 |
A New Year and a New Direction for the Dollar?
As my colleague Fernand Kong mentioned last month, 2007 was not a good year for the USD on many fronts. The year started out in a global "high-growth" mode, with the U.S. running at full capacity, an aggressive Fed attempting to put a lid an over-heated economy, foreign central bankers focused on not getting in the way of their localized expansion, but diligent on maintaining tight monetary policies. What a difference a year makes! Over the summer, the subprime mortgage crisis swiftly progressed from the U.S. housing sector, into collateralized debt obligations (CDOs), to leveraged loans, crossing over to domestic credit markets via commercial paper, and eventually into the wider global money markets. The USD suffered tremendously due to the evolving crisis and related uncertainties in the U.S. banking sector. By early November, the USD had collectively lost nearly 12 percent of its value against a basket of G-10 currencies, hitting all-time/multi-decade lows against all the G-7 currencies except the JPY. Many now believe the U.S. is entering a period of either flat growth or a mild recession for at least the first half of 2008.
Foreign exchange (FX), as with most markets, is very sensitive to crisis "unknowns", breeding the fear-factor, followed by extreme volatility/record technical levels, but as fundamental factors are sorted out, market corrections bring prices back to more realistic levels. For the U.S., the big question this year will be whether the subprime rout can be stopped and prevented from spilling over into the real economy. Many positive signs for the USD are beginning to materialize as we begin the New Year. The G-7 currencies affected by the potential USD rebound are highlighted below:
Euro Outlook
The basis for a gradual USD rebound versus the euro and its related local currencies rests heavily on fundamental assumptions — seriously undervalued USD levels, excessive pessimism on U.S. rate expectations, growing signs of slowing growth in core European economies — pointing to market developments that may help provide guidance as to whether the USD fall in late November may eventually mark the low for the multi-year USD bear cycle. We believe EUR/USD levels for Q1 through Q3 will tread water at current levels (1.4700), but by year-end 1.4200 will materialize as the projected mild U.S. recession in the first half of the year is short lived, and euroland struggles to maintain positive growth. The Fed probably has a least two more rate cuts coming, but the ECB may follow the Fed's lead with related rate cuts of their own.
Pound Outlook
The GBP was the weakest performer last year against the USD, and ultimately gained only 3 percent by year end. In the first half of 2007, the GBP was well bid against the USD as a result of the broad USD weakness linked to structural and cyclical factors (subprime crisis), renewed "carry trade" activity coming back into vogue, and an aggressive BoE monetary policy. The U.K. economy stands out as the one most exposed to a localized housing adjustment, liquidity bottlenecks, and an eventual credit crunch. The BoE will eventually be forced to lower interest rates as the U.K. economy cools, and based on that assumption, GBP/USD levels will improve throughout the year. As with the euro, Q1 through Q3 levels are projected to be at current levels (1.9800), but by year-end, GBP levels should approach 1.9000.
Yen Outlook
After the USD, the JPY has been the next weakest major currency over recent years. The weak performance in the JPY has been attributed to an attitude shift in Japan to take more risk and invest more savings in foreign assets. The stable local asset market environment and diminishing marginal returns has encouraged increased leverage to enhance yield, as carry trades funded out of JPY contributed to this global trend. Looking ahead, we expect more of the same, with USD/JPY levels to be relatively flat for the year from Q1 to Q2 at 108.00 to 111.00 by year-end.
Canadian Dollar Outlook
It was a wild year for the CAD last year. The CAD was the best performing currency against the USD in 2007, rising 15 percent. CAD has been and will likely continue to do well in 2008. The Canadian economy is directly linked to the commodity sector and the exports they represent. The dramatic move below parity in 2007 has begun to affect the Canadian economy in a negative way, forcing the BoC to lower rates in December. Based on the assumption of continued strong global commodity prices, our projection for the year continues to be at or near parity (1.00) for 1H'08, but consolidating to the 1.04 level by year-end as the BoC easing takes effect.
Australian Dollar Outlook
Many factors contributed to a volatile year for AUD in 2007. Strong commodity pricing contributed to its very strong economy, and as the RBA attempted to slow things down with associated rate increases, carry trade activity pushed the currency to 24-year highs of .9400 in November. More of the same is expected this year, as AUD interest rates will continue to hold up the currency, carry trading will continue to pursue yield pick-up, and commodity pricing will maintain its lofty levels. Our projection for AUD/USD is relatively stable from .9000 in 1H'08, to .8500 by year-end.
In summary, we believe the "bear-run" on the USD may be nearing an end. If the slowdown in the U.S. is relatively benign, global credit markets stabilize via subprime workouts, and global central bank monetary policies remain accommodative, the USD should see better levels in 2008. As we're not in the crystal ball business, the global landscape does look a little more USD friendly as we say goodbye to a nasty and forgettable 2007.
— Mark Noble, Senior Advisor, SVB Silicon Valley Bank's Global Financial Services
|
 |
Software Outlook
The software industry has been profoundly affected by the growing reach of the Internet, as mobile devices become capable of sophisticated functions and companies encourage users to store ever more data online. Improved Web-development tools have set off a boom of creativity, and developers continue envisioning new ways of using virtual spaces and are working to make it possible to travel freely between worlds and to host a large number of users simultaneously. New technologies have yielded even more opportunities for self-expression and information sharing. Mobile phones resemble computers more and more, although Web services and useful applications are hampered by problems with interoperability. (MIT Technology Review)
Wonderful Widgets
Consumers are enthralled with widgets — the tiny software applications that let them share music, photos, and videos on social networks. Facebook users alone have installed nearly 13,000 widgets approximately 765 million times for a combined value of $374 million, according to Adonomics, a Web site that tracks widgets on the social network. Some widgets have the potential to morph into full-fledged Web sites that can generate even more revenue. Indeed, corporations are viewing widgets less as frivolous gadgets and more as business tools to boost traffic and ad revenue on their sites. (Forbes)
Nanotech Promise
Nanowires and carbon nanotubes are proving valuable for generating and storing energy. Some nanowires can convert vibrations into electricity, while others can generate power from light. Carbon nanotubes could be useful for extracting more power from cheap solar-cell materials. Nanotechnology could also greatly improve batteries. Researchers have made fibers out of viruses coated with functional materials, which could lead to textiles that collect energy from the sun, convert it into electricity and store it until it's needed. On the cutting edge of the industry, theorists have predicted a new class of materials that could render objects invisible as the materials interact with light in unusual ways. (MIT Technology Review)
Finding the Exit
In 2007, venture investors enjoyed one of the strongest years for exits, but they're also waiting longer (a record median of 6.7 years) before seeing their companies go public or be acquired. U.S. venture-backed companies raised $52.9 billion through initial public offerings and corporate mergers last year, the most since 2000's $117 billion, according to VentureSource. Seventy-four companies went public last year and the annual median amount raised at IPO was $75.2 million, while the median price paid for companies completing mergers and acquisitions in 2007 reached $97.5 million. (VentureWire)
Bubble-era Funds Pop
This year may see the shutdowns of some VC firms created during the dot-com bubble due to poor performance. The pace of their shutdowns is expected to accelerate over the next several years as they near the end of their 7-to-10 year cycle when they would be expected to return money to limited partners. Many say the shakeout will do little to dampen the venture investing landscape and view it as a positive that will create market efficiencies. Some venture firms just didn't make the returns. Some include partnerships that aren't stable and don't have that critical mass, and, for others, the generational transfer that has gone poorly. (Silicon Valley Business Journal)
|
 |
Do you enjoy the ISO each week? Share it with colleagues or peers. Invite them to sign up using the link below.
|
|
 |
|
January 7, 2008
Seeking SWF . . .
. . . for a long-term mutually beneficial relationship. Age, appearance, and long walks on the beach are unimportant. You must have quick access to billions in cash. Smokers are ok.
For those of you expecting an enticing personals ad, we apologize. For those looking for information on a proprietary vector-graphics format from Macromedia, we say — get a life. In our world, SWF refers, of course, to sovereign wealth funds.
Sovereign wealth funds are a relatively new phenomenon. The key concept is for governments to preserve, in perpetuity, national wealth derived from excess foreign exchange reserves' resulting trade imbalances, often from the export of primary commodities. The prototype was the Alaska Permanent Fund established in 1976 to capture and invest the royalties from oil concessions and the Alaska pipeline. The good citizens of that frozen wasteland determined that the government had completely squandered the $900 million windfall received for oil leases in 1969, and they wanted to move the money out of the hands of spendthrift politicians. Today, that fund totals $40 billion and pays an annual dividend to every resident of about $1,500. Unfortunately for the Alaskans, the growth of the fund and the Alaskan economy has been thwarted by federal restrictions on new oil projects.
Today, $40 billion is pocket change in the world of SWFs. Trade imbalances and recycled petrodollars imply that these funds will grow from $2.5 trillion to $12 trillion by 2015, according to a study by Morgan Stanley. The Abu Dhabi Investment Authority (ADIA), established in 1977, manages more than $1.3 trillion and recently rode to the rescue of Citibank, plunking down $7.5 billion for a handsome 11 percent coupon. In other deals last year, the SWFs put up $28 billion mostly for subprime bailouts, but there was also that $5 billion to support Barclays' failed takeover of ABN-Amro and the $3 billion the Chinese put into Blackstone pre-IPO.
Playing with these truly "governmental" sums has us wondering if these investors will be successful. Prince alWaleed bin Talal, the "Arab Warren Buffet," invested $590 million in a troubled Citicorp in 1991. Even after the recent drop in Citicorp shares, that stake today is worth over $6 billion — or a 15 percent compounded, 16-year annual return. Other plays haven't done as well. The Chinese investment in Blackstone is off a cool $1 billon (34 percent) in less than a year. Since governments often set the rules and control the playing field they can create advantages for their favored investments. It's widely expected that Blackstone will have favored access to investment opportunities in China as a result of their key shareholder.
The real concern here is not that these funds are pursuing excellent risk-adjusted returns (even if they cheat a bit at home) but, rather, that their motivation might be political. Larry Summers penned an op-ed in the
Financial Times last summer that worried about the geopolitical influence that might come with these goliath funds. When Russia's Gazprom cut off natural gas supply to the Ukraine in 2006, they served up a startling example of state commercial interests being used to exploit a "diplomatic" objective. All things considered, our sense is that it may not be such a bad thing to have these countries betting on our economic success. Sure, if they all suddenly decided to sell, life in the markets would be awful, but then don't we sit with that risk every day now?
So Long, Goldilocks
With the unemployment rate jumping to 5 percent on Friday, the Fed's most recent forecast can be used for that fish scaling chore. Chaos and turmoil ensued as Fed Funds futures reached for new territory. The market is now assigning a probability of 100 percent to a 25 bps easing at the end of the month, and the betting on 50 bps is up to 68 percent. Elsewhere in the real economy, housing, construction, and the manufacturing sectors are in intensive care, while rumors of a dying consumer abound. Bright spots, including the service sector (which is still expanding), and a decent factory orders print, did nothing to stem the red ink. As investors return from a couple of lazy short weeks, they already have a deep hole to dig out of with the DJIA off 3.5 percent and the Nasdaq down an astounding 5.6 percent.
The "fed is in a box" scenario that we speculated about some weeks ago seems to be developing nicely. The market is once again screaming for cheap money even as key inflation markers move into the red zone. The dollar remains near long-term lows, oil is dancing with $100 a barrel, and gold prices have finally brought my 1980 investment in a grad school ring back to par.
'Change' or 'Experience'
As an unreformed political junky, we don't care much what these campaigns are spinning so long as it isn't dull. Iowa was not dull. In fact, there were upsets aplenty. The big surprise from our view is that young people turned out in droves to have a say in what can only be termed an anachronistic primary process. It really took us back. For some reason, war and an energized youth vote seem to go together.
— Jim Anderson, Editor
Investment Strategy Outlook is published each week to highlight issues we hope you find relevant and topical. The views expressed in this newsletter are solely those of its authors and do not reflect the views of SVB Asset Management, Silicon Valley Bank, or any of its affiliates.
|
|
|
|
|
|
Print Version 
