HOUSE_OVERSIGHT_026575.jpg

Jan Loeys
(1-212) 834-5874
jan.loeys@jpmorgan.com

Global Asset Allocation
The J.P. Morgan View
09 November 2012

J.P.Morgan

that outcome. But avoiding the worst case requires a short-term bargain plus a
long-term compromise on a scale not seen in Washington since the Clinton-
Congressional budget showdown of 1995/96. As with sausage making, this
process won’t be pleasant to watch. It would be easier to return in several
weeks when the final product is ready, but for those who cannot avoid, ignore
the likely volatility, and add to defensive trades.

• Washington needs at least a month to broker deferral of a decent part of the
fiscal cliff before it can assume the monumental task of comprehensive fiscal
reform next year, and the currencies most vulnerable to an impasse are
expensive. If no grand bargain is reached before the end of the year, full
implementation of the cliff implies enough fiscal tightening to drive the dollar
up 3%-5% versus commodity currencies, given typical patterns during global
growth shocks. Even if these tax increases are reversed later in the year, the
first response would be a higher USD versus all currencies but the yen, given
how long that investors are of cyclical currencies and how short they are the
yen.

• Stay short USD/JPY and buy USD vs high-beta (AUD, NZD, SEK and GBP)
in cash and options for a move of a few percent in coming weeks. In options,
sell a 1-mo NZD/USD call (0.8250 strike, 0.83 RKI), buy a bearish 2-mo
AUD/USD seagull (buy 1.03-1.01 put spread, sell 1.05 call) and buy a bearish
2-mo GBP/USD seagull (buy 1.57-1.55 put spread, sell 1.6250 call). Buy
USD/SEK in cash.

Commodities

• Commodities are up some 1% this week, led by precious metals, which
rallied almost 4%. The strong gains in gold are probably due to the US
election result as Obama’s victory means no change to Fed policy and so
continued QE and negative real yields. Gold also tends to gain when there is
high fiscal uncertainty, just as it did last year during the acrimonious debt
ceiling debate which cost the US its AAA rating. We stay long gold.

• Chinese economic data came out stronger than expected this week, providing
support for our view that Chinese economic growth has bottomed and will
rebound through next year. China’s slowing activity growth has been a major
drag on commodities over the last few years and the improving economy is
what makes us long base metals.

• The expected rebound in Chinese growth does not imply that we will go back
to the double-digit growth rates that we saw before the crisis, and immediately
after. The periods when China’s economy grew at a pace above 8% coincided
with very strong price gains on commodities, as it boosted global demand.
China’s leadership is in the process of reorienting its economy towards
domestic consumption and to reduce reliance on exports and capital
investments. As a result, Chinese growth will likely settle in a 7%-8% range
over the medium term, a growth pace that in the past has not put upwards
pressure on commodity prices.

[Chart: FX weekly change in USD]
1.0%
0.5%
0.0%
-0.5%
-1.0%
USD TWI JPY EUR GBP CHF CAD AUD
Source: J.P. Morgan

More details in ...
FX Markets Weekly, John Normand et al.
Commodity Markets Outlook & Strategy,
Colin Fenton et al.
Oil Markets Monthly, Colin Fenton et al.
Daily Metals Note, Colin Fenton et al.
Agriculture Weekly, Dietz et al.

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