Monday, March 03, 2008
Holy Cow! Macro Man was away for a day and a half at the tail end of last week, and the world seems to have ended in his absence. It didn't come as a total shock, mind; risky assets can only ignore bad news for so long, and Macro Man did muse last Wednesday that equity risks were to the downside. Still....the reversal in market fortunes has been little short of stunning.
Where to begin? Thanks to all who responded to last Thursday's query on wheat. While Macro Man understands the long term dynamics behind the grain-intensive nature of protein-based diets, as well as the distortions caused by ethanol-related crop rotation into corn, neither of these adequately explain why the price has moved so much in 2008. The real reason would indeed appear to lie in increased speculative interest/participation....which itself brings a new set of problems....as MF Global can now attest. At least some of the hyper-volatility of last week would appear to be related to the unwinding of MF Global's positions.
Still....the wheat market fiasco is chump change compared to the stunning decline and fall of Peloton Partners. Peloton is a relatively new hedge fund, having been set up only a few years
ago by ex-Goldman guys, one of whom was most famous for not noticing when his secretary plundered £1 million from his bank account. However, Peloton was widely regarded as being full of smart guys...and small wonder, when one of their two funds returned 87% last year via short bets on subprime!
So it came as something of a shock to find that some of the guys who saw this mess coming have been carried away by the tidal wave of margin calls and restricted credit. While posting a picture like that to the left may be like shooting fish in a barrel, it probably tells you something about how difficult this environment is when even the guys who are short blow up. Perhaps Peloton's greatest weakness was that they didn't read enough poetry.
Macro Man, meanwhile, has received a first-hand reminder of just how difficult this game can be sometimes. Regular readers will know that he has maintained a short exposure to USD/JPY for most of the past six months, courtesy of some options that were finally exercised in December. The position has done very well indeed for him, but appeared to be stalling a month or so ago, prompting him to put on a low-risk hedging strategy that expired last Wednesday.
Well, the hedge finished in-the-money (barely)...which, combined with an additional USD/JPY cash sale, left Macro Man flat USD/JPY. Given that he knew that he'd be away from the market on Thursday afternoon and all day on Friday, Macro Man decided not to re-sell USD/JPY until he got back. In the meantime, of course, USD/JPY has absolutely cratered, and is now sitting perched precariously above a long-term double bottom in the mid 101's. %*&^!!!! It could have been worse, however...had Macro Man not hedged his hedge, so to speak, he could have found himself long and very wrong , which would have been nothing short of a disaster.Ultimately, however, last week's late volatility was a boon to the portfolio, given that it has a long implied volatility/long fixed income/short equity bias. While the returns were nowhere near as good as if Macro Man had stayed short USD/JPY, he still managed to notch up gains of nearly a percent and close the month at his high water mark for the year.
Unsurprisingly, February provided another strong piece of evidence that 2008 will be the "year of alpha". Macro Man's alpha portfolio is already up $8.77 mio this year, with particularly strong returns in equities and fixed income. Naturally, the beta portfolio has suffered mightily, but still...the year-to date return through two months probably isn't far off what one might reasonably expect to get from cash in 2008.
And as Peloton (and perhaps others) have learned recently, even a short beta position can have dire consequences if applied with sufficient leverage. On second thought, perhaps 2008 won't be the year of alpha after all. Maybe it will be the year of the Spectacular Blow Up- after all, we've already had three (SocGen, MF Global, Peloton), and 2008's just getting cookin'.