Global

Gl b l Tactical
T ti l
A t Allocation
Asset All ti
GTAA
Currencies

First Quarter
January 9th , 2009

Damien Cleusix
d i @ l 6
damien@clue6.com

Clue6 First Quarter 2010

 Executive Summary 1

Currencies
We like the USD here. It is undervalued and the economy is much more dynamic and has started to rebalance earlier than
elsewhere. The Fed is now much more pro-active as is the Treasury (not to say that we think they do everything right…) than
authorities elsewhere. We do not fear a "foreigner exit" of the US and would rather contemplate some capital repatriation
sometimes this year combined with some US loans contracted by foreigners (from foreign financial US commercial paper
borrowing to local US borrowing in emerging markets, as you know the Bucks can only go down and you can borrow at cheaper
yields than in the local currency…) having to be repaid quicker than planned…

The trend is making an attempt to turn up and the sentiment dynamic is supportive for the Greenback

The Yen is a short at this juncture.

juncture The political resolve of the Hatoyama administration has been put to rest and now the
Yen KAN be talked down…. We thus have a 85 floor… The trend has turned down for the Yen but we would ideally like to see
a higher lows…

The Euro remains our "worst G7 currency" y to hold on a valuation and macro risk basis. European p banks have yyet to write
down a big chunk of their "toxic assets", it is very exposed to emerging market loans, the ECB is playing the ostrich game, the
economy is less diversified and dynamic than the US, it is much more trade-dependent than what observers think, their are big
disequilibria " intra-Euro" with depression like conditions in Spain and Ireland,... All of this is not discounted and remember that
for every 10% increase in the Euro trade weighted index, you have to take off 0.8% from GDP and the Euro is now almost 25%
overvalued... Add that some European countries have suddenly decided, after a 20% appreciation of the EUR/USD since March
and almost 75% appreciation since 2001 that they should borrow in USD…

The Euro trend has probably turned down which is even more significant given the level of overvaluation it had reached in
November
November…

Clue6 First Quarter 2010

 Executive Summary 2

The CHF is likely to stay, at best, anchored to the Euro now that the SNB has been vocal in its desire to see the CHF decline…

The British
i i Pound isi fairly
f i valued but does not deserve to trade at fairf i value… Commercial
C i l reall estate correction
i might
i h be
b
nearing an end with attractive yields starting to reappear but the residential market has a long, long way to go. One has to also
had that M. King and the Exchequer have been actively talking down the currency

It might be forming a diamond top with a target near the low of last year…
year

Commodities currencies are now very overvalued… They profited from the "Chinese inventory build-up" related commodity
rally but enough is enough and that is what the Royal Bank of Australia and its New-Zealand counterpart seems to be thinking…

They are at a critical juncture and we would short them with a stop just above the end of last year highs… Preferably using
options…

On emerging currencies, we prefer to stay on the sidelines for now. If we had to we would maintain a long position on the
Ti
Taiwan D ll the
Dollar, h Korean
K W and
Won d the
h Singapore
Si D ll The
Dollar. Th more then
h Yen
Y decline
d li the
h less
l attractive
i the
h Won
W proposition
i i will
ill
become…We would not short, however, as the carry is too high for most of them.

The trend is still up though…

Clue6 First Quarter 2010

 Currencies: Valuations – Developed 3

EUR/USD Fair USD/JPY Fair

Valuations are not very helpful for short-term Chart 1 Value Model Chart 2 Value Model
forecasts but are essentials to put the short,
medium and long-term trends into perspective.

The Euro (Chart 10) is now hovering near the

over 20% overvaluation against the USD. In
September we said: “We will use any trend
deterioration to increase our short small position further…
when ”. Well,
It is not a question of if but when… Well the trend
has now deteriorated… more on this latter…

The British Pound (Chart 2) is at fair value after

having been more than 15% below fair value
around March.
March We expect the currency to S
Source: Bloomberg,
l b Clue6
Cl 6 S
Source: Bloomberg,
l b Clue6
Cl 6
undershoot its fair value by more than 20% GBP/USD Fair USD/CHF Fair
before it could embark into a new real Chart 3 Value Model Chart 4 Value Model
appreciation course…

The Japanese Yen (Chart 3) is approximately

15% overvalued and the in this environnement
this we would say that 20% is the extreme limit
(was there a couple of weeks ago…)

The Swiss Franc (Chart 4) is overvalued, as

always, but has now reached a level of
overvaluation where the currency has
struggled in the past…
Source: Bloomberg,
Bloomberg Clue6 Source: Bloomberg,
Bloomberg Clue6

Clue6 First Quarter 2010

 Currencies: Valuations – Developed 4

USD/CAD Fair AUD/USD Fair

Chart 5 Value Model Chart 6 Value Model
The Canadian dollar (Chart 5) is slightly
overvalued (more than that if we look at the
hi
historic
i valuation
l i range…), ) while
hil the
h NZD (Chart
(Ch
7) is in a danger zone being more than 20%
overvalued…

The AUD (Chart 8) is now more than 30%

overvalued
l d andd is
i an accident
id waiting
i i to happen…
h
There are many reasons for its strength (strong
economy, links to China,…) but too much is…too
much…
Furthermore Australia is showing the same kind of
excess (we
( would ld say even more)) on S
Source: Bloomberg,
l b Clue6
Cl 6 S
Source: Bloomberg,
l b Clue6
Cl 6
NZD/USD Fair
the credit and housing side as the US and the UK… Timing the day of reckoning is impossible but Chart 7 Value Model
the day will come when… Keep an attentive eye on it…

Looking at valuations for Emerging Markets can be deceptive.

deceptive

Using PPP, FEER, BEER and other models, most seems to be chronically undervalued.
In 1964, Balassa and Samuelson presented an economic model (today known as the Balassa-
Samuelson effect) to explain the “Penn effect”.

The “Penn effect” was the observation that price levels where systematically higher in richer
countries compared to poorer one.

Balassa and Samuelson demonstrated that productivity in tradable goods and as a consequence
wages are lower in poorer countries.
countries As a result the relative price of non
non-tradable
tradable to tradable goods Source: Bloomberg,
Bloomberg Clue6
and services increase in richer countries. This lowers the PPP.

Clue6 First Quarter 2010

 Currencies: Valuations – Emerging 5

PP Deviationn V.s. South-East Asia

Chart 8 Table 1
In the chart 8 we have regressed the PPP implied PPP GDP per Capita Adjusted Valuation
over/undervaluation with the GDP per Capita (at
PPP). The expected strong relation is apparent.

We then compared the PPP over/undervaluation

with the over/undervaluation obtained by
regressing the GDP per capita (Tables 1, 2 and 3).

South-East
South East Asian currencies (Table 1) have
continued their move toward slightly overvalued
levels since our last presentation. The Singapore Source: IMF, Clue6

Dollar (even if the currency is used actively by

the monetary authorities) and the South Korean
Source: IMF,, Clue6
Won remain our favorite local currencies based
on those metrics…
South America Eastern Europe and
Table 2 Table 3
Adjusted Valuation AfricaAdjusted Valuation
South American currencies (Table 2) should be
avoided based on those metrics...

Eastern European currencies (Table 3) where

identified as highly undervalued back in January-
March 2009 and are now back to fair value which
is not justified given the potential risks lying
ahead…
ahead
Source: IMF, Clue6

We exited the long Ruble position recommended Source: IMF, Clue6

in early 2009 back in September and would
continue to stay away for now… South Africa and
Turkey have now moved back to overvaluation…
overvaluation

Clue6 First Quarter 2010

 Currencies: Sentiment 6
Dollar Index and Non-Commercials
Non Commercials Net Future Positions Dollar Index and Rydex Investors
Chart 9 Chart 10
in Foreign Currencies

Source: Bloomberg, Clue6 Source: Rydex, Clue6

Non-Commercials had a big net USD short position at the end of last year (Chart 9) and are now almost flat. We use this data by looking both at
absolute levels, relative 2-3 yyears level and divergence
g between ppositioningg and the USD. What yyou will usuallyy see at important
p turningg ppoint is
first an extreme in both absolute and relative positioning followed by a reversal in those positions. Then you will see the USD continuing making
new highs or lows without flow confirmation (move down but non-commercials will cut their net short position)… One should get more aggressive
on the second spike in net positions (but it will be not as extreme as the previous one… It usually plays out under a 3-6 months period…

Rydex traders have not been as aggressive as last year but the Rydex leveraged-Strengthening Dollar Fund has now more assets than the leveraged-
Weakening one (Chart 10)…

Clue6 First Quarter 2010

 Currencies: Sentiment 7
Chart 11 EUR/USD FXCM Customers Positioning Chart 12 FXCM Customers Positioning

Source: FXCM Source: FXCM

Forex on-line traders are known to be, on aggregate, on the wrong side of a trend more often than not…

We have used the FXCM in the past to prove this point… On Chart 11 one can see that while they remained stubbornly short the EURO into the top
above 1.50, they suddenly decided around those level that it was a good idea to be long…

On a currency pair basis, they are now long the Yen (they where short up to the 86-87 level), long the Pound and the Euro while they remain short
the Swiss francs and the Canadian Dollar (Chart 12).
12)

Clue6 First Quarter 2010

 Currencies: Sentiment 8
Chart 13 TFX Net Retail JPY/USD Margin Position Chart 14 TFX Net Retail AUD/JPY Margin Position

Source: Bloomberg, Clue6 Source: Clue6

A lot has been said about Japanese housewives in the past few years… So what are they up to currently…

They are very long the Yen (VERY LONG) after having been short almost all of the Yen Rally sine 2006…

They have also rediscovered the joy of the carry trade. They are very long the AUD/JPY (Chart 14) and the NZD…

Clue6 First Quarter 2010

 Currencies: Liquidity 9
Chart 15 Dollar Index and Financial Foreign Outstanding CP Chart 16 USD/JPY, Risk Reversal and their Correlation

Source: Bloomberg, Clue6 Source: Clue6

Foreign financial companies have continued their trend toward heavier borrowing of USD on the US commercial paper market (Chart 15)… Could
they get squeezed has in 2008…

And do not forget, has we said in September that we have seen a proliferation of debt issued in USD (Germany, Spain,…) the rationale being that
not only do we have to pay lower interest but as the USD is doomed to fall it will cost less to pay the principal… Well they might have a nasty
surprise…

USD/JPY 25D risk reversals divergence with the cross has been an headwind for the Yen in the past but on the other hand we are near levels of
optimism on the USD (on this measure) which have triggered a contra-trend rally on the Yen (Chart 16)…

Clue6 First Quarter 2010

 Currencies: Liquidity 10
Dollar Index and Export to GDP Ratio 4 Quarters Dollar Index and World International Reserve ex Gold
Chart 17 Chart 18
Rate of Change Momentum

Source: Bloomberg, Clue6 Source: Clue6

The export to GDP ratio momentum remains positive for the USD (Chart 17)… This is even more remarkable given the absolute fall in global trade in the past 18 month.

Reserve around the world have been risingg ((Chart 18)) much faster than what the improving
p g US current account would suggest.
gg This has onlyy been the case in the ppast
when USD was borrowed short… This tends to end up with a big Greenback rally and some countries going bust…Furthermore, as an example, China has decreased its
holding of US Assets as a percentage of its foreign exchange reserve from more than 80% in 2002 to less than 60% (and the decline is not only due to the USD
depreciation of the past 7 years but this is a contributing factor…) . The more quickly reserve rise, the more USD has to be sold just to keep the currency mix stable, ceteris
paribus…

Another factor is the fact that foreign holder of US assets are more prone to hedge the currency that US holder of foreign asset. This asymmetry can explain some of the
high correlation between the USD and risky assets… when risky assets rise, some more USD have to be sold to hedge the increasing assets… This is particularly visible at
month end…

Clue6 First Quarter 2010

 Currencies: Liquidity 11
USD/JPY and Japanese Merchandise Trade
Chart 19 Chart 20 DEM/USD vs. Two Years Relative Yields
Balance NSA

Source: Bloomberg, Clue6 Source: Clue6

Japan merchandise trade balance has stabilized but it still implying a much lower Yen (Chart 19).

In the meantime the real 2 years yield differential between the US and Europe is slowly approaching a USD positive configuration (Chart 20)… and
our relative bullishness on the US vs. Euro economy will help to move this differential in the right direction for the USD…

Clue6 First Quarter 2010

 Currencies: Central Banks 12
Chart 21 AUD and RBA Intervention Chart 22 NZD and RBNZ Intervention

Source: RBA, Clue6 Source: RBNZ, Clue6

The Reserve Bank of Australia has continued to intervene in the market (Chart 21)and is clearly indicating that it consider the AUD to be
overvalued.
l d

The Reserve Bank of New Zealand has been vocal, particularly through its governor, A.Bollard, about its discomfort with the level of the NZD… In
the past 2 years the Bank has intervened at the 0.75-0.8 level (Chart 22)…

Clue6 First Quarter 2010

 Currencies: Seasonality 13
Chart 23 EUR/USD TR Seasonality (since 1989) Chart 24 USD/JPY TR Seasonality (since 1989)

Source: Bloomberg, Clue6 Source: Bloomberg, Clue6

The USD is usually strong against the Euro earlier in the year, especially in January (Chart 23) but the usual December weakness did not play out in
D
December…
b W said
We id that
h we were theh December
D b USD weakness k b
been recommendedd d everywhere
h andd that
h iti would
ld likely
lik l make
k it
i a loser
l this
hi year…
good news for December 2010 when nobody will dare to play the seasonality… and it will work again…

The Yen is also usually weak earlier in the year (Chart 24).

Clue6 First Quarter 2010

 Currencies: Seasonality 14
Chart 25 GBP/USD TR Seasonality (since 1989) Chart 26 USD/CHF TR Seasonality (since 1989)

Source: Bloomberg, Clue6 Source: Bloomberg, Clue6

The Pound and the Swiss francs are displaying a similar seasonal pattern with the CHF especially weak earlier in the year (Chart 25 and 26)

Clue6 First Quarter 2010

 Currencies: Graphs 15
EUR/USD

The Euro failed to penetrate the above head resistance identified earlier and is now in the process of forming a new down channel.

A move above the 1.47 level would change trend change assumptions.

Euro strength should be sold…

Longer-term we maintain that the Euro could fall below 1…

Clue6 First Quarter 2010

 Currencies: Graphs 16
USD/JPY

Was the move toward 85 a beautiful Yen bulls trap? Look like we made the bottom and that we can now embrace at least a multi-
month rally with intermittent corrections. Target for now is 103-108…

Now in a short-term up channel with 94.75-95 as next target… We would use a decline below 88 as a stop…

Can the Yen be pushed lower by the Hatoyama administration… Yes it KAN

Clue6 First Quarter 2010

 Currencies: Graphs 17
GBP/USD

Diamond

Potentially broke down from a diamond formation… A sustained close below 1.57 would see the move accelerate to the downside…

We maintain the sub 1.2 target we gave in the Autumn of 2007 but prefer it to the Euro at current levels…

As with most cross against the USD we would become even more confident if we had a lower low to complete a lower highs lower
lows sequence…

Clue6 First Quarter 2010

 Currencies: Graphs 18
USD/CHF

We can only repeat what we said in September…

You can play it if you have good contacts at the SNB otherwise we would stay on the sideline…

Slowly but surely reaching levels where the SNB will buy some Euros…
Euros Not really a surprise given that they sold part of their gold
at usd 300…

Clue6 First Quarter 2010

 Currencies: Graphs 19
AUD/USD

At a critical juncture…
j

Would be short here with a stop above the November highs

Best to be played with a 3-4 months backspread rebalanced every 2 months (selling in money put on the AUD and buying more out of the money put on the
AUD).

We would even start to buy some very deep out of the money puts 0.8 and below every month… This was advised in the summer of 2007 on the NZD and both
AUD and NZD in 2008… We were playing black swans and we feel one is coming here in 2010

Clue6 First Quarter 2010

 Currencies: Graphs 20
NZD/USD

Same configuration as the AUD… but less overvalued…

Could fall quicker than the AUD initially because of its lower liquidity but would buy the NZD against the AUD above 1.3…

Clue6 First Quarter 2010

 Currencies: Graphs 21
Bl
Bloomberg
b JP M
Morgan A
Asia
i DDollar
ll IIndex
d

Approaching the top of its rising channel…

Would anticipate a correction to at least 110.5-111…

A close below 109.5 would signal a trend change…

Clue6 First Quarter 2010

 Currencies: Graphs 22
Bl
Bloomberg
b JP M
Morgan L
Latin
i America
A i C Currency Index
I d

Weaker than in Asia but still an up trend… for now…

Local authorities have clearly expressed their concern about the strength of their currencies…

Would exit the carry positions here… but not short… too expensive in term of carry…

Clue6 First Quarter 2010

 Currencies: Conclusion 23

We like the USD here. It is undervalued and the economy is much more dynamic and has started to rebalance earlier than elsewhere. The Fed is now
much more pro-active as is the Treasury (not to say that we think they do everything right…) than authorities elsewhere. We do not fear a "foreigner
exit" of the US and would rather contemplate some capital repatriation sometimes this year combined with some US loans contracted by foreigners
(from foreign financial US commercial paper borrowing to local US borrowing in emerging markets, as you know the Bucks can only go down and
you can borrow at cheaper yields than in the local currency…) having to be repaid quicker than planned…

The trend is making an attempt to turn up and the sentiment dynamic is supportive for the Greenback

The Yen is a short at this juncture. The political resolve of the Hatoyama administration has been put to rest and now the Yen KAN be talked
down…. We thus have a 85 floor… The trend has turned down for the Yen but we would ideally like to see a higher lows…

The Euro remains our "worst G7 currency" to hold on a valuation and macro risk basis. European banks have yet to write down a big chunk of
their "toxic assets", it is very exposed to emerging market loans, the ECB is playing the ostrich game, the economy is less diversified and dynamic than
the US, it is much more trade-dependent than what observers think, their are big disequilibria " intra-Euro" with depression like conditions in Spain
and Ireland,... All of this is not discounted and remember that for every 10% increase in the Euro trade weighted index, you have to take off 0.8% from
GDP and the Euro is now almost 25% overvalued... Add that some European countries have suddenly decided, after a 20% appreciation of the
EUR/USD since March and almost 75% appreciation since 2001 that they should borrow in USD…

The Euro trend has probably turned down which is even more significant given the level of overvaluation it had reached in November…

The CHF is likely to stay, at best, anchored to the Euro now that the SNB has been vocal in its desire to see the CHF decline…

The British Pound is fairly valued but does not deserve to trade at fair value… Commercial real estate correction might be nearing an end with
attractive
i yields
i ld starting
i to reappear but
b the
h residential
id i l market
k hash a long,
l l
long way to go. One
O has
h to also
l had
h d that
h M.M King
Ki andd the
h Exchequer
E h h
have
been actively talking down the currency

It might be forming a diamond top with a target near the low of last year…

Clue6 First Quarter 2010

 Currencies: Conclusion 24

Commodities currencies are now very overvalued… They profited from the "Chinese inventory build-up" related commodity rally but enough is
enough and that is what the Royal Bank of Australia and its New-Zealand counterpart seems to be thinking…

They are at a critical juncture and we would short them with a stop just above the end of last year highs… Preferably using options…

On emerging currencies, we prefer to stay on the sidelines for now. If we had to we would maintain a long position on the Taiwan Dollar, the
Korean Won and the Singapore Dollar. The more then Yen decline the less attractive the Won proposition will become…We would not short, however,
as the carry is too high for most of them.

The trend is still up though…

Clue6 First Quarter 2010