Category: UK & Europe

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Europe: Testing resistance

Dow Jones Europe Index rallied off support at 250 and is testing primary resistance at 265. Breakout would signal a primary advance to the 2011 high at 310. Rising 13-week Twiggs Money Flow indicates medium-term buying pressure. Reversal below 250 is unlikely but would warn of another correction.

Dow Jones Europe Index

Germany’s DAX is similarly testing resistance at 7600 after finding support at 7200. Rising troughs above zero on 13-week Twiggs Money Flow indicate strong buying pressure. Breakout would signal a long-term advance to 8400*. Reversal below 7200 is unlikely but would warn of a correction to the (primary) rising trendline.

DAX Index

* Target calculation: 7200 + ( 7200 – 6000 ) = 8400

The FTSE 100 similarly found support at 5740 and is headed for an attempt at 6000/6100. Rising 13-week Twiggs Money Flow (above zero) indicates buying pressure. Expect strong resistance at 6000/6100 but breakout would offer a long-term target of 6750*.

FTSE 100 Index

* Target calculation: 6000 + ( 6000 – 5250 ) = 6750

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Are Australian banks adequately capitalized?

Basel III Capital Adequacy Ratios (CAR) will require banks to hold a minimum Total Capital of 8% against risk-weighted assets (RWA), the same as under Basel II, but with additional capital buffers of between 2.5% and 5.0% depending on credit market conditions. With an average ratio of 11.5% (September 2011), Australian banks are short of the maximum Basel III requirement of 13.0% for markets in a credit bubble.

The problem, however, lies not only with CAR but with the definition of risk-weighted assets. Under RWA, loans and investments are not taken at face value but adjusted for perceived risk. These adjustments vary widely between banks in different countries. US banks still apply Basel I risk-weightings:

  • zero for cash and government debt (OECD Sovereigns);
  • 20 percent for (OECD) banks;
  • 50 percent for mortgages;
  • 100 percent for corporates.

Their counterparts in Asia and Europe apply Basel II risk-weightings, with more lenient mortgage risk weights, averaging 15 percent and 14 percent respectively.

Australia’s 4 major banks similarly apply risk-weightings (supervised by APRA) for residential mortgages as low as 15%, with an average of 17%. That means the big four hold less than 2% capital against residential mortgages. Even after mortgage insurance, Deep T pointed out earlier this year, leverage is close to 50 times capital.

Basel III introduces a minimum 3% leverage ratio which ignores risk-weighting and compares Tier 1 capital to total exposure — total assets plus derivative exposure and off-balance sheet assets. But this is a catch-all and allows banks with high quality assets to continue leveraging at 33 times capital. Fed guidelines are more conservative, requiring a minimum leverage ratio of 4% (“adequately capitalized“) with a recommended 5% minimum for well-capitalized banks. The ratio, however, excludes off-balance-sheet assets. None of Australia’s four majors appear to meet the Fed’s requirement at September 2011 — ranging between 3.9% and 4.8% of Tier 1 capital to tangible assets.

With household debt at a historic high of 150% of disposable income, 3 times higher than in the early 1990s, Australia shows classic symptoms of a credit bubble and cannot afford to be complacent. There are three areas of the banking system that require attention. Capital adequacy ratios need to be lifted as well as risk-weightings for residential mortgages. Improving these two measures should enable Australia’s four major banks to achieve a minimum (Basel III) leverage ratio of 5%.

Sources:

Click to access bcbs189.pdf

http://en.wikipedia.org/wiki/Basel_III
http://en.wikipedia.org/wiki/Capital_requirement

Click to access wp1290.pdf

Click to access wp1225.pdf

Casualties of the externality

Click to access EY%20Reg%20Alert%20Basel%20III%20June%202012.pdf

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Europe: Still positive

Germany’s DAX found support at 7200. Respect would indicate another attempt at long-term resistance at 7500/7600. Rising troughs above zero on 13-week Twiggs Money Flow indicate strong buying pressure. Breakout would signal a long-term advance to 8400*.

DAX Index

* Target calculation: 7200 + ( 7200 – 6000 ) = 8400

Madrid General Index similarly found support at 770. A 63-day Twiggs Momentum trough above zero would indicate a primary up-trend. Respect of support would indicate a test of resistance at 900, while failure would retrace to 720.

Madrid General Index

France’s CAC-40 retraced to 3350. Respect would mean another test of 3600, while breach of the rising trendline would warn of a down-swing to test primary support at 2900.  A 63-day Twiggs Momentum trough above zero would suggest a primary up-trend. Breakout above 3600 would confirm, offering a target of the 2011 high at 4100.

CAC-40 Index

* Target calculation: 3600 + ( 3600 – 3000 ) = 4200

A daily chart of the FTSE 100 shows medium-term support at 5740. Follow-through above 5880 would indicate an attempt at primary resistance at 6000/6100. Rising 21-day Twiggs Money Flow troughs above zero indicate buying pressure, but the last (marginal) breakout above 5880 warns of strong resistance at 6000. Breakout above 6100 would offer a long-term target of 6750*.

FTSE 100 Index

* Target calculation: 6000 + ( 6000 – 5250 ) = 6750

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There's No Solving Europe's Debt Crisis Without Solving the Jobs Crisis – Bloomberg

From the outside it looks like these [Eurozone] countries are faced with a debt crisis. From the inside it looks a lot more like a jobs crisis. Check out the chart below…….

via There’s No Solving Europe’s Debt Crisis Without Solving the Jobs Crisis – Bloomberg.

Hat tip to @10yearBonds

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If You Want to “Soak the Rich,” Keep Tax Rates Low « International Liberty

by Dan Mitchell

I’ve pulled evidence from IRS publications to show that rich people paid a lot more to Uncle Sam after Reagan reduced the top tax rate from 70 percent to 28 percent…….. The United Kingdom saw similar dramatic results when Margaret Thatcher lowered the top tax rate from 83 percent to 40 percent. Allister Heath explains.

During the 1970s, when the tax system specialised in inflicting pain, the top one per cent of earners contributed 11pc of income tax. By 1986-87, with the top rate down to 60pc, that had increased to 14pc. After the top rate fell to 40pc in 1988, the top 1pc’s share jumped, reaching 21.3pc by 1999-2000, 24.4pc in 2007-08 and 26.5pc in 2009-10. Lower taxes fuelled a hard-work culture and an entrepreneurial revolution. Combined with globalisation and the much greater rewards available for skilled workers, Britain’s most successful individuals earned a lot and paid a lot in tax.

via Evidence from England Shows that If You Want to “Soak the Rich,” Keep Tax Rates Low « International Liberty.

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Fiscal consolidation in Sweden: A role model? | vox

By Martin Flodén, Associate Professor at Stockholm University

Fiscal austerity was effective during the Swedish economic crisis, but that insight is not particularly helpful today. Austerity would have been more complicated both economically and politically if it had not been supported by currency depreciation and strong external demand, and crisis countries today do not benefit from such developments. Attempts to consolidate before growth had resumed failed in Sweden. One possible interpretation of these observations is that prospects to consolidate are bleak until competitiveness has been restored in crisis economies…….

via Fiscal consolidation in Sweden: A role model? | vox.

Hat tip to Delusional Economics

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Europe rising

Madrid General Index continues to indicate strong buying pressure, with 13-week Twiggs Money Flow rising steeply. Expect a test of resistance at 900.

Madrid General Index

* Target calculation: 725 + ( 725 – 600 ) = 850

Germany’s DAX is testing long-term resistance at 7500/7600. Troughs above zero on 13-week Twiggs Money Flow indicate strong buying pressure. Breakout would signal an advance to 8400*.

DAX Index

* Target calculation: 7200 + ( 7200 – 6000 ) = 8400

The FTSE 100 tests short-term support at 5860 on the daily chart. Shallow retracement suggests an advance to primary resistance at 6000/6100. Recovery above 5900 would strengthen the signal. 21-Day Twiggs Money Flow troughs above zero indicate buying pressure. Expect strong resistance at 6000, because of the number of previous peaks at this level, but breakout would offer a long-term target of 6750*.

FTSE 100 Index

* Target calculation: 6000 + ( 6000 – 5250 ) = 6750

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Ray Dalio: Market Insights | CNBC

Ray Dalio, founder of Bridgewater Associates, the world’s largest hedge fund, discusses his biggest worry — social disruption due to mismanagement of the de-leveraging by governments — and other market insights.

[gigya name=”cnbcplayer” PLUGINSPAGE=”http://www.macromedia.com/go/getflashplayer” allowfullscreen=”true” allowscriptaccess=”always” bgcolor=”#000000″ height=”380″ width=”400″ quality=”best” wmode=”transparent” scale=”noscale” salign=”lt” src=”http://plus.cnbc.com/rssvideosearch/action/player/id/3000117516/code/cnbcplayershare” type=”application/x-shockwave-flash”]

Also PIMCO’s Mohammed El-Erian on the benefits and risks of ECB intervention in the eurozone debt crisis.

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Forex Update

The Euro is testing resistance at $1.32 and its descending trendline. Upward breakout would warn the primary down-trend is ending. Recovery of 63-day Twiggs Momentum above zero indicates a primary up-trend. Breakout above the 2012 high of $1.35* would strengthen the signal, but only a higher trough of several weeks would confirm.

Euro/USD

* Target calculation: 1.275 + ( 1.275 – 1.20 ) = 1.35

Pound Sterling is correcting to support around €1.22 against the Euro. Breach of the rising trendline would warn the primary up-trend is ending, while retreat of 63-day Twiggs Momentum below zero would suggest a primary down-trend.

Pound Sterling/Euro

Canada’s Loonie is testing the new support level against the greenback at $1.02.  Respect of support would confirm the primary up-trend indicated by long-term bullish divergence on 63-day Twiggs Momentum. Target for the advance is $1.08* but expect resistance at the 2011 highs of $1.06.

Canadian Loonie/Aussie Dollar

* Target calculation: 1.02 +( 1.02 – 0.96 ) = 1.08

The Aussie Dollar respected resistance at $1.06 against the greenback, retreating to test support at $1.04 on the daily chart. Respect of support is likely and follow-through above $1.05 would indicate another test of $1.06. The 63-day Twiggs Momentum trough above zero signals a primary up-trend. Breakout above $1.06 would confirm.  Expect resistance at $1.075/$1.08, but target for an advance is $1.10*.

Aussie Dollar/USD

* Target calculation: 1.06 + ( 1.06 – 1.02 ) = 1.10

The Aussie Dollar is testing resistance at ¥83.50 against the Japanese Yen. Recovery of 63-Day Twiggs Momentum above zero indicates a primary up-trend. Breakout would signal an advance to ¥88*. Reversal below ¥79.50 is unlikely but would re-test primary support at ¥74.

Aussie Dollar/Japanese Yen

* Target calculation: 84 + ( 84 – 80 ) = 88

A few readers objected to my view that the RBA should intervene to prevent further appreciation of the Australian Dollar. One reason cited is that the RBA is not strong enough to stand up to global capital markets and would eventually be forced to capitulate. I disagree. If you are printing your own money you can take on all-comers. The SNB demonstrated this by preventing depreciation of the euro against the Swiss Franc, pegging the rate at 1.20 CHF for the last year.

Euro/Swiss Franc

The second argument was that “the market knows best” and any interference would cause more problems than it solves. My answer to that is that capital markets are subject to huge ebbs and flows, some determined by trade fluctuations but primarily caused by speculative flows and deliberate strategies by other central banks. If the RBA fails to act, local industry exposed to international competition may be irreparably damaged by loss of international markets and being under-cut in local markets by cheap imports. When the tide eventually turns, and the dollar weakens, it would be difficult to restore those industries if key capital equipment and skilled jobs have been lost.

The US is a perfect example: China and Japan hold more than $2 trillion in US treasury investments which helped to suppress appreciation of their currencies against the greenback, maintaining a trade advantage which cost the US millions of manufacturing jobs. It will be difficult to restore those industries lost even if the imbalance is corrected.

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