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22 июня, 17:35

Canada House Prices, CAD, Rates and the BoC

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Is the Canadian housing market in a bubble? Is it about to precipitate an nationwide financial crisis? If so, what can, or should, the BoC do about it? The mathematicians at Statistics Canada that produce the BoC’s CPI measures would like you to know shelter costs in BC and Ontario were up 1.4% and 2.7% respectively in 2016, and “owned accommodation” inflation in both provinces hasn’t cracked 3% since Strange Brew came out. Why such a dramatic divergence in the official statistics and data from actual sales? National Bank had some great charts on this last month: A report from the consultancy CD Howe identified this threat back in 2012:“To calculate the owner-occupied housing component in the CPI, Statistics Canada uses a so-called user-cost approach...Assumed prices for dwellings rather than actual prices for houses, and the inclusion of a mortgage interest component, makes the CPI less sensitive than otherwise to housing price changes.” The piece recommends that Statistics Canada construct and maintain, in addition to the current CPI, an inflation indicator based on a net-purchases approach. While the BoC has been asleep at the wheel on the subject, the folks at National Bank did it for them, constructing an index that mimics the US Case-Schiller index.  What is interesting here is that the price spike is indeed isolated to Greater Toronto and the area around Vancouver. When taking out those metropolitan areas, the remaining cities, which combined with smaller cities and rural areas have 2/3s of the population, have seen zero real price appreciation this decade.With shelter costs 28% of the CPI index, you can see how incorporating this data would throw some sand in the gears at the BoC. Changing to that method would add 3.7% to the current CPI, bringing it to a tasty 5-handle. “Governor Poloz….Agustin Carstens from Banxico on line 2….ok, I’ll tell him you’re not here.” Is this bubble a threat to the whole economy? The financial system continues to look resilient. Canadian banks are 1) big, relative to the scale of the bubble,  2) wicked profitable, and 3) better capitalized than in 2008: Other financial metrics suggest there is much more resiliancy in the financial system than those in economies that have recently hit the pavement.  And as much as I hate to cite Warren Buffett as a barometer, he did just throw a pile of money at Home Capital. Another factor is that more immigrants are arriving--about 70% of which show up in Vancouver or Toronto. This, combined with the foreign buyers discussed on Monday, are creating a localized scarcity of housing.I’ll spare you a ton of charts that show low uninsured loan/value ratios but a leveraged Canadian consumer...no smoking guns there--in my opinion they suggest an inevitable, but impossible to time, downturn and/or recession rather than a financial crisis. While Vancouver and Toronto are clearly insane, I just don’t see how that means the whole economy is on the edge of the abyss. So what is Poloz supposed to do? Here is the menu of options: Hike rates--you’re going to need to be aggressive, Banxico-style. Remember, “real” inflation is on a 5-handle, and nobody ever defused a financial time bomb with a couple of measly 25bp hikes!  CAD will strengthen materially. Sorry Prairie provinces. Sorry exporters. Sorry oil sands workers and investors. You’re to be crucified in the name of financial stability. Macro-prudential measures--BoC has done some here, but nothing aggressive. Perhaps rightly, Poloz is hoping governments continue to do the heavy lifting. Sit on your hands and hope someone else fixes it. The current strategy, and prefered solution of bureaucrats worldwide since time immemorial. Where does that leave us trading CAD rates and FX? The market is pricing in a very slow and small tightening cycle from the BoC: roughly 48bps in hikes in the next year starting in Q4, and 66bps in the next two years. By contrast, for the next year the market is pricing in the following moves from other relevant central banks: Fed: +17bpsRBA: +6bpsRBNZ: +21bpsECB: The magic 8-ball says, “Ask again later.” But even rates modestly above the overnight came only after Poloz made some hawkish comments last week--a verbal intervention he thought was so important he did it in an interview with a radio station in Winnipeg. The Wilkins speech was on the tape too, but I’m still skeptical. Regardless, the move higher in rates left the 1y1y spread between US and CAD rates near the middle of a two year range, while the loonie still refuses to strengthen.A regression of the 1y1y us/cad rate spread vs. USD/CAD shows...not much. Nothing to see here, move along folks.Lower oil prices, low interest rates and the smoldering housing price bubble are the likely culprits holding back CAD. I would tend to agree with those seeing a technical bounce/squeeze in oil over the next few weeks, which should nominally support CAD. I don’t see a clear trade in rates--I’d more likely be a receiver than a payer.  I don’t believe Poloz will deliver on the hawkish rumblings, and foreigners will continue to buy Canadian debt. Steepeners probably make more sense here than elsewhere. I’d reluctantly trade from the long side in CAD, more due to valuation, positioning, relative performance given global USD weakness, and the previously mentioned bias towards a s/t bounce in oil. If those views look inconsistent, it’s because they are. I don’t think we’re at the end of the road here-- I know there are a lot of ridiculous stories of price increases and leverage, but Canada looks like it is a choppy traders’ market rather than a macro opportunity.

21 июня, 08:30

What I Think About When Thinking About Mexican Rates

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Ok stick with me gang--I'm sorry to go deep on Mexico again but I think it is worth a drill down. Those of us that pay attention to these things can extract value by doing this type of analysis independently rather than taking the sell-side analysts at their word, given their incentives to not stray too far from the herd. You can come up with some fascinating conclusions and outliers with a little elbow grease--my next step here will be to run this past a few EM watchers and see what I might be missing. As I noted last week, Mexican local rates rose dramatically in reaction to a spike in CPI, one which was driven in part by the depreciation of the peso. Today, rates have rallied well off the highs, but are still sticky at levels above late 2016 levels, both in absolute terms and relative to US rates. For its part, MXN has come all the way back thanks to a weak dollar, EM inflows and higher local rates.My thesis is that these rates can continue to come down because Banxico can, and will, cut the overnight rate aggressively in 2018. I believe markets are underestimating the magnitude of a rate cut in the same way they underestimated the size of the hiking cycle.  First is this chart. There is an output gap, and one that I don’t think is going to be soaked up by tepid US demand in the manufacturing sector (note the channel cramming in the auto industry), or domestic demand when interest rates are high and there is uncertanty around the 2018 election. Similarly, we see that real interest rates are high--Banxico hiked aggressively to stabilize the peso during the EM selloff and Trump-mania. A more “neutral” real rate, as much as I hate that term, is likely to be around that 2% level--that is still high by historical standards and stands as a relatively conservative estimate given the 5y5y real rate in the US is still well below 1%. This chart also shows that breakevens have been falling consistently since the US election as “Trump-flation” trade unwinds. While Mex breakevens have been falling too, they are still at elevated levels. As I noted last week I think there is at least 25bps in value in nominal curve built into the breakeven rate (roughly from 3.75% to 3.5%). What makes me so sure that breakevens aren’t permanently higher given headline is currently above 6%? Among other things, wages haven’t shown any sign of secondary impact from that inflation shock--in fact, quite the opposite. This aruges that businesses are recognizing this spike in inflation as transitory and underlying inflation probably isn’t too far from Banxico’s 3% target.Next is a similar chart from Banxico for inflation. They expect inflation to top out this quarter and come down relatively fast until it reaches the 3% inflation target in late 2018. I agree with their path here, in fact I think it could come in on the low side. Let’s look under the hood of the Mexico CPI figures. A big portion of the increase in inflation came from a hike in gas prices back in January. This was big enough to bring people in the streets in protest. The chart below shows the increase in gas prices alone--not counting second-round effects--has driven headline CPI roughly 1% higher (this is the “incidence”, the increase in the price times the weight in the index). Similar hikes in LP, natural gas, and electricity have had an effect too. Note that all four are near cyclical highs. Another indirect impact from higher electricity prices is built into the producer price index: industrial, commercial and residential prices. Industrial prices have skyrocketed as the government passes along higher fuel prices and pressures heavy users to increase conservation measures. Just as importantly, commerical electric rates were up over 7%. More on that later. Three big stories here: After a history of gas subsidies, gas prices will be set by the market throughout the country by the end of the year, and international companies are now free to open service stations to compete with state-owned Pemex. There are some new independent stations that are already selling gas cheaper than Pemex stations, and several international service chains have big plans to expand. This effect combined with lower oil prices could result in 5-10% lower gas prices nationwide.  The electric industry is in the process of deregulation. Outside capital is coming into the market, and the industry in is in the process of switching from dirty, expensive oil, to cheap, clean natural gas. The recent spike in electricity prices is likely to swing negative in the near future. Natural gas is also undergoing a transformation. Thousands of miles of pipelines are going live this year and next to import cheap US natural gas. Again, the price increases here are unlikely to be structural.  Government controled tarriffs are another big element of CPI. As the name implies, these are prices that are controled by the federal government. One of the big ones here is hikes in public transportation prices. This is a total one-off, and as the historical chart implies, is unlikely to be repeated. Moving on to “core”--Merchandise inflation has contributed over 2% to headline inflation. I see this as a mean-reversion--the still slow economy and MXN coming back to mid-2016 levels will cause this component of CPI to head back towards the historical mean, if not below. Similarly, the contribution of services inflation to headline CPI is also near historical highs. This is particularly unsual given the low wage hikes over the last year. No big outliers here but given the strength in MXN I think this is another sector that can mean revert, with downside in areas like education, restaurants, airfares, and tourist packages. Putting it all together--I’ve noted below what I think are conservative estimates for how much inflation can revert from each sector. Some of this analysis I owe to a paper written by Federico Kochen and Daniel Samano for Banxico. They estimate between 43bps and 73bps in “pass through” inflation from changes in the usd/mxn rate. My estimates for a reversion in CPI that “unwinds” the impact from the peso deval of 2016 and early 2017 is broadly consistent with their figures. They also had data to show there was a 7.2bp “pass through” to headline CPI from a 1% change in the producers’ electricity price index. Given the 7.3% YoY increase in commercial electricity prices,  I’ve attributed a 50bp decrease in the headline CPI rate should electricity prices remain flat over the next twelve months--again, given the impact of reforms and lower natgas prices, I think this is a convervative estimate.There you have it--what I believe is a plausible forecast that would get inflation back to 3% by mid-to-late 2018, and largely due to structural factors, while one-offs are unwinding. I would allow that the 50bps in electricity PPI might double count some of the factors I account for individually, but I estimated conservatively to allow for that. What would 3% CPI in 2018 mean for rates? First breakevens would fall by at least 25bps. More importantly, I think Banxico would cut aggressively, consistent with the charts showing a stronger MXN, high current ex-ante real rate and negative output gap. If we were to assume a 2% real rate combined with 3-3.5% medium term inflation, it would not be out of the question to see the overnight rate cut to 5.5% from the current level of 6.75% (or 7%, if Banxico pulls the trigger on a 25bp hike tomorrow). With the entire TIIE curve gravitating around the 7% level, we might see another 50bp move lower if the market buys into the easing cycle. Certainly the Fed and the presidential election are risks. The election is particularly tricky, because it is tough to see Banxico cutting aggressively in front of that event in July 2018.  But what I think is the real driver here is the reluctance of investors that got burned over the past year to buy into the idea that rates can come back down, especially with structural reforms bearing fruit, listless growth, and commodity prices grinding lower. We’ve seen it happen already in Brazil and Colombia--next it will be Mexico’s turn to cut.

19 июня, 06:44

Economist Riff of the Week: Canada

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Demand for safe assets from emerging markets creates a headache for policymakersThis week’s Economist riff takes us to Canada. Are Canadian housing prices in a bubble? There’s little doubt the answer is yes. The article discusses some of the macro-prudential measures the government and Bank of Canada have taken, and their relative (lack of) effectiveness.Tough to argue with that chart, when the price/rent ratio is materially outperforming peak prices from 2006 in the US, as well as Australia frothy prices. But is Canada on the precipice? The article correctly points out the source of the bubble is capital flight from Asia, mainly China. This chart shows there has been an avalanche of capital leaving China looking for a safe destination with stable rule of law. Canada certainly fits the mold.How has the Chinese government and the PBoC reacted to this capital flight? They have tightened capital controls in a variety of ways. This chart would argue they’ve actually been quite effective at it. Reserves have stabilized, and so has CNY. Similarly, front end rates in China have cranked higher as the authorities squeeze shorts. The combination of higher front end rates in China and tightening capital controls may not be completely uncorrelated to the recent slowdown in Vancouver and Toronto housing prices. The international economics textbook would say this is unsustainable--Chinese authorities will be playing whack-a-mole trying to stop capital from leaving the country, and Canada will continue to be an attractive destination. So with money still seeking to leave China, are we near the end for the Canadian housing market? I believe the answer is again a resounding “no”, for a few reasons: I would agree with the article here that Canadian banks are well regulated and capitalized. The shadow banking/zero down/ARM binge we saw in the US hasn’t gotten there (yet). There may be some bodies buried in the yard, but not system-wide.It’s clear that it will be a reversal of the capital flows from China that finally pops the housing bubble, which will likely be because of a hard landing/financial crisis in China, coinciding with a cratering in commodity prices. As I discussed last week, there are clear signs of a Chinese credit boom. But I don’t see the signs that there is a bubble popping there. I recognize front end rates are inverted but I don’t see the spark that is going to ignite the tinder--maybe a dead whale beaches itself onshore tomorrow, but given the firepower and incentives of the Chinese government, I suspect that day is well in front of us. The catalyst for an end, or a reversal, of the flows has to get back to value. The Chinese will repatriate their capital when and if there are cheap assets to buy domestically. But today there is huge value in exporting capital for your average Chinese citizen. And for these people, Canada still looks cheap. Not only do you gain a significant improvement in the rule of law, but CAD is near historically cheap levels on a REER basis, while CNY is still looks overvalued. Bubble economies tend to have overvalued currencies as the “story” behind capital flows overwhelm reality. The REER in Canada shows that is not the case, in fact, arguably the opposite. And it is worth noting that #2 in this measure is USD, which has been another huge beneficiary of foreign flows over the last several years. Source: BIS I’m not going out to buy a condo in Vancouver tomorrow morning. And I can see how foreign demand could make domestic assets expensive enough to price out local consumption and investment and submarine the economy. But I don’t see the evidence that we are there yet.

16 июня, 05:33

Make Mbonos Great Again

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As I noted last week, Mexico was ground zero in 2016 due to Trump’s double-barreled promise to build “a beautiful wall” and rip up NAFTA. The panic set off by Trump’s rise to power last year only threw gas on the fire in Mexico, which was already burning due to the pain in EM and falling commodity prices.  In local rates, 10y TIIE blew out above 8% in January when Trump twitter-bombed the market--claiming he would rip up NAFTA, implement a border tax on auto imports, and pressure foreign car companies to build factories in the US rather than Mexico. Since mid-February, Trump has become a paper tiger for Mexican risk, and 10y TIIE has retraced nearly 100bps from the wides. The charts below show that rates are indeed lower, but mostly due to lower US rates and lower credit risk. A reasonable proxy for local rate/FX risk is 10y TIIE, less 10y US and 10y CDS. This spread is still roughly 75bps above mid-2017 levels, despite a reform agenda that has successfully plugged the fiscal gap left behind by the drop in oil prices and production. I believe local rates are lagging due to a combo of high inflation this year, residual reluctance of locals to move back into the nominal curve, and 2018 election risks--but given the full retracement of other Mexican assets, high real rates,  and the potential for an end to hikes or even rate cuts from Banxico, there is still good value in local nominal rates. 10y TIIE and 10y mex/us still much higher than pre-election......Despite full retracement in CDS--reforms are working, but local rates are lagging.… and despite a full retracement in MXN….which still screens cheap to EMFX on a REER basis Why has the Mex/US spread been so sticky? The big depreciation in MXN coincided with some local factors to cause a big spike in inflation. The central bank reacted by increasing the overnight rate to 6.75%, a rate reminiscent of the pre-GCF days.This aggressive hiking cycle has led to very high ex-ante real rates as the central bank seeks to anchor long-term inflation expectations around their 3% +/-1% target--yet breakevens imply no future reversal from current levels of real rates. Mudi25/mbono24 benchmark breakevens still at 3.8%Some would claim Banxico still has some wood to chop there with medium term inflation breakevens still at 3.8%. I see a medium-term breakeven of 3.5% to be a more reasonable inflation risk premium given the high real rate, institutional strength of Banxico and what is still priced into the front end--that leaves 20-30bps in upside in the nominal curve even if you don’t get any love out of lower real rates, which isn’t out of the question given trends in the US and oil. The long rates trade could also work if the central bank moves to reverse the tightening cycle in the near future. The big reversal in MXN has extinguished the risk that pass-through inflation will contaminate long-term inflation expectations, but nominal rates and breakevens are still pricing in some of that risk. Also, some of the exogenous factors that pushed inflation higher this year are one-offs that will reverse out next year (gas prices and mass transit hikes being the biggest culprits).  There is also a persistent output gap-- with still listless growth, a flat curve in the US, and a weakening USD, there aren’t many external factors to change that. The important point on this graph below is not only the negative output gap, but also the negative slope in the central bank’s forecast--That is a signal Banxico will cut rates aggressively if and when headline inflation or inflation projections revert to their target range.And that isn’t priced into the market now--the 1y1y fwd rate is flat to the overnight, despite easing cycles priced in elsewhere in EM. What’s next? Another 25bp hike at next week’s Banxico meeting looks baked in. The fundamentals argue that could be the end of the hiking cycle--usually that’s a good time to receive rates. Inflation will need to cooperate, but continued slack in the local labor market combined with trends in the US, China, MXN, and commodity prices are supportive of lower CPI figures ahead. More on this in future episodes.Depending on your global view, the three best expressions of the long Mex rates trade are: Receive 5-10yr TIIE or Buy mbono24 or higher; curve is flat but term premiums are attractive, buy CDS leg tactically as an AMLO hedgeReceive 10y mex/us spread in swapsReceive 10y mex/us spread and buy 10y CDS What are the risks? You know the drill: EM has had a great run, a reversal in US inflation could put the fed in (real) hiking mode, which would push local rates and inflation higher and MXN lowerNot to beat a dead horse but vol is in the gutter, which is a powderkeg. I wouldn’t hedge with MXN puts but continue to like the hedges noted last week, or selling COP, CLP or ZAR to lay off EM risk.Trump crawling out of his political grave before midterms or Muller drive a stake through his heart, and/or Trump setting fire to NAFTA in desperation.The biggest risk is Mexico’s presidential election--the left-wing populist Manuel Andres Lopez Obrador is leading polls, likely part of the reasons locals are hesitant to increase risk.  AMLO can, and will, cause more volatility in Mexican assets in the run up to the election in July 2018. The risk to the theme here is that the election will make Banxico slow to cut rates in  2018, even if financial conditions call for it. I’m comfortable with this risk because 1) AMLO’s relatively lackluster showing the the state elections last week, and 2) the political implosion of Trump negates AMLO’s biggest rallying cry.  That said, vol will return in 2018. Buying Mex CDS is the best hedge here.

14 июня, 03:13

Trump's Fed

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Quick exposé on the Trump Fed.What we already know:Trump is tapping the following for the Board of Governors:Marvin Goodfriend- PhD from Brown in economics back in '78. Currently is an economics professor at Tepper (Carnegie Mellon's Business School)- The guy doesn't teach the IS-LM model (Video Here). From my understanding, the model describes the relationship between real interest rates and asset prices (specifically real GDP) curve in relation to the liquidity preference and money supply curve.The idea here is that in the short term, prices are sticky. If the central bank expands the supply of real money, the price of real money increases while prices remain unchanged, thus lowering the equilibrium interest rates and expands real GDP.It's kind of interesting as this guy doesn't seem to believe this model.- Has been an advocate of negative rates in the past having its merits if the zero bound is completely unencumbered (thinking going negative 3%).- Really likes Tom Keane? (shameless plug for Surveillance Midday on which he frequently guest speaks)Moving on:Randal Quarles- Law degree from Yale in '84. Philosphy and Economic undergrad background from Columbia.- Senior official to W's Treasury Secretary. Also worked in the Treasury Department for H. W.- A guy with private sector experience as an MD at Carlyle. Currently, runs his own investment bank in Salt Lake City.- Will be vice chair of supervision, helping with financial sector regulatory efforts.- Described as a "mainstream" Republican.- Has been an advocate for better coordination with Europe in regards to regulation.What I think:The overall changes to the Fed will skew to a more hawkish one.Goodfriend seems pretty hawkish. (Video Here) He's a Taylor Rule type of guy - that means equilibrium Fed Funds should be much higher - about 3.10% to be specific.Sizable gap to be closedIn addition, Goodfriend has been recorded a number of times speaking regarding the Fed falling behind inflation. For example:GOODFRIEND: There is no way that this recovery can proceed with any degree of confidence unless the Fed makes sure that inflation does not move up. So I think the risks are exactly reversed from the way the Fed chairman discusses this. He has to make the public understand that any whiff of doubt about the Fed’s ability and willingness to stabilize inflation is going to put a crimp into the public’s willingness to take positions and commitments over the next two or three years that would produce genuine growth.Additionally, Goodfriend's staunch advocation of abolishing the zero lower bound should not be confused as a conveyance of any desire for easy monetary policy.His thought is that only when the zero lower bound is abolished before low-interest rate policy (whether zero or slightly negative) can have meaning impact - in layman terms, Goodfriend is saying that only the threat and the potential action of the Fed going extremely negative in rates (hypothetical extreme of, say, negative 5%) would translate to the regular banks providing negative loans to the greater public which would actually stimulate the economy. In turn, that would eliminate the current squeeze on bank profitability vis-à-vis a squeeze in net interest margins.Goodfriend is also a big advocate in regards to the ineffectiveness of quantitative easing. He believes QE is "credit policy", closer related to the fiscal realm rather than the monetary realm. It is reasonable to believe that he will want the Fed to quickly sheet its mammoth balance sheet.Moving onto Quarles.Private sector guy. Banker. Seems like somebody Steve Munchin and Gary Cohn would like a lot. Hard to imagine a banker agreeing with policy that hampers banks. What's been hampering banks? Squeeze on net interest margin. We just talked about it a couple of paragraphs ago.So let's put our thinking caps on. What type of policy were we just talking about that can alleviate bank profitability?Either higher rates or a lower rate policy that completely disregards the zero lower bound. At these economic levels, should we go super negative or should we have higher rates?The Fed has a dual mandate of full employment and low and stable inflation. Put yourself in the mindset of this banker - inflation is somewhat low. Okay. Check.  Let's keep full employment going by stimulating banks and thus economic growth - let's have higher rates/a steeper yield curve. Should we keep rates low or raise them?These factors have me leaning heavily towards a more hawkish Fed.What can be projected with some imagination: Letting our imagination run, we can project the following:Trump is not exactly one for moderation. When he likes something, he likes it yuge - think famous rapper Wiz Khalifa - everything he does, he does it big.The bigger implication here is that if these are the two he's nominating for the Federal Reserve Board now, we can project what other types of candidate he could nominate when Janet Yellen's (dove) and Stanley Fisher's (contradictorily (vs Janet Yellen) moderate) terms are up.Hint 1: conservative monetarists.Hint 2: More Taylor Rule and higher equilibrium Fed Fund rates.The upcoming Fed meeting is a consensus raise. However, looking at things like the dollar and long end rates, it seems to me that the consensus of a dovish Fed multiple meetings forward is pervasive.Dollar at 2016 levels shows the market disbelieves potential Fed action vs other central banksIt seems to me that the market is still operating under the same assumptions of the current Fed when there are beginnings of tectonic shifts happening beneath our feet this very second. 2018 hike odds seem too low and presents good risk/rewardAll this occurring in a market that already consistently underprices what the Fed's explicit intent.Imagine a couple of those lower dots moving higher. With poor Neel Kashkari alone, championing for rates under 1%In terms of actionable trading:With everything regarding the markets, timing is paramount (forget all those academics saying it's impossible to time the markets). Everything I've talked about can take a little while to materialize. There are of course things that can derail the thesis. If oil keeps sliding, which I think it can, and lead to lower breakeven inflation and turmoil in the high yield market, we can keep push back the eventual rates take off a bit longer. Tomorrow's hike is pretty much 100% priced in. Fellow contributor Shawn cited an article arguing that the Fed should stay put tomorrow. I can only imagine the price action in treausries if that happened. I would look to eventually fade that move if the Fed indeed shocks the world. Also, there are a few keep assets and spreads that can be keen to offer clues. The breakeven curve has been steepening slightly - if it continues, it can be the harbinger for a general lift off in breakeven inflation.  Additionally, I'm looking for the curve to stop flattening. I would like to see signs of the curve establishing a bottoming.Name of the speculation game: anticipate the anticipation of other market participants. Ultimately, it's just too damn hard for me to not expect some rhetoric or action from the Fed till January 2019 that doesn't raise the probability of one more hike to be over 30%.Should we be flatter than before the election? Seems like the market is too skewed in regards to how flat the curve should be. Thanks guys. Fed meeting tomorrow. Good luck out there.

12 июня, 07:26

The Economist Riff of the Week: France

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"To source my stories, I read a tremendous number of books and papers, I subscribe to research services, and I read The Economist religiously" Jim Leitner, Founder of Falcon ManagementIn Stephen Drobny’s book, “Inside the House of Money”, Jim goes as far as to say that he could trade pretty well if his only news and research source was The Economist. I’m not here to deify the magazine--I would tend to concur with those that think their agenda has gotten a little tiresome. That being said, I would agree that if you are going to read one thing all week, The Economist should be it. As a public service this is the first edition of a new MM feature, "The Economist Riff of the Week.”  This week we start in France: The story notes how Macron’s “En Marche!” movement has taken the lead in polls for parliamentary elections, and now looks likely to win a strong majority. The first round was yesterday, and Macron did indeed win a huge victory, one that pollsters project will win him between 415 and 455 of the 577 seats in parliament. Macron has been given the mandate to implement his agenda. From a macro perspective, the three most important planks of his platform are fiscal policy, labor reform, and pension reform.  Macron has promised to put “France back to work”, increase productivity, reform what was once thought unreformable, and fix France’s broken growth model. But what does he really stand for? Fiscal policy--Here are some quotes from Macron’s economic platform:“We will therefore reduce the share of expenditure in national wealth to 52% in 2022: the difference between the level of expenditure in France and the average level in the euro area (48.5%) will thus be reduced by half;”Alright--Macron wants to reduce government spending--to a level which is still 3.5%/GDP above the Euro area average . At least he’s pointed in the right direction. How’s he going to do it?“Public spending will be reduced by EUR 60 billion per year by the end of the five-year period. This is done via three channels:The social sphere: 25 billion euros in savings. With the reduction in unemployment (aiming at a rate of 7%), unemployment insurance expenses are automatically reduced. With health insurance spending contained at 2.3% per year thanks to better prevention and better coverage of care, a saving of 10 billion euros is foreseen.The State: 25 billion euros of economy, modernizing the civil service and aiming for a realistic and differentiated reduction of the posts in the public civil service.”Both about 1%/GDP. #2 sounds pretty vague and squishy. And in #1, Macron is claiming 25bn euros in savings by reducing unemployment to 7%. Let’s look at his assumptions: He is forecasting 1.7-1.8% GDP growth for 2018-2022. Here’s how France has grown for the prior five years:GDP growth hasn’t cracked 1.5% since 2011--so optimistic at best. Where will this magical growth come from? Macron believes labor and pension reforms will reduce labor expenses enough to make the economy more competitive, especially with their Teutonic neighbors to the east. But Macron’s labor policies look like tinkering to me--hardly the tough medicine necessary to change a chart like this: Same story on pension reform--Macron is essentially suggesting to streamline the system rather than change it radically. Not a bad idea, but hardly a radical one. Macron claims he is “neither right nor left”. Indeed, he is Tony Blair, not Maggie Thatcher. But France needs a Thatcher. Accordingly I’m not bulled up on France here--but given the recent volatility and the big victory yesterday, it is worth it to roll through some charts. This is 10y and 30y OATs vs. Bunds. If you really buy into the “New France” story, there is good value for more tightening here. I could see trying to buy the 10y oat vs. 10y bund at a 35bps spread looking for a move to the mid 20s, but I’m not crazy about it.There’s some directionality with outright Bund rates--but in the recent range the spread has traded tighter from current levels, and the future outlook for France is certainly better than it was in late 2014-early 2015 when there was a ton of Asian demand for OATs. Another clever idea would be a 10s30s OAT flattener--this is trading at the top of the range, along with Bunds, which is interesting given the huge flattening in USTs over the past month or so. If Macron delivers on reforms, 10s30s will flatten, and you are getting a nice entry point here.French bonds also look at little cheap vs. Belgium.No home runs here--but maybe a few clean singles good for 8-10bps. All that said I am not a great mind on France--do chime in if there are any great insights out there--or let me know what caught your eye in the Economist this week.

09 июня, 19:12

The Trump Trade is Dead...all hail the Xi Trade

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With all of the fuss around yesterday’s Comey testimony, I thought it would be a good time to have a look at the “Trump trades” from the beginning of the year. The charts will show that, as in the pic above, despite continued bluster and gesticulating, the “Trump Trade” has given way to the “Xi Trade”.After the election, the big one was “Trumpflation.” The idea was that Trump is going to spend a ton of money on infrastructure and defense, leading to more bond supply, higher deficits, higher term premiums and higher inflation.  This lead to an acceleration in global growth expectations, pushing inflation expectations higher around the world.Since November, 5y5y US breakevens have been trending lower consistently. EUR 5y5y breaks took longer to reach recent highs and have been more reluctant to retrace given a better run of economic data. US breaks have retraced the whole move higher since the election, while EUR breaks are still about 10bps off those levels. Real yields have a case of the “suppo-sta’s”. They were suppos-sta go higher. Nominal yields have bull flattened, indicating a quick end to the Fed’s tightening cycle--not exactly a vote of confidence in Trump’s ability to increase growth rates in the US. Not much to pick from between 10y UST (blue) and the 10y UST/Bund spread (orange).We were also told USD would stay strong since Trump had finally solved the growth riddle, simply by promising to spend a ton of money to spur domestic demand and business investment.  EUR and JPY depreciated hand-in-hand, but JPY has gone sideways while EUR has been ripping. Jens Nordvig, head of Exante Data and former Nomura FX guru, believes there has been a fundamental turn in capital flows back towards Europe. This ties out to my intuition--in 2016 capital fled Europe due to QE and low growth expectations. Now growth has picked up (a little bit, anyway), and the Trump demand resurgence has been exposed as a lot of hot air. The German export powerhouse flexes its muscle again. The most famous blast zone of Trump risk was usd/mxn and Mex rates. The peso fell 6% on the day after the election, and after coming back modestly into year end, melted down completely shortly after New Year’s when Trump unleashed a Twitter bomb suggesting he would implement a “border tax” on Mexican auto imports and withdraw from NAFTA. MXN moved opposite of EMFX at large, which was recovering nicely. MXN (red) vs. EMFX (purple, inverted so it moves the same direction as MXN)This is a chart of the residuals of usd/mxn vs. the EMFX Index--higher figures indicate MXN is cheap relative to the regression. This shows how MXN has not only closed the gap from November outright but also unwound all of the underperformance relative to the rest of EM complex.Similarly, TIIE got demolished by Banxico aggressively hiking rates to defend the peso or financial stability, the locals' paranoia about Trump, and corporates with USD liabilities crushing offers in the cross-currency market, leaving banks as huge payers into a market with no bid.  In late February, Banxico implemented measures to backstop the peso and stabilize rates. Those measures combined with very attractive real and nominal forward rates convinced foreigners to buy duration, and local pension funds chased yields lower after moving aggressively into short duration and linkers in a futile attempt to shield themselves from the selloff in rates. These accounts extended duration as Banxico continued to hike and global curves flattened. 2x10 TIIE officially at zero….Bottom line: the herd turned. Next was stocks. “Risk on!” Came the cry from equity desks around the world. More spending! Lower corporate taxes! Offshore corporate profits repatriation! Business confidence! Deregulation! Financials and oil/gas stocks led the way, thankful that one of their own was finally back in the White House.  Since the beginning of the year financials (XLF) have chopped around while oil/gas stocks (XOI) have gotten hammered by the combo of a slothful, inept Trump administration and lower oil prices. Similarly, small cap stocks stood strong after the election--Trump was going to cut taxes, regulate, cancel Obamacare, etc. etc. Sorry, Charlie. Alright, but the S&P had a great run after the election--why hasn’t it given back any of its gains? The sectors that underperformed in November and December have reversed course--Health Care (XLV), and here’s the big one--technology (XCI). The 20% gain in tech has plugged the hole in the index left by the sectors that led the big move higher late last year. Thank you, Mr. Beta.  And lastly from the equity world, there was Trump’s mantra borrowed from populist windbags the world around, “Putting America First.” A funny thing happened on the way to autarky--an avalanche of money flowed into emerging market equities. Why the reversal? Copper prices rocketed higher after the election because Trump was going to build more stuff. Here’s one that has held up, but credit goes not to Trump but to the resurgence in EM growth and Chinese demand--the Xi Trade. Copper (HG1)Lastly, there is credit. IG spreads were already recovering after the brutal start to 2016 and the shock from Brexit. They never really took much of a breather, just continued to grind tighter and tighter. Vol played a significant role in this as well--was the utter destruction of vol one of his campaign promises?  IG implied vol has clattered through the lows. Like tech stocks leading the S&P higher, this is credit traders juicing coupons and eating their seed corn. By contrast S&P vol is certainly historically low but hasn’t seen the steep decline of bond and credit vol. Where does that leave us? I try to avoid crystal ball stuff but here’s how I see it: Trump and the US political scene at large: I think he’s done politically--and taken together, the market agrees. Trump is going to be fighting with Congress, Comey and Muller until the GOP majorities get liquidated in the mid-terms. After that his agenda is over, and Democrats will be circling like sharks around a wounded tuna.Nominal rates and breaks have priced fiscal stimulus at zero, which close to the right price given the way Trump has frittered away his modest political capital.  But the flattening of the curve and unwinding of hikes by the FOMC beyond this year shows markets are somewhat complacent about inflation picking up on its own accord. That being said, don’t hold your breath.  EUR can continue to benefit from a sea change in capital flows after several years of outflows. Mexico: We come here today to bury the “NAFTA withdrawal” trade. Again, if Trump could have put together a coalition of domestic manufactuers, unions, and xenophobes to rip up the treaty, he missed his chance. The TIIE curve will invert as growth stagnates and the inflation spike fades, but Banxico will be loathe to cut rates too quickly ahead of the 2018 election. Election risk will become salient around the end of the year when polls should start to become more reliable as it becomes clear who PRI and PAN will run against AMLO, but Trump’s ham-handed political circus will take some of the air out of AMLO’s campaign. Stocks--Can’t stop the Feeling! Just dance, dance, dance…. Seriously, corporate profits will have to “show me the money” to keep this train rolling, but that hasn’t stopped the market before. This probably would have gotten me fired as an equity manager but I believe value is indicative of future returns--and I can’t see how this chart and current demographic and geopolitical trends end in a reasonable return on risk capital, unless 1929, 1966, and 2000 were really good times to buy stocks. IG, HG, vol--see above.   Taken together, real money is getting squeezed and is increasing risk by buying tech, high yield, selling vol etc. to keep the ball rolling. The longer it goes on, the smaller the exit door gets.EUR, DXY, EM--the prior two bullets notwithstanding, I think the flows can keep going--I prefer EM rates over EMFX--but I’ll want the hedges I discussed in Wednesday’s post in my back pocket. The resilient copper chart illustrates global demand is still stronger than it was last year. This is the new paradigm for 2017….the Xi Trade.

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09 июня, 06:16

Consensus Thinking II

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"Alas, the chance of a robust opposition emerging from this miserable election campaign is vanishingly slim."-"Labour is unfit even to lose", Bagehot, The Economist, May 20, 2017Your investing brain lusts to buy into this kind of stuff. Full marks for the illustration, though.

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09 июня, 05:24

Consensus Thinking, Defined

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"The pound rose on expectations that the prime minister would win a much increased Commons majority, allowing her to sideline implacable Eurosceptics in her Conservative party and ensure a phased Brexit concluding with a UK-EU free-trade deal."--FT, April 18, 2017"The pound is down sharply as traders react to the early election results. The currency market had been expecting a clear victory for Theresa May's party, but the results so far, and the exit poll, have cast doubt on a Conservative majority."--BBC, June 9, 2017

07 июня, 17:11

China Risk, Credit Booms, and Hedges--what's a PM to do?

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If you’re of a certain age, you remember what you were doing on election night in 2000. Al Gore was declared the winner around 11pm, or was it Bush? It was too close to call.   Back before we did everything on touch screens, NBC anchor Tim Russert kept a whiteboard of the states that were still up for grabs. By midnight, it was clear Florida was the one state that would put either candidate over the top. Russert famously erased all the other states on his board, and wrote, “Florida, Florida, Florida.” If I were on tv talking about emerging markets, it wouldn’t be too much of an exaggeration to write “China, China, China” on my EM white board. As I mentioned in my post on Monday, the resurgence in production, growth and stability in China over the last year has led a to a very supportive environment for emerging markets assets after a dreadful couple of years. While there are danger signs, the ball could keep rolling for quite a while. How can we assess the risks in China, and build a resilient portfolio accordingly that is robust to the possibility of a hard landing?  I won’t go over all this ground again….you know the drill: China manages the economy and financial markets to maximize the political stability of the regime. China devours commodities like a stray dog set loose on a Vegas buffet. China has capital controls to prevent money from fleeing too quickly. Chinese investors are inflating a property bubble for lack of alternative investments destinations. China has an ever expanding credit stock that the authorities struggle to manage so it simultaneously keeps growth humming while not imperiling the country’s financial stability. How are they doing on that last one? Our friends at the New York Fed have looked at the data, and determined, you’ll never believe this--China is experiencing a credit boom. The IMF defines an expansion in credit in an economy as a “credit boom” when one of two criteria are met: 1)  the deviation of the annual growth rate of credit/gdp exceeds 1.5x of the trend standard deviation over the past ten years, and the credit/gdp ratio exceeds 10%, or 2) the annual growth rate of the credit/gdp ratio exceeds 20 percent. Without spending too much time abusing the data, China has been in a credit boom since 2012. Similarly, the Bank of International Settlements has studied a number of different metrics for “early warning indicators” of a banking crisis. Their data suggests there are two indicators that consistently outperform other measures as “EWIs”. The credit/gdp “gap”, which is the gap between how fast credit is growing relative to a five year trend, and the country’s debt service ratio. The DSR is a measure of what percentage of income is devoted to debt service, or repayment of principal and interest. The higher this ratio goes, the less income there is leftover to spend on, well, anything else.  The credit/gdp “gap” moved into the danger zone back in 2012 and has kept on truckin’ ever since. As one would expect from an economy with a rapidly growing credit/gdp ratio, the DSR has been on a tear since the post-GFC stimulus measures of 2009--and on an absolute basis, reaching a point where countries have hit the wall in the past. Also, the BIS notes below that there are a couple of “red lights” for China in their “EWI” analysis--in this measure, DSR is expressed as a deviation from the five-year mean, which illustrates how quickly the ratio has been accelerating. Both the BIS and IMF have noted the more quickly a credit boom expands, the higher probability of an ugly ending. When you add in some aspects of the shadow banking system and credit growth including “nationalized” bank debt taken on by local governments, one can argue the credit “boom” is even larger than the narrow, relatively conservative definitions in the BIS and IMF data. Alright you say--we’ve heard it all before...nothing to see here, please move along...But what is the probability of an ugly ending? The IMF’s study of the history of credit booms determined there are often two consequences of a credit boom: 1) a financial crisis, and 2) economic underperformance, defined by six years of growth 2% or more below trend, or both. In 69% of cases, one or the other, or both occurred at the end of the credit boom. The paper suggests the other 31% were cases where there were significant financial and structural reforms that caused an increase in productivity, or credit was coming from such a low and underdeveloped level that the credit boom caused the economy to catch up to “normal” levels of credit. China continues to kick the can down the road on structural reforms, and pre-boom credit/gdp ratios were already above 100%, so there is little to suggest the economy is simply developing a healthy credit market.Whew...ok, lots of numbers there. Given China’s role in global credit expansion and commodity demand, it is clear how and why China is so important to emerging markets, and probably a systemic risk. In the past three years we’ve also seen the delta of Chinese demand to EM financial stability and growth. But the credit data shows nothing much has changed!! The stress, vol, capital outflows and FX deval of 2014-2016 could be better defined as a breather more than any significant deleveraging. So as a portfolio manager, how do you deal with China risk? Here, I’ll borrow from the esteemed market strategist/philosopher Dylan Grice: “One problem is that many of the big moves we’re supposed to ‘trade around’ are fundamentally unpredictable “Taleb’s Black Swans), and no amount of research will predict such events. Perhaps a more important thought is that we’re simply not hardwired to see and act upon the big moves that are predictable (Taleb’s Grey Swans).” The data suggests there is a significant chance, maybe as high as 7 in 10, that China will experience a significant decrease in growth, a financial crisis, or both, in the next five years. Given Dylan’s point above, and well known behavioral biases, do you think that these risks are baked into vol markets that are at historical lows? Me either. But even if it is, it is certainly a “grey” swan and not a black one. The good news is by buying some vol, we’ll pick up protection against completely unpredictable events along the way.  Let’s cast the net for some hedges.  Again, with apologies to Mr. Grice, here’s what I think is true about China. -Chinese credit is expanding fast, and historical data suggests it is prone to disaster- there’s too much debt there, and probably everywhere else too-Central banks are likely to react to any credit stress in China with the same elixir: more credit. And here is what I know is true about China: -There is plenty of uncertainty--There are smart people that think China has the resources to recapitalize the banking system and/or high enough domestic savings to weather a credit storm.-a financial crisis or significant decrease in current and future growth expectations would cause a spike in volatility in emerging markets. -We have no idea when. Given these constraints, and our hypothesis that the market is underpricing long-term risk of a China driven calamity, we want to use volatility to build in some EM and commodity sensitive hedges which will 1) give some gamma and upside to capital flight or a metastasizing crisis should property and/or credit markets turn ugly quickly, and 2) give us more staying power in long-side trades we’ll need to make our PnL budget if we waiting for Godot (finally, that intro to drama class I took freshman year pays off).  We’ll get into the long-side carry trades another day. Here are a few ideas for hedges in what is by no means an exclusive list. It is no secret Australia has huge exposure to Chinese demand. The price of this ATM 5y5y AUD receiver swoption is about 48bps per year. The black line below shows just how far through previous lows Aussie swoption vol has fallen. The red line represents the 5y5y rate, which is nearly 100bps off the lows from last year.CAD receiver swoptions would likely offer good value as well for the same reasons.The flattening of the USD curve this year has unwound virtually all hikes by the Fed beyond this year. In a Chinese hard landing the curve could invert as the market prices a return to ZIRP. The price of this 3y- 1y USD receiver swoption would be around 12 bps per year for three years. The chart shows US rate vol isn’t quite as cheap as some other hedges but it is a liquid and straightforward way to gain exposure to a reversal in the Fed’s tightening cycle.In the FX world, we can grab some low delta put options on China-exposed currencies. We’ll use AUD and CAD again, and add in SGD, which has very low rates and trades like a basket of Asian currencies dependent on Chinese demand. This chart represents the implied vols for a portfolio of 2 year, 10 delta USD call options on AUD, CAD, and SGD. The implied vols we see here are through the levels from just before the taper tantrum, and very close to the levels from just before commodity prices in general, and oil prices in particular, started to fall in mid-2014. These currencies will all get pummeled if China rolls over. Similarly, 2-year, 25 delta risk reversals have reached some very complacent levels. CAD is scraping along the lows, as is SGD, while AUD is blowing right through. These trades would give you cheap gamma to trade around when and if vol accelerates. Outright shorts in CLP and COP will give us some reasonably priced exposure to two commodity intensive currencies, with very easy to swallow annual carry of around 3% and 5% respectively. Colombia in particular has structural problems, low real rates, a persistent current account deficit and vulnerability to lower oil prices. Despite this, the currency that has rallied 14% from the 2016 lows. Chile practically begs a macro trader to short its currency given its high dependence on copper prices, significant USD-liabilities in the corporate sector and highly leveraged consumers. Chile also has near zero real yields that will dive to negative territory in a China hard landing.  In addition to the SGD puts and gamma noted above, outright short SGD has some merit as well, given its low carry, linkages to global trade and the banking/finance sector. For the FX option trades we can simply size the premiums to generate negative carry that we are comfortable with relative to overall risk, our PnL budget, or expected positive carry and rolldown, whatever metric works the best. The outright shorts are a little more complicated since our objective here is to hedge tail risk and build long-term staying power for a broader portfolio. But these long USD positions are attractive on a micro level and will also add some protection against an increase in inflation and a bear steepening of global rate curves. Putting it all together--we can pick and choose a few of these hedges that are currently on offer at fire sale prices and size our hedge portfolio in such a way that we have significant positive gamma should the bloom come off the EM story’s rose. We don’t know the future--but we can prepare for it. These hedges will manage some of the uncertainty surrounding China and give us the latitude to seek out smart long side trades while preparing for the worst.

05 июня, 19:34

A Random Walk Through Emerging Markets

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Welcome to the first edition of MM’s “EM Corner.”  TMM certainly swam in EM waters from time to time, and we approach markets from the same perspective: global trends have a trickle down effect that impacts assets throughout the world. While I focus on EM assets, it is paramount that I have a firm grasp on global macro. If you’re looking for the latest technical analysis on EEM, sorry, you’ll have to go somewhere else. One of the great metaphors of financial markets was coined by the Venezuelan economist Ricardo Hausmann: the “original sin” of emerging markets. Before there were developed EM bond markets, all EM governments relied on bank loans from US and European banks. These loans were made largely in dollars, but the revenues of the country are in the local currency. As the local currency depreciated, the dollar liabilities became more expensive to pay back, leading to a vicious spiral. This is what drove the boom-bust cycle of EM, usually ending in default, revolution, or ex-Citibank bankers absconding from Manhattan under cover of darkness.   That boom-bust cycle still exists, but market developments have changed the dynamics.  One trend I have been droning on about for years is emerging market governments’ move away from dollar-denominated debt towards locally-denominated debt, which puts more pressure on FX as the relief valve or adjustment mechanism. More about that later in the week. How much of EM is in the tradable macro universe? There are three big asset classes in what we’ll call “EM Macro”: 1) Equities, via some ETF like EEM, or ETFs based on country-specific sub-indices, 2) FX, which is going to be done via spot or forward trades in currencies like MXN, BRL, TRY, ZAR or CNY, and 3) Fixed income, which has a smorgasbord of potential goldmines or widowmakers: dollar bonds, local currency bonds and swaps. I largely stick to FX and fixed income. People like to talk about FX, because there’s a number you can get your hands around. You can build a fundamental case for the currency of your choice. There are few markets out there that lend themselves better to charting and technical analysis. And in most emerging market countries, there is a history of huge devaluations of the local currency seared into the collective memory. Most locals will have some idea, maybe even a very exact one, of how much their local savings is worth in dollar terms, unless of course, they are saving in dollars already because they became conditioned to their government treating the currency like a piñata.  Everybody has skin in the game, and everyone has an opinion.  You can recognize the watercooler talk. “Where did you buy usd/zar?” “I got short at 12.50, riding the wave. Commodities are strong and the Fed’s on hold, man.” “What do you think of usd/brl here?”“I’d love to be long but the carry is a killer.”“Has anyone seen Bill? Haven’t seen him in a couple of weeks.”“He’s gone. usd/mxn.”Combine that easy access with big moves and huge flows, and you can see why a traders love a good FX story.   I generally see better opportunities in fixed income. The correlation between FX, inflation and local interest rates cannot be overstated. Trading EM rates is like getting the whole enchilada rather than just the rice and beans. Gauging inflation is key--many EM central banks explicitly target inflation for monetary policy decisions, and bondholders face inflation with all the courage of a bunch of chickens dropped into a dog pound. There’s also credit: some countries borrow cheaply, like Germany, and some borrow at usurious rates from Goldman Sachs, with grave human consequences, like Venezuela. And countries have options about where and how they issue. There are vast pools of buyers from real money, hedge funds, SWFs, local pension funds, local mutual funds and central banks. So understanding supply and demand is vital.  In the past several years, EM has generated some big macro opportunities. There was the Chinese-reflation story of 2010-2012, when Beijing decided to throw open the credit channel to keep the factories humming. This drove demand for EM-intensive raw materials, and in combination with the Fed’s QE printing press running full steam, it was all systems go for EM.  Huge inflows cascaded into EM and caused many currencies to re-appreciate to or beyond pre-crisis levels. Later, there was the great unwind and outflows of 2014-2016. The combination of slowing Chinese industrial demand and increasing inventories crushed commodity prices. That, combined with the Fed finally starting to hike rates in late 2015, spurred a huge rally in the dollar. As we have seen so many times in so many markets, locals, hedge funds and real money fled EM like their hair was on fire. Big depreciations in local currencies drove a spike in inflation, and falling growth rates hammered fiscal accounts. This combo platter caused a dramatic increase in real and nominal interest rates. In early/mid-2016, there was a huge buying opportunity in EM as valuations hit rock bottom, commodity prices bounced off the lows and many countries made progress in plugging holes in their current accounts and/or fiscal balances.  So you can see how just in the past five years there have been a few chances to make a ton of money in EM, just by considering the macro implications of what is going on in the world, especially in China and G3 monetary policy. The current market is quite supportive of EM. Global demand has picked up. Commodities have stabilized, and the dollar is chopping around, with the potential to weaken if we get more lousy data like we did on Friday. Historically low levels of vol in risky assets is pushing foreigners into EM carry trades, a trend that usually tends to go on longer than most people think, even if it will again end in a stampede for a tiny exit door. I don’t see a catalyst for this to change in the short term, and given the still low DM yields and structural improvements in some significant EM economies, there is room to run in EM at large.Stay tuned to MM later this week for a discussion of the political fireworks and reform agenda in Brazil. 

02 июня, 15:04

Redux Friday

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There comes many a time in a Macro Boy's life where there is not much to do and no new ideas come immediately to mind.  During these times, one can trade tactically or just sit back and keep hoping that core positions keep working. So Let's take this Friday to review some core positions. Short CAD:The short CAD trade got a bit too crowded. Crowded positioning doesn't automatically mean there will be a move in the opposite direction. But it does mean we are in for some chop even if we are right.We saw some unwind during the week. I took the opportunity and actually put on the bulk of my position two days ago. I will be curious to see where the upcoming CFTC positioning show at the end of the week.I keep wondering if CAD is the best way to express this housing bubble trade - I don't know...We shall see.Canada (British Columbia) has elected to move very far left politically Read It HereWhat does this mean? Well for starters, spoiler alert to what the world would be like if Bernie Sanders or Elizabeth Warren gets elected in this country. *shudder*How does the political far left feel about housing bubbles? Clue: like a teenager with an itchy zit. Read It HereThis should be interesting. We might come back and discuss this on a later date.Crude Realties (Short Crude):Crude was chopping around when I last wrote about it. But any chartist would see that it was making lower highs and lower lows.We had the OPEC meeting where they officially announced an extension of production cuts. Markets got slammed by 5%. Oops.I put on a sizable oil short during that sessionMarket share, market share, market share...I wrote it before and I will write it again. OPEC, who by the way is infamous internal cheating, cannot sustain cuts (at least that's my bet) because of market share.Then, Libya production was the news du jour - crude proceeds to sell offThen, huge crude inventory draw - crude first gets bid but ends the session lower When price and headlines diverge, it's the market Gods' way of telling you that something greater is at workThis is where I should be stepping on the gas, but my position is already big enough.Just for kicks and giggles, there's a demand side of the story too for crude. Has anyone seen these auto sale numbers (last printed a couple of days ago)? And this is before I massage the data to adjust for fuel efficiency. Carney The Cable Guy (Long GBP/Short Sterling Steepener):Bottom caught that one and has worked out well. The last couple of days GBP has slipped on election worries, as the market thinks Theresa May's party winning less of a majority than previously anticipated.To me, that's all noise. If you're feeling a little bloated from this position, cap some profits. If not, probably better not to mess with it. If GBP falls, I see that as a buying opportunity. (Unless something unfathomable happens, election or otherwise)Food For Thought (Long Wheat/Soybean Ratio, Long Grains):Direction bet has not done well. Brazil's currency shock from a few days back really hurt the beans market. Weaker currency allows them to export more. Political uncertain somehow is also incentivizing farmers to sell more? (not sure if that makes sense, but definitely remember reading that somewhere...)Looking at stockpiles/production/etc. for beans - although it's already extended, we can still easily go higher (there is even historical precedent)Overall, grains going nowhere - maybe even slightly lowerI'm still a believer in the big move in grains (especially in corn and wheat). But the timing was definitely wrong. Maybe next year's crop.The spread has worked. I am a believer here, but a bit concerned about the cost of blindly rolling. But in the meanwhile, there are probably a few hundred more bps that can be squeezed out of this position.Long US Duration (Long End):Thank you, Mr. LeftbackI was originally a major proponent of the reflation mega-theme (something that I used to think (and maybe still do) that we were at a starting point and would transpire over the next 20 years)Covered my UST short back in mid-March. Was too shocked to go long. Went long duration in early May and then covered 3 weeks laterPut on another long position a couple of days agoChart-wise, it looks really good to be on the long side. Regardless of the upcoming jobs number.A hike in June is all but a done deal, yet long end keeps getting a bid? Hmmm.2s10s keeps flattening - if the Fed stays pedal to the metal on the short end, are we going to go inverted? I think very possibly.I think 2s10s flattener and 2s5s vs 10s30s box can both be chased here. Something I'm keeping an eye on.US BEI curve is also flattening - another thing that I'm keeping an eye on, waiting to see if this thing goes inverted again.Long Equities (Long Turkey, EM, Europe, Some US Equities):Small positions for me, so kind of a yawnerChina is rolling. Both equity index and currency. The currency move was interesting - noted by our very own Macro Man, it was a record move since the RMB reference basket mechanism was introduced in 2015.Macro Man says he needs more data. Personally, I smell policy move.Turkey continues to be rolling as well. Think Brazil in beginning of 2016 and Argentina in the beginning of 2013. The market is often early to discount. Buy when there is blood in the streets.Brazil is really interesting to me - I have strong feelings about meaningful reform taking place - I think this is could be a tantalizing chance for you to go long BRL and Bovespa - No dire rush yet, will do more work on it and discuss this in the future.Merkel talking up the Euro economy, while everyone is underweight EuropeSame concept as going long EM. This will probably be a big long-term theme. Need to get more long.The underperformance in the US has not materialized much against EM but should occur in the second half of this year. The US has started to underperform Europe.Underweight the US, but still long some stocks out of general obligation.Really liked the price action yesterday in Russell - seems like it's going to break out a long-term consolidationAnother market/chart truism: The market doesn't give you this much time to sell the top. We've been floating around for awhile, we are probably going higher. Wow. That took longer to write than I thought.Well, TGIF guys. Good luck with the jobs and trade numbers.