Yesterday featured more ups and downs than Space Mountain, with an early-session bond market rout reversing sharply after bond-unfriendly data. A market-friendly Beige Book simply added fuel to the fire, propelling US equities to their largest point gain of the year. Fortunately for Macro Man, his short SPM7 call position looks set to settle within shouting distance of strike (so he is collecting decay this week), while his equity sector bets are also paying off. Meanwhile, EUR/USD vega continues to tick higher, generating more value for the FX powerball tickets. And of course, the G10 carry trade remains alive and well.
That having been said, the week is only 2/3 over, with the most difficult period (US PPI today, CPI, IP, TIC, and Michigan tomorrow) to come. Macro Man remains of the view that inflation is an issue, and was frankly somewhat surprised at how little attention was paid to the import price data yesterday, which showed a larger-than-expected 0.9% rise in May. Perhaps most remarkably, the US is now importing inflation from China for the first time in the (admittedly short) history of the price series. While the y/y change is barely positive, the year-to-date change is running at a 1% annualized pace. If and as this trend intensifies, expect more discussion about the potential end of the Great Goods Price Disninflation trend.
However, that's a theme that will play out over quarters, if not years. It won't necessarily impact financial market prices in the near term, however much Macro Man might wish it to be so.
Taking a step back, it's probablyalso useful to put the recent bout of volatility in context. Macro Man looked at the 3 month moving average of VIX, MOVE (a measure of fixed income vol), and a rolling average 3m historical vol of USD/JPY and EUR/USD.
Simply put, the recent bout of volatility in fixed income doesn't even register. This may smack of complacency, and a visit to a left-hand-side fat tail in the not too distant future. On the other hand, it may simply reflect the ongoing glut of financial liquidity, which would imply that more gains are in store for risky assets.
Macro Man spoke to another risk-taker yesterday who joined the chorus of old hands bemoaning the lack of risk premia in financial markets. While he clearly has sympathy for that view, he also recognizes that there are forces at work today that were not in place in 2002 or 1998 or 1992. And it's also important to recognize that historically, a 70 bp move in the US ten year is only a little more than a rounding error.
The moral of the story? It's important to be prepared for an expansion of risk premia, but it's also pretty darned important to have some skin in the game during the (longer-lasting) benign periods. And every once in a while, you'll get alpha and beta working together, at which point you get an all-too-rare pleasant surprise.