Recently the focus of many macro-themed traders has been the falling price of oil and its effect on petro dollar investments.
To us, this makes good sense. We had thought the weakness of emerging market debt and equity securities was pure risk aversion.
However a recent article published in FTAlphaville points to the withdrawal of approximately $50 billion petro-dollars from the banking systems of those countries since the end of 2014.
This represents a huge drawdown of liquidity for those countries and a rising tide of risk aversion in the worldwide banking system.
Dwindling liquidity and falling investment confidence normally translates into falling stock prices.
In our opinion, the recent worldwide market volatility is evidence that dwindling credit has begun to dissipate the effect of central bank efforts to inflate asset prices.
We have thought for some time that the increased volatility was due mainly to selling pressure, especially in US markets, by sovereign fund liquidation.
We believed those countries were raising liquidity to offset pressure on their national budget deficits. We believe this is still the case.
Oil and Credit
However, as we watch various central banks ramp up their efforts in the ongoing currency wars, we have become more worried about the falling supply of “offshore” liquidity supplied by the existence of recycling petrodollars.
We had thought the low price of oil would be more of a problem for petroleum producers.
However, as we are learning, lower oil prices are translating directly into lower supplies of the short-term credit the world’s banking system depends on.
This is spreading into developed countries as well as continuing to pressure emerging markets.
So, even as the central banks of Japan, Europe and China continue to manufacture credit, that effort it is being offset by influences outside of their control, mainly fewer petrodollars.
Based on that theory, we have changed our opinion on investing outside of the US and have decided to repatriate those funds by selling our position in both the iShares Large Cap China Fund (FXI), and the Wisdom Tree Europe Hedged Equity (HEDJ).
Those proceeds will remain in cash as we access future market trends.