF and ECB (European Central Bank) afford a string of sovereign bailouts?  If Greece goes under, is Ireland next?  What kind of effect will that sort of turbulence have on the debt of states, cities, and companies that have less than stellar balance sheets?  How will the equity markets react and what will interest rates around the world do?

The other signal that is confirming my fear is the rapid reversal in the dollar.  Believe it or not, the dollar is still the flight to quality of choice.  The trade a month ago was selling the dollar and investing the money in emerging markets.

The dollar is spiking as a reciprocal to Greece

The dollar is spiking as a reciprocal to Greece

I suggest we all keep a close eye on Greece.  I believe that this outcome is going to be the driver of the stability/instability found in the first quarter of 2010.  It seems that the major media outlets are not paying nearly enough attention to what many might suggest is an insignificant component in the global markets.  If there is anything I have learned from 2008, it’s the strength of the contagion effect.

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