Why the Yen Is Ready to Ricochet

Today's comment is by Jack Crooks, Editor of World Currency Options and President of Black Swan Capital.

Dear A-Letter Reader,

The Japanese yen is like a global risk thermometer. When it's going up, investors are nervous.

And now, not only has the yen been going up...but I think the mercury will soon break through the top of the glass.

Reason: The yen carry-trade is reversing.

In recent years, international investors borrowed an estimated US$1 TRILLION worth of Japanese yen. They converted the yen into other currencies, and used that money to buy riskier investments, including U.S. stocks.

But now, with turbulence on the horizon, they're starting to reverse that transaction. They're selling the riskier investments and buying back the yen.

Result: The yen is rising. And when U.S. stocks are shaky, the yen rises even more.

The key:

The Stock Market Is Not Just Volatile,
It's Getting Riskier Day by Day

Despite a rocky road, most investors have convinced themselves that this year has been a good one for equities.

They've been willing to overlook a whole litany of problems. Meanwhile, the Federal Reserve has been more than willing to help them out by lowering the fed funds and discount rates.

This "mama-bird-will-save-us" mentality has left investors expecting to be hand-fed easy returns.

But have they really gotten good returns? Consider this table, which shows the stock market's weekly action over the last year:

As you can see, out of the 48 weeks of trading this year, the winning weeks outnumber the losing weeks by just six.

Moreover, even with this past week's rally, the S&P closed on Friday just 4.6% higher than where it opened up the year. That's far less than its average annual return!

And prior to last week, the major averages hadn't been able to string together three consecutive days of gains since September. In fact, November revealed an extreme lack of conviction among stock market bulls.

Investors Are Starting to Realize
Now Is the Time for Caution!

As I just showed you, even though the Fed is throwing in the life preservers, the U.S. markets are struggling just to stay afloat.

Meanwhile, the risks keep getting harder and harder to ignore:

• Financial firms all over the U.S. and Europe are struggling to cope with the credit crunch and taking write-offs in the tens of billions of dollars
  
  
• Sub-prime mortgage losses and write-downs are expected to grow far larger, with cuts and bruises likely to morph into gaping wounds for major lending institutions
  
  
• The very real possibility that some banks may not be able to survive the blood loss
  
  
• The inability of banks to expand lending thanks to net losses, ratings downgrades, and dwindling assets

Just last week we saw Dubai tossing US$6.5 billion to Citigroup...Wells Fargo revealing its expectations for significant losses on home equity loans...Freddie Mac slashing its dividend by 50%.

This isn't very reassuring for the rest of the pack. It's certainly discomforting for those businesses whose growth depends on access to lending.

There is little doubt: Further losses are set to shake up the markets a heck of a lot more. And every time they do, it will drive more money back into the Japanese yen.

My conclusion ...

The Japanese Yen Will Surge
Higher Than Most Think Possible!

We've already seen a sharp rally in the yen, and in my opinion, there's plenty more where that came from.

Sure, it could pull back a bit after its great run. But I believe the long-term trend in the yen has turned from down to UP as the carry-trade unravels.

Never forget: An estimated ONE TRILLION dollars worth of Japanese yen has been borrowed and plowed into higher-yielding, higher-risk bets. When the money reverses, and those yen loans get covered, the currency must ricochet back to higher levels.

JACK CROOKS, Editor
World Currency Options

P.S. Click Here for an easy way to tap into the yen's power - for a possible double or triple-digit gains in the coming weeks.

Is Santa Claus Coming to Town?

U.S. stocks turned in their best two-day performance in over five years last week. In fact, Wednesday's 2.6% advance by the Dow Industrials was the best percentage gain this year. Is this the start of the Santa Claus rally?

This year, the jolly old elf may come to town a little early. And instead of a red suit, he'll be dressed like Ben Bernanke, bearing the gift of another Fed rate cut.

According to the talking heads on CNBC, the prospect of more easy money when the Fed meets next week is the main catalyst driving the stock rally. Fed fund futures are showing a 100% chance that the Fed will lower its benchmark rate by at least another quarter-point on December 11.

Federal Reserve Vice Chairman Donald Kohn spread some holiday cheer on Wall Street last week in his speech. He said the "uncertainties" about the economy are "unusually high" and that the Fed would be "flexible and pragmatic" in response.

Investors interpreted Kohn's remarks favorably. They're assuming the Fed will indeed continue to cut rates in response to the sub-prime market shock that's still gripping Wall Street. With tightening credit markets, they are hoping that's the case anyway.

According to Bloomberg, "The London interbank offered rate (Libor) that banks charge each other for euro loans due after the end of the year jumped 64 basis points to 4.81%, the highest since May 2001."

Meanwhile, the Libor rate for borrowing in U.S. dollars also jumped 40 basis points to 5.23% - the biggest move in more than a decade."

This key lending rate that banks charge each other for routine short-term funding is once again going through the roof. That's exactly what happened in August and September, before the Fed began easing interest rates.

Analysts are blaming the high Libor rates on the high demand for cash going into year-end, when financial market activity will slow down considerably. But there's something more sinister at work here.

A money manager interviewed by Bloomberg put it best: "The increases we've seen in borrowing costs cannot be simply explained away by year-end pressures; this is a full-on credit crisis." Indeed, with the New Year four weeks away, banks are hunkering down with as much cold-hard cash as they can get their hands on in this uncertain environment.

Add in the fact that investors are terrified to have too many long positions going into the holidays. And you've got the recipe for an intensified credit crunch.

This is why Fed officials seem to be going out of their way to sound sympathetic, or "dovish" in recent remarks. It's also the reason why central banks around the world are following the Fed's lead. They're busy injecting plenty of extra-credit into the global financial system right now.

All of this cheap money seems to be having the desired effect so far, as witnessed by big gains in U.S. stocks recently.

But it's not just the U.S. that's partying like its 1999 all over again. Markets in Asia, particularly beaten down Japanese shares, are surging higher too.

Considering the region's robust economic growth, soaring business profitability, and relatively attractive share prices, the Asia-Pacific region has far more reason to rally than U.S. stocks do this holiday season.

So keep a sharp eye on Asia during this Santa Claus rally.

MIKE BURNICK, Senior Editor and Global Markets Analyst

EDITOR'S NOTE: Many U.S. investors have given up on Japan - which makes it that much more attractive to us. In fact, stocks in Japan are now priced at just 17.5 times earnings - that's only HALF the average price-to-earnings ratio over the past four years. Just last week, Mike recommended a strategic option to his Market Shock Trader subscribers to capitalize on the profits flowing to Japan. Click here to try a risk-free trial to Market Shock Trader, so you can read more about this intriguing way to play the coming Asia rally.

Privacy & Rights

Why Data Mining Won't Catch a Terrorist - But it Might Snag an Identity Thief

The U.S. government assures us that data mining makes us safe from terrorists.

For example, they dreamed up "Secure Flight," which data mines for potential terrorists. Under this initiative, you won't be able to obtain a boarding pass for a flight to, from, or within the United States unless you receive permission to travel from the Transportation Security Administration.

But the government is lying. Data mining will never effectively identify terrorists.

Here's why:

Data mining analysis defines how an individual fits into a group, and predicts that person's behavior based on characteristics of that group.

For instance, under Secure Flight, the TSA will analyze your credit records, your travel history, your bank records, your credit card records, your telephone records, your Web surfing records, and many other types of records to determine if you pose a terrorist threat.

If you "pass" the TSA analysis, you'll receive a boarding pass. If you don't, you won't be able to travel by air, even within the United States.

There's only one problem, other than giving the government carte blanche over our personal data, with zero accountability for its misuse. Data mining for terrorists doesn't work. And it never will.

Terrorists don't fit an easily identifiable profile. While most terrorists are male and under 40, nearly two billion people fit this profile worldwide. There are also an exceedingly small number of actual terrorists, and they deliberately obscure their trail to avoid detection.

These factors make data mining to identify terrorism an expensive waste of time. Security expert Bruce Schneier estimated that even with 99.9% accuracy, data mining for terrorists would generate one billion false alarms for every real terrorist plot it uncovers.

For some applications, though, data mining does work. It works best when there's a well-defined profile of whatever you're searching for, a substantial number of "events," and minimal consequences for "false positives."

For example, data mining can effectively identity credit card fraud. All credit card companies now data mine their transaction databases, looking for patterns of spending that might indicate a stolen card.

Since a credit card thief generally purchases a large number of expensive items shortly after the theft, it's possible to identify fraud with a high degree of accuracy. The consequence of a false positive - mistakenly identifying a credit card as stolen - is that the legitimate owner temporarily can't use it. But this is a problem only until the rightful owner contacts the credit card issuer to tell them it was a mistake.

The federal government surely knows these facts. Yet, authorities persist in claiming that data mining will somehow help identify terrorists.

Read my blog to find out why the government insists on invading your privacy for this lack of results.

MARK NESTMANN, Privacy Expert
President of The Nestmann Group
www.nestmann.com