A new week has dawned with markets looking a touch rickety. This has frankly come as a bit of a surprise to Macro Man after Friday's by-now de rigeur late-session squeeze in the SPX, as well as broadly supportive policymaker comments over the weekend. The G8 is not quite ready to take away the punchbowl, it seems, and the BRICS have (in public at least) pulled back from seeming to want to create a dollar crisis. And for today at least, the ususal suspects have been absent from the FX market.
Perhaps the most amusing comment from the weekend came from German FinMin peer Steinbrueck, who warned of further credit dislocations in Europe, putting his marker down to cover his ass in case it all goes wrong. Evidently, winning "European Plonker of The Year 2008" for his powerful mix of forecasting ineptitude and hubristic scahdenfreude deeply affected him, as it seems he wants to avoid a repeat victory.
Regardless, markets are trading on the back foot to start expiration week. There are a number of indices that seem to have stopped in their tracks over the past month or so, remaining broadly supported but unable to breach recent topside highs. Momentum has clearly ebbed and, technically at least, the set-up for shorts looks reasonably attractive. The SPX and Eurostoxx are currently supported by their 200 day movering averages in close proximity, but something like the FTSE Midcap 250 has a lot of room to fall before entering the neighbourhood of the 200d MA.
One issue that has been gnawing at Macro Man has been the seemingly bullet-proof performance of equities over the past three months despite a very real hit to global disposable incomes and operating margins thanks to the sharp rise in energy prices.
Now to a degree, the positive correlation between energy and equities can be seen as a function of either reflation or short-covering. Macro Man hasn't got much of a beef with that interpretation.
However, the strength of the relationship has really puzzled him, as it's felt like oil and equities have been the same trade since March. Even if it is the energy sector that has led the rally (and really, it's been the financial sector), the same thign held true last year.
And yet the correlation between daily equity returns and returns on crude oil (as proxied by the second WTI future) has never been higher, at least since Bloomberg's crude futures data starts in 1986.
Now, Macro Man would be willing to bet that this high level of correlation is not sustainable. The hit to disposable incomes from high and rising energy prices is like an industrial-strength dose of Roundup poured on the global economy's green shoots.
How to play this relationship directly is another matter. His discreet enquiries about exotica like SPX/CLZ9 correlation swaps met with zero interest from his panel of counterparty banks. Frankly, it would probably meet with zero interest from his risk manager as well.
Playing the markets individually in a linked strategy introduces an element of conditional directionality that undermines the 'purity' of the trade. So for the time being, Macro Man is watching...and waiting. At some point, the penny from high energy prices may well drop into the equity market space. Macro Man intends to be there to pick it up.
Perhaps the most amusing comment from the weekend came from German FinMin peer Steinbrueck, who warned of further credit dislocations in Europe, putting his marker down to cover his ass in case it all goes wrong. Evidently, winning "European Plonker of The Year 2008" for his powerful mix of forecasting ineptitude and hubristic scahdenfreude deeply affected him, as it seems he wants to avoid a repeat victory.
Regardless, markets are trading on the back foot to start expiration week. There are a number of indices that seem to have stopped in their tracks over the past month or so, remaining broadly supported but unable to breach recent topside highs. Momentum has clearly ebbed and, technically at least, the set-up for shorts looks reasonably attractive. The SPX and Eurostoxx are currently supported by their 200 day movering averages in close proximity, but something like the FTSE Midcap 250 has a lot of room to fall before entering the neighbourhood of the 200d MA.
One issue that has been gnawing at Macro Man has been the seemingly bullet-proof performance of equities over the past three months despite a very real hit to global disposable incomes and operating margins thanks to the sharp rise in energy prices.
Now to a degree, the positive correlation between energy and equities can be seen as a function of either reflation or short-covering. Macro Man hasn't got much of a beef with that interpretation.
However, the strength of the relationship has really puzzled him, as it's felt like oil and equities have been the same trade since March. Even if it is the energy sector that has led the rally (and really, it's been the financial sector), the same thign held true last year.
And yet the correlation between daily equity returns and returns on crude oil (as proxied by the second WTI future) has never been higher, at least since Bloomberg's crude futures data starts in 1986.
Now, Macro Man would be willing to bet that this high level of correlation is not sustainable. The hit to disposable incomes from high and rising energy prices is like an industrial-strength dose of Roundup poured on the global economy's green shoots.How to play this relationship directly is another matter. His discreet enquiries about exotica like SPX/CLZ9 correlation swaps met with zero interest from his panel of counterparty banks. Frankly, it would probably meet with zero interest from his risk manager as well.
Playing the markets individually in a linked strategy introduces an element of conditional directionality that undermines the 'purity' of the trade. So for the time being, Macro Man is watching...and waiting. At some point, the penny from high energy prices may well drop into the equity market space. Macro Man intends to be there to pick it up.
10 comments
Click here for commentsfiver says the correlation continues and both equities AND Oil take a tumble off the cliff
ReplyRichy Rich - right on.
ReplyGlad to see aluminum puking out, ditto copper. Way overdone and thankfully I'm short.
I am vaguely concerned by that Krugman interview in the Guardian. If the stimulationists are about to give a "once more unto the breach" speech then its entirely possible to get slapped around on these shorts.
Black gold rising. Bond yields rising. Something is going on and it isn't pretty.
ReplyHmm, now with commercial links too is MM turning his organ into a cash cow (scuse the Private Eye pun)?
ReplyAny reason for 90d correls? Better/more stable, or a reflection of the 3m of rally, or just a pref?
Shurely there's some cheeky crude/equity correl in a retail product somewhere that some exotic desk would love to get off its hands as a package with likely attendant margins?
Cheers, JL
MM:
Replyyour comment: "...the penny from high energy prices may well drop into the equity market space."
Are you implying money would be reallocated from energy sector to equity sector? i.e., rally in equities will be sustained at the expense of falling energy prices?
(perhaps reading too much into one whimsical comment...)
JL, Private Eye references always welcome...though I assure you I received no compensation from the Roundup link. In any event, I asked most of the usual suspects about a correlation trade, and none of them would touch it, even with someone else's barge pole.
ReplyAnon, I simply meant that when equities notice that the hit to consumption and margins from high oil might be considerable, stock prices will fall, and I intend to participate.
Nice chart on oil/equities corelation, MM. It never made sense to me why *all* equity market would be rising with commodities and the weak dollar--surely these should benefit some economies and hurt others, no?
ReplyWhy don't you show your positions like you used to before you started your current job. I'm sure evryone found it very useful
ReplySee the FAQ. It entails a lot more work than it used to.
Replybarring brief periods (July 1990 to Jan 1991, and the month of June 2008) the 5day, 20day correlation between the two has always been remarkably high.. realized correlation ofcourse.. no reason why it shouldn't continue bi-directionally. SPX and CL2 I mean.
Reply