BMO Transcript Sep2010

BMO Transcript Sep2010
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  Don Coxe STRATEGY ADVISOR,BMO CAPITAL MARKETS CONFERENCE CALL TRANSCRIPT Don Coxe ChairmanCOXE ADVISORS LLP.Chicago, IL(312) 461-5365email: September 3, 2010 The Call  : Don Coxe’s Weekly Conference Call conducted exclusively for clients and employees of BMO Capital Markets and BMO Nesbitt Burns Now! Trade FX for Fun and Profit!! Levered a Hundred to One!!! Thank you all for tuning in to “The Call”, which comes to you from Chicago.The chart that we sent out was the DXY, (the US Dollar Index) and the tagline is, “Now! Trade Foreign Exchange for Fun and Profit Levered a Hundred to One”. Forex Fascination… I want to discuss what is the latest appearance of what is equivalent of the Pajamahadeen, (which is the traders from home in the speculative market) and looking at what’s happening in the forex market.We haven’t talked much about that, and we’ve had big stories this week from reports from the BIS and from various regulators about the sheer extent of the explosion in currency trading, so I think that’s worth commentary.   US Dollar Index (DXY) September 1, 2009 to September 1, 2010   727680848892Sep-09 Nov-09 Jan-10 Mar-10 May-10 Jul-10 Sep-1082.47   Source: Reuters   Don Coxe Conference Call Transcript: September 3, 2010 Page 2 COXE ADVISORS LLP. Exceeding expectations… I knew we were going to have the payroll number, and not having any idea really, as to which way the market was going to take it or what the data would be, we could hardly feature that.I will comment that obviously I am pleased that we’ve got this bullishness in the market now on numbers that you never know until they come out, what it was that the market either feared most or hoped for most, because the numbers didn’t look all that encouraging.The unemployment rate edged up a tad and we weren’t adding jobs, but it was not as bad as the worst fears were, so we got a nice bounce in the S&P and in the BKX and the KRE and we got a big sell-off in gold and a rise in US Treasury yields, so for the moment at least we are going into the Labor Day long weekend with much more optimism about the US economy than we had a few days ago, and that’s a good thing.I’ll leave it to the economists to parse through the data and the comparisons and the updates of the previous ones — that’s not our game, so I’ll talk about a few themes that I think are relevant to most of the investors who follow these calls faithfully. Newest bait… Beginning with the story on foreign exchange, I’ve been watching (unscientifically) that on financial websites in recent months, there were more and more offerings of currency trading done by various banks and by online brokers, with all sorts of technical vehicles that you could use for profitable trading.In recent weeks I’ve seen (unscientifically because I am not much of a TV watcher) more television ads about how you can trade foreign exchange 24 hours a day, 7 days a week, and that this is the way that you can make a lot of money very fast.  Around the rules…again And for the retail traders it turns out that leverage of 50 to 100 — 1 was freely available, so that meant that on a 100 — 1 leverage you had a 1% rise in your direction, you doubled your money — and these are on spot trades, not futures (not the ones that show in the commodity indices) and therefore they are not subject to leverage rules.   Don Coxe Conference Call Transcript: September 3, 2010 Page 3 COXE ADVISORS LLP. They are apparently going to put the upper limit on that to 50 – 1, but there had been talk it would have been 10 – 1, which the banks reacted to with horror because you can bet the banks are making a lot of money by being on the other sides of these trades.Why is this of significance to serious investors? Grand scale greed… Well, what you can bet is that once you get a whole bunch of new players coming in using systems that were not in use in the foreign exchange markets previously, that there will be irregularities developing and bad signals.In particular, we find out now that the algo-traders, (the algorithm traders) the people, who gave you the “flash crash” and other such wonderful things in the conventional markets, are rated as being behind the surge in dealing (which is at $4 trillion a day now) in the currency markets.These traders are apparently making great bundles of money using their algorithms, and all that we know about markets where the algo-players eventually start to dominate it is that something big (and probably bad) is going to happen in that market.The algo-traders, (the ones who gave us the collapse of Long Term Capital Management) that were a big factor in the buildup of liabilities in the banking system, and they’ve been a big factor in the wildly erratic behavior of the stock market with big moves in each direction occurring far too regularly, even on light volume — as a matter of fact when you get lighter volume, it means that their impact is even greater.The reason it’s of importance to the kinds of companies that we follow is that foreign exchange is a big, big item in the profitability of commodity companies and they use various hedging devices, but when markets become frenetic like this, then those kinds of hedges become more expensive and more things can go wrong.Woody Brock (who is an unconventional but absolutely brilliant economist, who has seen things that other missed) a few years ago did a paper on technical analysis in investing, and he analyzed its use in various asset classes and concluded that there was only one asset class where it worked, and that was in currency trading, and that currency traders lived and died off their technical analysis.   Don Coxe Conference Call Transcript: September 3, 2010 Page 4 COXE ADVISORS LLP. The evidence is that those who were good at it actually could make profits more or less consistently, whereas he said of technical analysis, he was skeptical of any sustained alpha from technical analysis in other asset classes, whether you were trading bond futures or stocks. Hook, line and sinker… We assume therefore that that fact that technical analysis was working for so long in this, that that’s one of the things that sucked people into it for these even more sophisticated bits of technical analysis for the new Pajamahadeen.I only hope that for all those people that got wiped out in the tech crash and got back into trading before the last crash, that they manage to exit from their 50 to 100 – 1 trades before they get blasted. Unintended consequences… My fear is that you add together these algo-traders and these Pajamahadeens and something is going to happen where some sustained news goes badly and were what we get therefore is really wild and erratic foreign currency markets which put central banks in trouble — in other words that there is a feed-back effect when currencies behave badly.We’ve seen that in the desperate attempts of the Swiss bank to head-off the rise of the Swiss franc against the euro — the amount of money that the Swiss bank has lost to date on this is huge relative to the GDP of Switzerland.  A ticking time bomb… This is not all just theory or some market that’s out there that doesn’t have an economic impact, and therefore a part of the system which up until now has worked reasonably well, and provided a form of stability and a mechanism for business people and commodity producers to hedge their exposures, that this might be a market that actually becomes wildly disorderly, that there are bankruptcies and then once again we’ll find that some bank got into trouble by having extended credit to people — in other words it’s the next accident waiting to happen.I am certainly not going to tell people on the call that they shouldn’t be engaged in foreign exchange trading — that’s not the point, but it should be related I believe to your views about the way the fundamentals are evolving, as opposed to the short-term tergiversations that are going on in these markets, when you now know that these markets are collectively dominated by people trading off formulas and (or) technical analysis, something will go wrong.
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