Friday, January 12, 2007

Pancaked!

The portfolio was pancaked overnight, but in a good way. Following the recovery in risk assets and the decline in oil (perhaps due to Trichet's lack of "vigilance"?) , the monthly P/L is now flat as the proverbial breakfast food, having been down more than half a percent earlier in the week.

The stop loss in EUR/USD last week proved to be a fortuitous one, as the single currency has really struggled over the past several sessions. More to the point, the portfolio is left long dollar deltas in a rising dollar market- happy days!

Today's retail sales should be little better than a coin flip. For choice, given the evidence he saw over the holidays, Macro Man would take the under on the consensus forecast for monthly rises of 0.7% headline / 0.5% core. However, given the gift card phenomenon, a weak number might get explained away. A strong number, however, would be unambiguously positive (duh!)

In the UK, meanwhile, the strip is busily pricing in more BOE tightening over the course of the year. A day after the surprising rate hike, Macro Man is still wondering "what's the rush?" Market scuttlebutt suggests King and co. have laid eyes on next week's CPI data and didn't like the look of it. Moreover, anecdotal evidence (in the form of announced pay settlements) suggests a modest upward pressure to wages which will only be supported when City bonuses get paid.

Nevertheless, it looks like the market is getting ahead of itself. At the time of writing, the June short sterling contract is priced at 94.19, pricing in 3m LIBOR rates of 5.81. Since BOE independence, the average basis between base rates and 3m LIBOR has been 0.15%. From this, we can conclude that the market is not only pricing in another rate hike by June, but also at least a 50/50 chance of a second one, which would take base rates to their highest level since the spring of 2001.

Yet this comes in the midst of falling energy prices (even if the rip-off merchants who operate UK petrol stations refuse to pass on the last $10 of declines) and significant financial distress amongst certain segments of the population. Perhaps this is why, despite a reasonably firm housing market and solid wage growth, consumer confidence is closer to the lows of the MPC era than the highs.

It might be brave, it might be foolish, but Macro Man wants to take the other side. He therefore buys 2500 LM7 at 94.20. There is every possibility that the trade could lose money over next week's CPI; so be it. However, Macro Man believes that something close to 3% y/y will now be in the price and risks point to a less malignant outcome. Even if he is wrong on CPI and short sterling sells off further, he will be tempted to add to the position, perhaps as a spread against the US. Even when short sterling trends lower, there is usually a corrective rally that retraces much of the losses. Macro Man will be happy to take profits on a move back to 94.35-40.




2 comments:

Banker said...

I have been having trouble finding a medium term view. I guess because I like to trade with positive carry and most of the high yielders have been under pressure. This dollar move has certainly surprised me.

Macro Man said...

Yes, the market has been fairly schizophrenic so far this year, particularly in EM. Fortunately, in my real job I've been able to take advantage of a few tactical opportunities that I haven't had time to post here: stuff like ZAR, MXN, and HUF.

I share what I would take to be your concern over slapping on the medium term carry trade here, as I mentioned in the "carry me home" piece on the beta-plus FX carry trade.

As for the dollar: the last couple of years has seen January reversals of the previous year's trend. That experience has taught me to let the market tell me which way it wants to go.

Thus, having started the year relatively short dollars, I've let the market take me out of the long cable and long euro positions, and now find myself reasonably long the buck.

I think the dollar rally probably has a bit more juice in it, or at least would do if Voldemort would just bugger off for a while. It seems quite clear that central bank activity provided the catalyst for the surprising reversal in the dollar soon after the retail ales figures. I just hope it's not 2006 all over again...