Citi Issues USD Warning: "Significant Downside Risk For USD And JPY If Market Begins To Price In Unsustainable Debt Risk"

Tyler Durden's picture

As anyone who has been following the VIX, US CDS (which is quite interesting as the US catastrophe trade appears to have become selling CDS to fund gold purchases in euros: more on that eventually), or stock markets in general has grown to appreciate all too well, no matter the amount of perceived risks, the market continues to shrug off any bad news: after all, the Bernanke put means that the greater the systemic shock, the higher the likelihood that the Fed will get involved yet again and push up all risk assets. However, the same can not be said about the dollar. The currency which in 2011 has traded like anything but the world's reserve currency is less than 1 point away from 2009 lows. But that could be just the beginning. Citi's head of FX has released a not warning about the potential coming avalanche to the greenback should debt ceiling negotiations hit a snag: "what we are looking at here is very much the tail risk event that the
debt ceiling negotiations unexpectedly hit an impasse. The question is
what the impact would be on USD." Englander's summary observations: 1) The USD will be in big trouble if investors get the sense that the
debt ceiling negotiations have gone beyond the expected choreography
into a zone where there is perceived risk to US credit; 2) More broadly, we think FX markets are increasing the attention they pay to fiscal sustainability relative to monetary policy; 3) The FX response may be non-linear so G10 countries may have a
false sense of security in seeing little FX response to deterioration so
far. Then again, perhaps a major step down in the dollar is precisely what the Fed wants...

Englander's summary view:

  • The 2011 budget impasse was resolved with little markets impact
  • If a breach of the US debt ceiling comes into question the impact will be larger
  • Since September 2009, a 100bps increase in CDS has been associated with 8% currency weakness …
  • … but there also is a level effect as poorer credits have faced larger FX pressures

Full note:

The USD dodged the 2011 budget bullet last weekend and is now facing the debt ceiling cannonball. Although the debt ceiling is not normally considered a tool by which fiscal consolidation is achieved, it seems likely that there will be a fair amount of brinkmanship before the debt ceiling is raised. Investors and most economists expect political posturing as the debt ceiling debate drags on through late May and June, but no event that affects perceptions of US credit quality. So far US yields are showing no pressure and US CDS is trading well within the range of the last 15 months.

So what we are looking at here is very much the tail risk event that the debt ceiling negotiations unexpectedly hit an impasse. The question is what the impact would be on USD.

Below we present a cross-section analysis across more than 30 major currencies on what impact a deterioration in credit has on the currency. The analysis covers the period September 2009 to the present – September 2009 was the trough in spreads between financial crisis related sovereign credit concerns and the European sovereign credit blow-up, so it gives us a good base for comparison.

We find a surprisingly strong impact of credit deterioration on currencies. A 100bps increase in CDS has been associated with 8% currency weakness over this period, but we also find that countries that started the episode with higher CDS tended to fall more or appreciate less than others. Having a September 2009 CDS level 100bps higher in the cross-section is associated with 7% less subsequent appreciation, given no further CDS deterioration. Hence poor credit seems to represent a headwind to appreciation beyond any additional deterioration.

We have three takeaways from this.

1) The USD will be in big trouble if investors get the sense that the debt ceiling negotiations have gone beyond the expected choreography into a zone where there is perceived risk to US credit;

2) More broadly, we think FX markets are increasing the attention they pay to fiscal sustainability relative to monetary policy;

3) The FX response may be non-linear so G10 countries may have a false sense of security in seeing little FX response to deterioration so far.

The debt ceiling negotiations

We have little to add on the debt ceiling negotiations except to reiterate that there is very little evident concern in either FX or FI markets. Both 10- and 30-year yields are in the year’s range, the 30-year Treasury auction on April 14 was very well received and there is no stress evident on CDS. Last weeks budget negotiations probably had a small negative impact on USD, and the concern about the process is a lingering negative, but the impact of any concrete debt ceiling risks would be much higher.

Impact of credit deterioration

We regress the Sep 2009 to April 2011 change in the value of 33 currencies against the beginning level of their sovereign CDS and the change in the sovereign CDS, the correlation of the currency with the S&P and a dummy to distinguish between G10 and non-G10 currencies.

The strongest association by far is with the CDS variables. The results imply that a currency with a 100bp higher CDS in Sep 2009 tended to appreciate about 8% less through Apr 2011, even if the CDS did not move, while a currency with its sovereign CDS rising by 100bps tended to appreciate about 9% less. (We ran our regressions using USD as a base but in a cross-section regression the base currency does not matter.)

The measure of riskiness that we used, the correlation with the S&P, was marginally significant, indicating that over this long period, the CDS coefficient did not reflect the appetite for risk to any great degree. Being in the G10 had a modest negative effect and being heavily correlated with risk had a marginally significant positive effect but they did not affect the coefficients or results greatly.

Figure 1 presents the actual currency changes as well the changes predicted by the model specified above. For such a simple equation it explains a fair amount of the currency variation. Most importantly for the USD it seems to have quite a bit of explanatory power for the currencies that have performed the poorest versus those that have performed the best. In some regressions we included levels and changes in swap spreads, but these did not seem to provide significant additional explanatory power.

We did not include the EUR in our regression since the combination of national sovereign risks was not necessarily linear. However, we did calculate a debt weighted average of CDS and CDS changes and used the estimated coefficients to get an estimated EUR impact. Interestingly the actual change in the EUR very much matched the predicted and the 96bp increase in debt-weighted CDS suggests that the EUR would be about 8% (11 big figures) higher had the EUR sovereign CDS retained their September 2009 level. That would explain much of the deterioration in EURXXX crosses against commodity and other risk-correlated currencies.

Visually we observe that the currency effect seems to become significantly larger when the CDS level was above about 90bp. Moreover the currency impact seems to kick in as soon as there is any deterioration. We do not want to emphasize this, but it comes back to the risk that there is a false security in having seen no effects till now.


This provides preliminary indication that FX markets have come to focus on debt and creditworthiness in addition to the standard macro variables. It suggests both potential upside for the EUR and other currencies that get their sovereign debt situation under control and significant downside for USD and JPY if markets ever begin to price in concrete risk that debt will become unsustainable.


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Quintus's picture

If the market does NOT begin to price in unsustainable debt risk, then the market is dumb.  Seriously, is the debt problem going to go away by itself, or will the Teleprompter-in-chief really deal with it?  Answers on a postcard please, to whatever address you like.

AN0NYM0US's picture

Dear Vikram:

Have one of your people scare the markets to make sure the debt ceiling is raised.




OldTrooper's picture

Bingo.  And there may be martial law, rioting, cats and dogs sleeping together - we're talking disasters of biblical proportions - unless you raise that debt ceiling.

narapoiddyslexia's picture

Exactly. Believe nothing any of these liars produce.

Ned Zeppelin's picture

Ditto. The debt ceiling will be raised.  All proceedings before that event will be the foreplay. 

66Sexy's picture

So I am supposed to lend credibility to a TBTF bankrupt bank?


Watch for a dollar RALLY.

Cdad's picture

If the market does NOT begin to price in unsustainable debt risk, then the market is dumb.

The market for US dollars HAS priced in the risk.  It is every single OTHER market that has NOT priced in risk [less precious metals, of course].  And this is exactly the point.  Citi waited until TODAY to publicly announce that it perceives a risk to the dollar.  Really?  This is everything the criminal syndicate known as Wall Street has been doing...for decades.

So standby for a fear gap move on the be followed by a dollar rally that will likely crush every last OTHER asset class that you can possibly think of.  Throw on top of that the CME hiking margins, and Goldman suddenly concerned about copper and oil, and what you got is a typical bumble fuck during which the guy with the most natural counter intuitive tendencies wins.

Better yet, go to cash and wait.  And if you don't agree...well, just report to the nearest Google chart...and I think you'll have a epiphany.  In the words of Tyler Durden..."you are warned."

Fire hose please...a couple of them in front of each and every building anywhere near the corner of Wall Street and Broad.

Good grief [and by that I mean, I sure hope all those "special" fellows over at Citi receive my shipment of donated hockey helmets...'cause I think they really need them.]

SamuelMaverick's picture

Sounds about right except for one thing, the rally in the dollar / commodity downturn will be short lived when reality reasserts itself. M1 and M2 are thru the roof, velocity is in the crapper, and the never ending flow of the Fed treasury / bank ponzi fiat that the US gov is spending is unrelenting.  The end of QE2 will hopefully give us a small window of time to buy PM's on the cheap. No joke, BTFD.












































Cdad's picture

Sheesh Samuel...ease up on the martinis...and the space bar.  Also, what the Fed is bringing is ANYTHING BUT NEVER ENDING.  It is quite finite...but...

Agreed...any dip will be brief.  My will be violent.  So...going forward from today...the greatest part of the trade will come from not being long the fundamental story while the criminal syndicate known as Wall Street executes/murders/arbitrages existing long positions.  After all, that is the only value added the Street brings...creating the spread between the truth and perception.

I ask...did you read what I said?

SamuelMaverick's picture

Yes , I did read what you wrote. You did not mention a timeframe for trading on the possibility of what will probably happen.  At the end of QE1 the devastation was spectacular. The window for taking advantage of it was only a couple of months. Probably will be the same for QE2. If I am right, I will be buying my silver back somewhere in the $30's, if I am wrong I will be buying it back at $50. Either way ,I will be buying come June and July. Also, no martini's, and no space bar. I have no idea what the hell happened with the empty space in the last post.

narnia's picture

The timing of this story is obviously politically motivated, but I think Citi is right.  The negative interest rate precipitated dollar decline would be more dramatic to date if the risk free assumption were taken out of the equation.

As long as the Fed continues to artifically keep rates down, I'm not seeing a whole lot of optimism for the $.  Euro weakness? at some point. Foreign flight to US assets? at a certain exchange rate way south of where it is, US would be a bargain. Export explosion? doubt it.

On the other side of that leger, the Yuan could float, Japan could come calling for their savings, the Euro could comparatively improve, the Saudi king could liquidate his $ position, the US municipal bond market could implode, the world can speed up diversifying away from the $ as a reserve currency, etc., etc.  I'm not sure where it will trade from day to day, but the outlook is no bueno. 

Dan The Man's picture


.....ahem!... QE3 ???  Whenever you're ready !!!

Monday1929's picture

Again I ask, Why would anyone listen to anything these failed, insolvent bankers have to say?

NotApplicable's picture

Because this warning isn't a report of risk, but rather a threat of what they will do if the debt ceiling isn't lifted.

It's the same song and dance we heard with TARP 1, "bail us out, or else the market will crash." Congress votes against it, market crashes, Congress votes again, passing it, and the ponzi lives quietly for another day.

andybev01's picture

Just like our dear leaders admitted that yeah, we waterboard people.

So what? Waddaya gonna do about it?

MrBinkeyWhat's picture

"This is not a is a threat".

Cough up tax serf bitchez.

buzzsaw99's picture

Exactly. Nobody cares what that stupid fascist puke C has to say.

OutLookingIn's picture

"The USD will be in big trouble" WILL?????????


Once on the QE road, there is no way off.

silvertrain's picture

And just think that these people are getting paid for saying shit like this....

OutLookingIn's picture


Just look at how the fiat's have faired when priced in silver or gold?

All are going into, or are in the toilet!

I am Jobe's picture

You can only say things like this if you graduated from an Ivy league school. State schools who gives a F? I guess C will provide free Vaseline if one opens an account with C.

virgilcaine's picture

Tyler.. GOOG!  Timing the article posting on its MISS.

r101958's picture

They have a firm grasp of the obvious.

vote_libertarian_party's picture

"Unsustainable debt risk"?

What?  I'm sure every person in the country can afford the $57,000 they owe. Leave out kids?  ouch.  Leave out people not working?  double ouch.  Leave out minimum wage workers?  triple ouch.  And we are adding $1.8T per year?...

Hedgetard55's picture

"When the world is running down,


You make the best of what's still around."

Camtender's picture
"Significant Downside Risk For USD And JPY If Market Begins To Price In Unsustainable Debt Risk" - No Shit........
Racer's picture

Fake Market to Citi :  (Hearing aid switched to 0 volume)

AldoHux_IV's picture

Translation: QE to infinity.

In other news the race to destroy one's currency just got more competitive.

buzzsaw99's picture

Now that we got our bailouts & bonuses it's time for peon austerity bitchez!

Hot Shakedown's picture

US Dollar has now bottomed

Slin's picture

Englander.....I'm so scared...  Hey crook.. have you ever had your shit pushed in?

Quinvarius's picture

USD/JPY, what happens when two black holes collide?

virgilcaine's picture

OT/Other news

TOP STORIES Google 1Q earnings miss analysts' target- AP

Google's first-quarter earnings came in below analyst projections as the Internet search leader sped up hiring and increased spending other areas to

drive up its expenses


-31.32 AH


Deep's picture

I love Zerohedge and all Tyler does, best site on web, but what I don't get is the constant cheerleading of a US dollar collapse. IMO that is just plain dumb and ignorant. A US dollar collapse will effect everyone, and i repeat everyone. It would be an absolutley devestating event, oil would be at god knows what, the grains, livestock, etc. The world would enter depression quite quick IMO, and wars would start.

I doubt silver or gold would keep up with the system collapse. And even if it did, most would be out of jobs, and everyone on this site acts as if 100% of their wealth is in PM's. I call bullshit on that.

So while everyone here is cheering it on, i think these same people would be then shitting themselves at what is happening around them.

Just my 2 cents.

hack3434's picture

Wrong...not everyone is a coward and the issues must be dealt with now instead of trying to pass it on to the next generation. Grow a pair ffs.

Deep's picture

ok so dealing with the problem is to let the dollar crash. good one. you and the fellow ZH'ers here are quite weird. There are other ways to deal with it, like stop spending, raising taxes, reducing military, etc. etc. Ya we will have a very painful recession, probablly a depression, but it's better than a dollar collapse. but let me guess, your whole net worth is in silver, and your house and car are made of silver, and you wear silver clothes.

Get a life pal.

hack3434's picture

The situation will dealt by force rather than choice. Deal with it...If you care some much about saving the US Gov't may I suggest you go here:

Donations seem quite low for the year. 


Deep's picture

Another poster above mentioned it, you really think the FED would allow a dollar collapse. They could raise rates, force congress to get serious, ya it would be very painful for everyone, but this outcome is much better than a us dollar collapse. You think a us dollar collapse is good for anyone? no it's not.

I ask anyone, all the elites and powerful, would they rather have a deflatinary collapse or hyperinflation and us dollar collapse. think about it.

All the dollar bears and speculators in commodities are being ropped in to believe the dollar "is on the verge of collpase"  to get slaughtered by Ben and the boys. Is a hyperinflationary event good for anyone. $300 oil is good for anyone?


hack3434's picture


  • A currency "collapse" is not the end of the world.
  • We have ZIRP in place and we are barely getting by
  • Housing can't catch a bid with historically low rates 
  • IR Derivatives are a mess
  • The emperor has no clothes and the "elite" have the means to leave if TSHTF


Deep's picture

when the currency is the "reserve", ya it would be all hell broke loose. China loses what, 2 trillion, japan loses close to a trillion, all the pension funds all over lose everything in UST. Oil would be at 300+, all grains would be thru the roof, most of the world would starve when wheat is $200 a bushel.

the fact that we have a reserve, the us would not be the only one thats suffered, the whole world would suffer.

all i am saying is, a us dollar collapse is a much worse case then lets deal with the medicine, let the markets collapse 30-40%, slash spending, end QE, write off major debts.

But i guess you would rather have a us dollar collape, for what reason i dont know, but if you are like most ZH'ers, you want to see armagedden. For what reason, i have no clue. 

Howard_Beale's picture

Not all of us want to see that, Mr. Deep. Please don't believe this blog is only survivalists with no perspective. We are a very diverse group and I, for one, do not want to see a dollar collapse. I know I am not the only one. 

I have some PM's that were bought long ago. But in no way was my buying based on a currency collapse.

narapoiddyslexia's picture

Armagedden is the only way to bring down the government, and even then it might not work. What you suggest in your comments is sensible and if it happened then the government in its present form will survive. This possibility is disturbing, as the USG is an abusive, murdering despotism, that is ever more imprisoning its own people for political crimes. If the world has to suffer to give us a reasonable chance to destroy the Evil Empire, then it may wll be worth it in the long run. We won't live long enought to know in any event.

Mark McGoldrick's picture

Virtually everyone who has the capacity for reason, logic and the ability to understand real-world, civilized solutions would agree with you. Unfortunately, your logic will fall on deaf ears around here.

You need to remember who your audience is here: doomer libertarians, many of whom lust for urban warfare and anarchy so they can play out their bug-out, GI Joe fantasies. 

Doomer libertarians are quite similar to religious fanatics. They'd burn the world to the ground to protect their rigid, archaic ideologies (no matter what the consequences), rather than adapt to the dynamics of modern society.   

Personally, I think some aspects of libertarian ideology have quite a lot of credibility, but, just like Christian fundamentalism, that message is overshadowed by the whacked-out, cult-like devotion that you see among the followers.

When you realize that doomer libertarians are as goofy as faith healers, you'll suddenly find them to be a source of wonderful entertainment more than anything else.  

And that's the primary reason I roam through here...  for the laughs. 

mayhem_korner's picture

Thanks for gracing us with your broad-brush.  If we stop being funny, will you leave?

P.S. Keep your protective eyewear on while your in your closet polishing your stinger.

hack3434's picture

As if our discussions can change the outcome...Believe what you want, it's a free country (sort of).

Silva Plata's picture

When asked why he ordered the murder of a guy over a $30,000 gambling debt John Gatti is supposed to have said, "In a business where there is no accountability, there has to be accountability."

Until there is accountability for the crimes that killed the dollar it doesn't matter if we want the dollar to collapse. It's already a done deal. Let's hope next time there's more accountability.

Reptil's picture

Postponing the inevitable (downturn of a cycle) is what got us here. A fake global economy built on a reserve currency that was once good as gold (and therefore accepted).

You're asking for more of the same? Doesn't sound very logical to me. Regardless what anybody here says or thinks, apart from the destruction of wealth for all those that don't own any PMs or stock (unsuspecting Joe 6 Pack), the issue at hand is that no one anywhere will want to own dollars. Ergo, end of dollar as reserve currency, enter SDR from behind the curtain.