Ahab and Sea Freight Prices...

In the past few weeks, there has been a surge in the number of commentators claiming that recession is near, including Julian Robertson. The primary reason is ostensibly the credit crises – with data from the ABX (credit quality indices that track housing mortgages) tranches of the lower most quality trading at their historical lows. Funds that presently are long on the lowest-quality tranches and have exposure to the underlying, the housing market, via CDOs will basically have to incur serious capital losses – or just fold. Fair enough, big banks will have to buckle their belts and spending on corporate jets will fall.

But, is this portentous for a coming recession or decline? Or worse, does it matter that the US might be hit – if you hold an emerging markets portfolio? The Baltic Index (for shipping) has been a chartbuster and over the past few days the tonnage has shot through the roof, measured by freight forward agreements. The Baltic Indices have hit their historical highs – with indices tracking grain, sugar, coal and other iron ores. (See Reuters – story code QnL 19672363) The underlying theme is that demand for commodities, minerals and other long-dated shipping containers continues to be pushed up by China, India and other emerging behemoths. The increase in demand means: (a) demand for US dollar increases while making payments (b) demand for domestic currencies increases while making international trade payment for value-added exports. Which will dominate? Can India create and sell to the world value added products that result in a net increase in the demand for rupees? Therein lies the rub, as the bard says.

The decoupling of global demand, vis-à-vis, the US economy is here to stay. (To wit, read this. )And the generic trend is towards appreciation of emerging market currencies. Three key factors will contribute to short term reversals and volatility:

• Political trouble resulting in a flight-to-safety!
• Correlation spikes between thickly traded emerging market countries – resulting in portfolio reallocation en-masse.
• Ham-handed policy response in response to FX appreciation. (Participatory notes, anybody!)

In essence, two years from now -- the present set of emerging market exchange rates will seem comically undervalued against the dollar!