Nuclear and market meltdowns

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by David Malone

Japan is now facing two meltdowns.  Nuclear and market/yen.  Or perhaps it would be more accurate to say it is facing one and causing the other.

The news from the reactors at Fukushima is contradictory and would be comic if it wasn’t horrific.  What we do know is that the French are advising their citizens to leave Tokyo and planes are being sent to get them.  We also know that earlier today, the European Energy Commissioner, Guenther Oettinger said,

“The site is effectively out of control … In the coming hours there could be further catastrophic events which could pose a threat to the lives of people on the island.”

The reason he said that, apart from daily explosions and fires, is that it has been confirmed by TEPCO, who own and run the plants that there is no cooling water getting to the reactors to replace the water which has boiled off, leaving the rods in both the reactors and the spent-fuel containment pool uncovered and approaching melt down.  TEPCO admitted this afternoon that if the rods remain without water to cool them then it is likely a chain reaction will restart.

Two plans have been talked about today as being variously underway, nearly there or not nearly there at all.  One is laying a power cable to power pumps.  The other is building a temporary road so as to get water cannon close enough to shoot water in.  As I said if it wasn’t horrific it would be comic.

Time is running out.  Various experts are saying 24 hours to 48 hours.  If they get water in to cool the fuel rods then catastrophe is averted and we can rest easy with a mere disaster.  However, if they don’t get water in there very soon and a chain reaction does start, then the amount of radiation jumps dramatically.  And if reactor three re-ignites then they are in a whole new world of pain because that reactor contains MOX (mixed oxide fuel) which contains plutonium which has a half life of tens of thousands of years.  This worst case scenario has been getting relentlessly less impossible all day.  If it happens then the whole area probably becomes impossible to clean up and will become a no man’s land.

That is one meltdown at whose edge Japan is standing.  The other is economic.

Just as the earthquake which started all this moved, unseen, a truly vast body of water which became a tsunami, so it has now set in motion a whole set of world spanning currency tsunamis in the global Forex markets.  The Forex (Foreign Exchange) market is huge.  About $4 trillion per day.  The centre of the trade is London.  It is also in many ways the centre of global speculation.  Forex is where the big banks and the hedge funds do what they do to make huge profits at huge risk to themselves and everyone else.

Forex is not only huge, but the trades done in it are also insanely leveraged.  Leverage means they are fantastically lucrative when they go right, but can also destroy a trading desk, or even the entire bank or fund it is in, if it goes badly wrong.  Of course these traders are ‘very clever’ and things never go wrong.  Except occasionally.  But only when unexpected, once in a life-time events happen which no one could have foreseen.  Like … I don’t know … an earthquake or a tsunami or a nuclear meltdown.  The sort of thing that you wait a lifetime for and then three come along at once.

Tonight the Forex world is holding its breath.  Forex/currency trading happens in pairs.  One is bought another is sold.  The centre of much currency trading is what are called ‘carry trades’.  For those who don’t know, they are trades where a dealer borrows a great deal of money in a currency that has a very low interest rate, changes it into another currency that has a higher interest rate, and puts the cash in a bank.  As long as the rate he is getting on his cash is higher than the rate he is paying to borrow it, he is making easy money.  Of course what all this depends on is the value of the currencies relative to each other.  With such huge amounts of money being shifted around and the deals being so enormously leveraged, small changes can and do make vast profits and equally scary losses.  Dealers therefore are supposed to be tightly overseen to make sure they don’t get ‘reckless’ and that they hedge their bets.

But oversight and hedging are all useless if there is a really big and sudden change in value between the pair of currencies being traded.  And that is what has happened tonight.  The yen has gone ballistic.  The reason is not proven, but it seems very likely it is what I speculated in the last post, that people funds, businesses, banks, insurers, everyone in Japan, needs yen and are selling everything they can and buying yen to pay for rebuilding.  Because they are all buying yen, its value/price is shooting up.

Regardless if that is the case or not what is happening is that the yen/dollar trade is, as one Forex headline put it, “Out of control”.  Or as ZeroHedge put it: “One can only watch this devastation with horror.  USDJPY drops to 76.  Unbelievable.  Many Wall Street FX desks are blowing up right at this moment.”

And it’s not just the yen/dollar which has being wrecked.  So are all the currencies which have close pair trading with the yen, such as the Australian dollar.  What is also spooking the Forex world is that so far the Bank of Japan has not intervened to sell yen in its customarily desperate and doomed effort to lower the value of the yen.  So far there is no sign, leaving some to wonder if that’s because they BoJ is broke.

The effects of this will be global.  Such huge moves in the value of the yen will mean some traders will not be able to cover their bets in the morning.  They will have to sell assets at whatever price they can get.  If they do have to sell in a fire sale, they will get massacred.  Who will the casualties be?  The really big banks, the primary dealers, will be saved by central banks who will let them borrow. The smaller but ‘still big enough to have been making bets they can’t cover’, and the hedge funds, will be the ones who could get pulverized.

And it is not just the yen.  The other currency which looks like it is on a tear is the Swiss franc.  It has shot up as traders move to a ‘safe’ currency.  If it stays high it will bleed Eastern European countries like Hungary who owe their debts in Swiss francs but have to pay those debts in their own currency.  Europe, Australia and the US wil all be rocked by this.  I think we will see the Nikkei crumble and if it does, again, then the blood bath of the last few days on the European, London and New York Exchanges will continue.

We are once again standing close to the edge.