Chinese Opera

You'll hear plenty of explanations in the coming days for what's happening in all markets, and particularly the metals, but there was really only one reason that mattered today. Early this morning, Chinese Premier Wen Jaibao made it clear in an interview before a trip to meet European leaders that Beijing plans to step on the brake, hard, to slow the Chinese economy. Interestingly, he also made it plain yet again that these measures would not include upping the value of the Yuan any time soon. Though we obviously wish we could, we don't make any claims to having predicted today's market action. But we have penned our fear of more concerted dampening action by China for some time now. As we mentioned in the last Journal, China's government made it plain earlier in the month that it would keep tightening if it could not otherwise get the irrational exuberance under control. Wen gave no indication what specific measures are to be expected. It's safe to assume that we'll see further increases in reserve requirements for the Chinese banking sector, which will effectively curtail its lending ability. Beijing is concerned (and it should be) that a boom and bust cycle could all but wipe out its financial sector. We have been saying for years this is a much, much weaker sector than some outside observers claim it to be. China has problems similar to those that plagued Japan. China's crony-capitalism is official-sector "loans" to a myriad of state enterprises that are unlikely to ever be repaid. Many of China's larger banks would probably be near bankruptcy if their books honestly dealt with these loans. Beijing has to earn its way out of this problem, and ease those loans off the asset side of these ledgers. As soon as Wen's interview hit the wires the selling started in London, first base metals and then precious metals getting sold hard. The heavy precious metal selling didn't actually occur until New York opened. Clearly, American and European traders had different opinions about the follow-on effects of Chinese tightening. On the base metals side, the largest losses were reserved for nickel, which fell 10% and is mirroring the precious metal situation where the biggest former gainer is seeing the heaviest selling. Copper also took it on the chin, which is not surprising given China has been the main argument for those who, unlike us, thought that copper still had a lot of immediate upside in its price. Clearly, today's action included some massive program trading when downside stop-loss levels ...

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