If the Japanese yen still has legs, then the global correction we've seen since February 27 is not over. That's the BIG trade in the world right now. We might all be tired hearing about the infamous Japanese yen "carry trade," but it's the biggest threat to the financial system in 2007. It's a threat because the Japanese, in large part, have financed global liquidity over the last four years.

With the Japanese economy expanding at its fastest clip in more than four years, interest rates are heading higher in Tokyo. The Bank of Japan (BOJ) is reluctant to raise rates further, currently at 0.5%, mainly because the consumer is still not spending. However, companies are making good money, employment is low and without a doubt, the Nikkei is undervalued versus most markets in the world.

At some point, the BOJ will raise interest rates again this year and possibly twice, as she attempts to normalize monetary policy in the wake of a solid economic expansion. And Japanese stocks remain among the best values in the world, especially small and mid-sized companies, which unlike large stocks, won't feel the heat from a stronger yen this year.

At 116 to the dollar now, the yen will break through 110 during this rally. At that point, I'll bet global equities will trade about 7-10% lower compared to current levels, defined as a classic correction. Again, like I've been emphasizing in these pages for weeks, this is not the end of the bull market for stocks. Yes, I expect the returns to be less this year compared to the last four years; but I don't see evidence of a monetary squeeze in the United States or even in Japan where rates are rising from a very low level. Global inflation rates are low, bank credit is expanding in the high single digits and employment is fairly strong. A correction is actually a good thing because over the last four years market volatility has been largely absent, encouraging all sorts of financial leverage among participants. Corrections are perfectly normal in a bull market and usually don't become bear markets unless central banks are cutting-off liquidity as inflation rises. That's just not the case right now.

As for the mortgage market, thus far it's still pretty much contained to the sub-prime sector. But if defaults rise in the prime market along with rising unemployment over the next several months, then I'll change my tune to a bear. Rising unemployment in the United States combined with falling real estate values and growing defaults don't encourage consumers to spend.  In this scenario, it'll be "good-bye" bull market -- and fast.

Watch the yen, U.S. employment and the prime mortgage market. These three variables will determine whether the United States is at the cusp of a recession or a mid-cycle growth slowdown in 2007.

Have a good weekend.