Tuesday, June 30, 2009

Marking 2009's Non-Predictions to Market

Hard to believe that the year's half over, isn't it? Perhaps it's because Macro Man has had other things to worry about than just markets in 2009, or perhaps because the older you get, the faster time passes. But man, it seems like the year just started, and here we are at the end of June.

Now would appear to be an opportune time to reassess the views that Macro Man carried at the end of 2008 by marking his ten non-predictions for 2009 to market. (The original posts can be found here and here.) And so, without further ado....

1) Last year's lows in the S&P 500 will NOT hold. The SPX made a low of 741 in November 2008, which Macro Man was fairly confident would not hold this year. Unfortunately, he expected a bit more of a rally in Q1, and so was wrong-footed when the SPX crashed to a low of 666 in early March. Such is the difference between forecasting and trading; the forecast was a clear HIT, but the trade was, alas, a miss.

2) 2009 GDP forecasts from the Fed, ECB, and the UK Treasury will NOT be achieved. This was a pretty easy one, as the 2009 domestic growth forecasts for these three were +0.45%, -0.5%, and -1.1%, respectively. While it seems that "green shoots" mania has been around forever, current consensus forecasts for the US, EMU, and UK growth are currently -2.7%, -4.3%, and -3.55%. Again, although the economics call was a HIT, one might reasonably have expected equities in these three economies to be worse than unched given the negative growth surprise early in the year.

3) The "bond bubble" will NOT pop. Any evaluation of this non-prediction needs to set out the terms of analysis. Despite much hand-wringing from the analyst community and moaning from BRIC central banks, Fed custody data confirms that foreign central banks have not abanadoned the dollar or the Treasury market, while domestics have also stepped up to buy bonds. That having been said, the bond squeeze at the end of 2008 was pretty extraordinary, and, as the chart of 30 year yields below demonstrates, was swiftly unwound early this year. Insofar as 2.75% 30 year yields represented a bubble, that bubble has popped, taking yields back to earlier levels. So we'll call this one a MISS.
4) Oil (defined as the second WTI contract) will NOT trade at either $25 or $100 in 2009. The second WTI contract ended 2008 at $48.59/bbl, and is now trading at $73.10/bbl. So it's gone from roughly $25 away from the lower threshold to $25 away from the upper one. From Macro Man's perch, the primary risk to this non-prediction was that the lower bound was reached early in 2009, a hurdle that was successfully surmounted. However, with six months to go and green shoots mania still in full effect, it's still waaaaaaaayyyyy to early to declare victory. So for now, the jury is still out.

5) VIX will post a higher average in 2009 than 2008 but will NOT reach 2008's peak. This looked like a great call in Q1, when new lows in the SPX were not matched by a new high in VIX. And for now, both the 52-week (40.3) and 26-week (38.5) moving averages in the VIX are well above the 2008 average of 32. However, with half the year to go, the current reading is well below last year's average, and looks set to fall further should equities remain here or rally. While this isn't Macro Man's base case, he's been confounded by the resilience of equities for some time now. So once again, the jury is still out.

6) EUR/GBP will NOT trade at par. The cross ended last year north of 0.9500, so it makes sense to conclude that if it were going to trade at par, it would have done so early on in the year. And despite a veritable of Everest of bad news thrown at the pound (QE, Parliamentary disgrace, horrible growth, etc.), the pound has staged quite a tasty recovery against the single currency, currently trading just south of 0.8500. While there are still six months to go, it seems reasonable to chalk this one up as a HIT for now.
7) The DXY will NOT make a new low in 2009. It was little more than a year ago that EUR/USD (which comprises 57% of the DXY) traded north of 1.60 for the first time, and less than a year since it made its eventual high. While the usual "dollar going down forever" crowd has regrouped, particularly in the wake of Fed QE, for now the DXY remains 12.5% above its all-time lows.

Given that the current account deficit has narrowed sharply, the DGDF crowd have shifted their focus to the budget deficit (neatly forgetting the possibilities that this can be largely funded out of domestic savings, now that there are some.) While Macro Man remains pretty confident of the view here, a lot can happen in six months, and there seem to be a lot of people who reaaalllyyyyyy want the dollar to go down. So we'll have to say that the jury is still out.

8) China will NOT stop taking the piss in currency markets. Remarkably, the seemingly inexorable pace of Chinese FX reserve accumulation paused in Q1, and Macro Man's pal Voldemort took a break from treating EUR/USD like an orca treats a baby seal. However, even when they weren't busy punting other peoples' currencies, PBOC and SAFE still managed to make waves with a seemingly endless stream of "we need an alternative to the dollar/no we don't/yes we do" commentary. Needless to say, this added a fair amount of volatility to the market without managing to accomplish a whole lot else.

And guess what? Now that the Chinese are going to save the world economy, their reserve accumulation has ticked up again and they (along with the oil producers) have started playing in currency-land again. Hooray! We'll call this one a HIT, which, incidentally, is what a lot of punters of Macro Man's acquantiance would like to do to SAFE.

9) High grade credit spreads will NOT reach their wides of 2008. The success of this call perhaps depends on the metric used to evaluate it. As a handy reference, Macro Man looks at the spread of AAA corporate credit (using the Moody's index) to long-term Treasuries. On this metric, at least, credit has indeed not reached last year's wides, even as lower-grade stuff like European crossover made new wides in early March. Macro Man wwill call this one a HIT, though perhaps a credit expert could provide contrary evidence.

10) The approval rating of Gordon Brown and Barack Obama will NOT be as high as they are now at the end of 2009. The rationale for this one was simple; even last December, Gordon Brown looked like a dead man walking, while expectations for Obama were so high that they were almost blound to be disappointed.

Courtesy of the economy and the MP expense scandal. Brown's Labour finished a distant third to UKIP in the recent European elections. Call that one a HIT. Obama's current approval rating of 59% is well below last December's 67%, but still close enough that it could conceivably rally back should the economy somehow manage a V-shaped recovery. We'll say that the jury's still out on this one.


So there you go. Five and a half hits, one miss, and three and a half "jury's still outs". Not a bad result, even if the exercise of predicting what won't happen is a bit easier than predicting what will. Still, while Macro Man has had some investment success in H1, his returns and hit ratio haven't matched his success in making non-predictions.

Which just goes to show, if you didn't know already, that successfully managing money requires more than just an ability to figure out what will or won't happen; it also requires an ability to articulate a view into winning trades. This is easier said than done at the best of times.....all the more so, Macro Man has found, when you're out of action for a while with a bum knee. Still, there's half the year remaining, and it's all left to play for.

Game on!

Monday, June 29, 2009

Summertime

Markets have reached a significant milestone, one reached nearly as rarely as a full planetary syzygy (there's your word of the week, boys and girls.) Yes, for the first time in quite a while, the ambient temperature in SE England is higher, in degrees Celsius, than the VIX.

Yes, boys and girls, summertime is well and truly here, bringing with it lacklustre price action and abject liquidity, which can produce the occasional step-jump in market pricing,
usually accompanied by hysterical rumour-mongering. Temperatures in excess of 30 deg. C may tempt all but the most driven of market punters to head for the exits, if not the beach, but Macro Man's English and Celtic readers should take particular care. He snapped the photo to the left at a Sussex beach over the weekend, with beach-goers showing the characteristic "English tan." Ouch!

Perhaps some of the sell-side analysts would do well to hit the beach and work on their tans,
too. Macro Man's inbox was full of more "green shoots" research this morning, as well as Goldman pushing some UK banks on its "conviction buy" list. As you can see from the photo on the left, these researchers are looking a little peaked, so it would be good for them to avail themselves of the good weather and get a bit of sunshine before the rain sets in.

Is Macro Man too cynical? Perhaps, though experience has shown that to be a substantially less costly error than being too naive. Regardless, headlines out of the independent Chinese business journal Caijing appear to confirm Macro Man's thesis that the recent commodity price "boom" was orchestrated by the Chinese and is now coming to an end. Unfortunately, the English translation is not yet available online, so we're forced to rely on Reuters headlines:

11:22 29Jun09 RTRS-CHINA WILL NOT CONTINUE BUYING METALS FOR RESERVES IN CURRENT MKT CONDITIONS -CAIJING QUOTING NDRC OFFICIAL

11:24 29Jun09 RTRS-CHINA HAS BOUGHT 235,000 T COPPER, 30 T INDIUM, 5,000 T TITANIUM, 590,000 T ALUMINIUM AND 159,000 T OF ZINC -CAIJING

11:32 29Jun09 RTRS-CHINA NDRC WANTED ENTERPRISES TO BENEFIT FROM STATE STOCKPILING, DID NOT EXPECT MIDDLEMEN WOULD BE BIGGEST BENEFICIARY -CAIJING

Perhaps Nemo or any other readers located in situ can tell us why a net commodity importer would use a stimulus package to support the prices of the very items that they import, because Macro Man is forced to admit that he's at a loss to explain this.

Anyhow, Macro Man's rather jaundiced view of the global growth outlook received a bit of support on Friday with the latest US personal income/consumption data. Once again, income rose substantially more than expected (don't economists realize that there was a stimulus package?!?!), yet spending was in line, yielding yet abnother sharp rise in the savings rate to a fifteen year high of 6.9%.
For years, JP Morgan's Bruce Kasman ran with the maxim that "if you give them income, they will spend." It seems quite clear that that chain has been broken, and US consumers remain firmly in savings mode to rebuild household balance sheets. Macro Man has long had a target of 10% for the household savings rate, and he's seen nothing to change that.

How the rest of the world, which has been as hooked on the US consumer as he has been on cheap credit, copes with a buyer's strike remains to be seen, but Macro Man is not particularly optimistic. Moreover, readers can judge for themselves what consumer spending is likely to do once stimulus checks quite arriving in the mailbox, and what this means for all the inventories that are currently being rebuilt.

Needless to say, Macro Man is not optimistic. But perhaps that's a story for later in the summer or even the autumn. For now, the sun is shining and prices are drifting. Summertime markets, indeed.

Friday, June 26, 2009

Lies, Damned Lies

The London market feels a bit shell-shocked this morning, either because of last night's melt-up in equities or because of the sad deaths of both Michael Jackson and Farrah Fawcett, icons of many a punter's youth. Markets being markets, the tasteless jokes were already flying at 7 am this morning; alas, decorum prevents Macro Man from sharing any in this space.

And so we're left with markets, which at this juncture are hardly more tasteful to talk about. The melt-up in Spoos seemed to be driven by the Fed's announcement of the extension of some of its liquidity programs. That's all well and good, of course, but given that they didn't do a damn bit of good in stopping the SPX from falling more than 50% from December 2007 through February of this year, Macro Man's at a bit of a loss to discover why their extension is met with such good cheer. No wonder so many punters in the comments section seem to have an eye on the beach!

Regardless, VIX plunged below 30 yesterday, taking it to its lowest level since there was such a thing as "Lehman Brothers." Sign of the bull or sign of complacency? Judge for yourselves.
Speaking of bull, Macro Man had a chat with a few punters last night at a leaving do. We shared rather a good chuckle at the, shall we say, slanted viewpoint presented by some banks, disseminating only that information which fits their view.

Rarely has Winston Churchill's (edit: Disraeli's) grumbling over "lies, damned lies, and statistics" been more apt than during this recent wave of green shoots and second derivativism. In fairness, the perversion of truth is often perpetrated by both bears and bulls, but it seems as if certain houses are more prone to pimping a foregone conclusion than others.

So it was no small amusement that Macro Man saw in his email box an analysis of China's industrial profits data, released last night. The quarterly data, which is not seasonally-adjusted, is depicted below.

As you can see, May-quarter profits undershot 2008's by Y115 billion, or 15%. In monetary terms, this was slightly better than the February quarter, which undershot 2008 by Y129 billion, or 37%. That Q2 profits were higher than Q1 is, as you can see, a simple product of seasonality. The y/y profit growth is still pretty clearly down.

So what do we get from our friends at Goldman? "Industrial profits growth rebounding strongly". Uhh......OK. The beach is looking ever more tempting.....

Thursday, June 25, 2009

The Drawer

The dust is settling after yesterday's big central bank day with most major market prices left in well-established ranges. Things have the distinct whiff of summer; market liquidity is waning, Wimbledon tennis is on in the background, and the rain clouds are starting to roll in.

Yesterday's ECB tender came in somewhat to the high side of expectations (though well below some of the speculative figures that had been floated) at €442 billion. Cash rates have fallen sharply, and the Sep Euribor contract is now coming close to pricing the 3 month interbank rate below the ECB policy rate.

This, combined with much better than expected durable goods figures, helped prompt equities higher aheaad of yesterday's Fed announcement. (Nothing to see here in new home sales, move along, move along.)

The five year auction was a strong one, with am solid bid to cover, short tail, and solid participation from indirects. This gave US fixed income a bit of a fillip, which somehow morphed into a melt-up in the few minutes before the Fed announcement. The timing of the rally was peculiar, to say the least.

And when the Fed came out and promised to keep rates ultra-low for an "extended" period (which sounds to Macro Man's ear like it is longer than than the 10.5 month "considerable" period of 2003-04), it appeared to validate the rally, in the white eurodollars at least.

Yet the ommission of any reference to the threat o corrosive deflation was taken as a hawkish comment, and bonds and eurodollars swiftly gapped lower. Neither have traded back to their 7.14 pm London levels.

Yet stocks have shrugged off this "hawkishness", when one might reasonably consider that they should be among the most affected by the absence of any further Fed lovin'. Indeed, Spoos are now trading above their pre-Fed levels....not exactly what you'd expect from a "hawkish" statement!

It's safe to say that the drawer labeled "things I understand" is rapidly emptying. Indeed, when Macro Man checked this morning, the sole content of the drawer was a piece of paper bearing the phrase "don't trade EUR/USD".

Indeed, that was the lesson learned from the real central bank fireworks yesterday, courtesy of Macro Man's buddies at the SNB. He somehow missed the appointment of Rip Van Winkle to the SNB board (perhaps it happened in 1988?), but the Swiss roused from their slumber with a vengeance yesterday, hoovering aggressive amounts of USD/CHF. This in turn helped submarine the nascent rally in the euro, sending us careening back to the well-trodden territory of the a 1.39 handle.

One thing that Macro Man pretty clearly doesn't udnerstand is the SNB's decision-making process in determining the timing of their intervention. Perhaps he should shave with Occam's razor; maybe it really was as simple as a defense of 1.50 in EUR/CHF.

That, of course, begs the question of why the SNB chose to intervene primarily in USD/CHF. There is one school of thought that after their prior activities in EUR/CHF, their reserve basket was underweight dollars so they were simply rebalancing their portfolio by increasing the dollar weight. (At last! A CB that isn't trying to kick George Washington while he's down!)

Then again, maybe they wanted to give the ECB as little reason as possible to whinge about their activities. Word on the strasse is that Frankfurt was none too pleased with the SNB's purchases of EUR/CHF in March, which perhaps helps explains the SNB's lengthy slumber.

By intervening primarily in dollars, the SNB is sort of cutting the ECB out of the equation; the Eurozone can hardly moan when the SNB isn't actually trading the euro. And hey, if the market takes EUR/CHF higher as as the SNB buy USD/CHF, the Swiss can say "wasn't me, guv, honest!" to the ECB.

Then again, maybe it isn't a coincidence that the Swiss came out in force ninety minutes after the ECB published the results of their LTRO. After all, the ECB have sort of lost the moral high ground over the Swiss version of QE after conducting a wheelbarrow tender of their own.

All of this is very interesting, of course, but still leaves Macro Man scratching his head. Just call it another entry for the drawer labeled "things I don't understand", one currently located in a very large warehouse in the English countryside.

Wednesday, June 24, 2009

A Wheelie Big Deal?

It's a big day for markets today, with the results of the ECB's long-term refinancing operation and the June FOMC meeting released today. The juxtaposition of the two events is curious, to say the least. The Fed, having been exocriated in some quarters for expanding its balance sheet so aggressively, will likely ease off the accelerator at 7.15 London time this evening, mere hours after the ECB loans "your amount" of euros for a year at the low, low rate of 1%.

In each case, the CBs will have expanded the balance sheet aggressively, yet a market that has been more than happy to shag the dollar over the past three months appears to yawning at the prospect of a cheap money bonanza from the ECB.

Well, not everyone is yawning; Macro Man is pleased to provide readers with a live photo feed from Frankfurt as the German Landesbanks receive their funding from the ECB. For some, at least, today's tender is a wheelie big deal. (Boom, boom.)

Indeed, the euro has (seemingly perversely) gone strongly bid in the 24 hours before the ECB's tender. Foreign exchange is such a fun market! The reason for the rally is a highly prosaic one; there appears to be a large EUR/USD buy program emanating from the Middle East.

As for the Fed, it seems as if a consensus has coalesced around the view that the FOMC will stop short of increasing its Treasury-purchase program (though they might decide to sttrrreeeeeetttcccchhhhh out the existing one) and announcing that rates will remain ultra-low for a "considerable period" (or some other such hackneyed phrase) of time. Perhaps they will collapse all of the alphabet-soup programs into one simple facility, though Macro Man isn't sure that there should necessarily be a market consequence of doing so.

In any event, the rationale for keeping rates lower for longer should start to emerge more forcefully in the data now that markt forecasts have caught up with the green shoots mularkey. Somewhat ominously, the ABC consumer confidence data released last night showed a relapse towards the lows, while Friday's personal consumption data should show that a large portion of the stimulus bonanza is saved, not spent.
Meanwhile, perhaps it's a coincidence that demand in yesterday's two year auction was gangbusters as the SPX was trading below 900....but then again, maybe not. Insofar as higher mortgage rates would now appear to pose a larger threat to economic recovery than lower stock prices, mightn't the Federales now countenace an equity markt sell-off to provide a bid to bonds? Inquiring minds want to know.

In any event, the drumbeat of protectionism continues to provide a somewhat ominous undercurrent to the green shoots love-in. In a rare show of unananimity, the US and Europe have had a moan about China to the WTO, while Japan's latest trade data suggests that the rest of Asia has yet to feel the love from China's recovery. Judge for yourself what this means for risk assets....Macro Man knows which way he's leaning.

Tuesday, June 23, 2009

Pump Up The Volume

We're now little more than twenty-four hours away from one of the most critical periods of the year. Macro Man is finding it increasingly difficult to contain his excitement at some of the price action he's seeing, but until we navigate tomorrow's ECB tender and Fed announcement, he's trying very, very hard not to go all-in too early.

Still, it was hard not to notice yesterday's breakdown in the SPX, which registered its lowest closing price of the month, as well as appearing to confirm other indices' break down below their 200 day moving averages.

But to date Macro Man looks like he's got plenty of company in keeping some powder dry, as volumes have not picked up to any notable degree, which is what we would expect to see in a true trend reversal/distribution phase.
Eventually, price action will need to attract greater volumes for Macro Man's anticipated scenario to materialize. Still, one sector in which volume has picked up appears to be company insiders; Trimtabs reported yesterday that the insider sell to buy ratio has risen to 22:1 this month. The phrase "watch what I do, not what I say" springs to mind.

Elsewhere, the commodity complex seems to have rolled over en masse, prompting Macro Man to dust off a few of his cherished puns for the first time in a few months. Among the more notable breakdowns was in gold, which cratered through a well-tested trendline.

Regardless of the medium-term prospects for the yellow metal, there is clearly an embedded long position, perhaps from macro punters but quite clearly from retail ETF buyers. If commodities are going to push lower, than one would have to suspect that gold could, if you'll pardon another commodity pun, melt down, if only temporarily.

It's just another interesting piece of the potential "green shoots to brown weeds" transition with which markts are flirting at the moment. How far and how fast this is effected will depend to some degree on whether markets pump up the volume after tomorrow's central bank event risks.

Monday, June 22, 2009

The Catalyst

It's a big, big week. Now that option expiry has come and gone (bringing with it the requisite squeezy screw job), markets can focus on Wednesday, which sees the results of the ECB's one year "wheelbarrow" tender and the Fed announcement, where we'll get their reaction to the recent carnage in fixed income markets.

Beyond that, of course, lays earnings season- a period for which markets have received relatively little guidance. Any or all of these things could prove to be The Catalyst for the next big macro directional moves.

The Catalyst is an important part of any investment thesis, unless one is a pure momentum follower. One might might believe that something should happen, or indeed that it will happen....but for a profitable trade to materialize, it usually requires a catalyst to lurch markets in your direction and allow the trade to get traction.

In March, for example, the combination of Geithner's PPIF and QE from the Fed and others proved to be sufficient to engineer a fearsome squeeze in equities and other risk assets, to the extent that many real money punters appear to believe that the bull is back, baby.

So two important questions that Macro Man is wrestling with are a) is a lurch lower in risk assets the "next trade", and b) if so, what will be the catalyst? For it's important to keep plenty of powder dry until one's preferred theme is in play.

Regular readers of this space will know your author's answer to question a): he believes the answer is "yes." So the question then becomes "what will be The Catalyst?" On the face of it, there would appear to be little prospect of The Catalyst emerging on Wednesday. After all, a huge ECB tender would keep markets awash with liquidity (if not solvency!), and it's hard to see a Fed promise of "lower for longer" rocking the risk asset-boat too much.

Then again, you never know. It seems clear that optimism has risen sharply over the apst few months. Macro Man referenced the Merrill Lynch survey last week, and today's ifo provided another example. The headline print ticked higher, fueled by another rise in expectations. The current conditions component, however, plumbed fresh depths. The event or datapoint that "convinces" one of those two that the other is "correct" will be a powerful catalyst. The longer and larger the divergence between the two, in all likelihood the more powerful the resultant reconnection move will be.

One left-field candidate for The Catalyst could come from a realm that Macro Man explored earlier this month: the commodity space. There's an AFP story circulating this morning suggesting that China's stock-piling appetite has almost run its course; given the leadership that commodities have played in both the equity rally and the green shoots movement, a sharp retrenchment would, it seems, be taken rather poorly.

While the CRB index is hardly the be-all and end-all of commodities, its chart bears an uncanny resemablance to those of your favourite industrial input. Put into context, the bounce of the past few months certainly appears to be of the "deceased feline" variety, and it would hardly surprise to see a substantial lurch lower if/when China pulls the bid.

It's far from a dead cert that commodities will lurch lower, of course; the funny thing about The Catalyst is that it often comes from an unexpected source. Regardless, given recent range trading and the apparent divergence between investor optimism and reality, it feels as if the spring has been wound very tightly indeed, and Macro Man is on high alert in search of a potential catalyst that could, to quote Michael Caine, "blow the bloody doors off."

Friday, June 19, 2009

Scuffling

Macro Man is scuffling to put out a few fires in his portfolio today, courtesy of a painful expiration goolie-squeeze and the sort of correlation breakdown that was discussed in the comments section of yesterday's 20 Questions.

While yesterday's macro data was better, encouraging a bump in stocks and a drift lower in bonds, the real carnage was caused by the abrupt sell-off in the eurodollar strip, apparently courtesy of a broadening of the composition of the panel.

Perhaps Macro Man is a simpleton, but he struggles a bit to see why this should cause much a change to the existing LIBOR fixes. After all, the ICAP New York three month rate has been virtually identical to LIBOR all year after occasionally printing quite a bit higher last year.
Like many other market developments these days, perhaps it's a function of positioning. Over the year's, Macro Man has found that positioning can often explain the abrupt correlation shifts that are the bete noir of his management style. Speaking of which, once more unto the breach, dear friends....

Thursday, June 18, 2009

I Guess We Know The Answer To Question 10

20 Questions

Macro Man has little to add to yesterday's market comments, as the SPX exhibited classic back and fill price aciton as it waltzed with the 200d moving average. It therefore seems to be an appropriate time to play another game of 20 questions:

1) Which will trade first: SPX 1000, or SPX 800?

2) Will the Fed do more than re-introducing a "considerable period"-type phraseology to next week's statement?

3) Just how big will the demand be for next week's one-year ECB tender at the policy rate?

4) Will the dollar "playa haters" who bought EUR/USD after the Fed introduced QE in March take the same attitude towards the euro if the answer to #3 is huge?

5) How concerned should the green shoots crowd be about the big downward guidance rom FedEx?

6) When will the fiscal penny drop in China?

7) What in the world is the SNB trying to do?

8) Which trades first in front contract crude: $50 or $100?

9) When will Macro Man's beloved Pittsburgh Pirates next win more games than they lose?

10) Is it safe to get back into the LIBOR-contract carry trades?

11) Who will be the first G4 central bank to raise interest rates?

12) When will they do it?

13) When oh when will cross-market correlations normalize?

14) Is it just Macro Man, or have UK commuter train services been drastically cut back over the last few months?

15) When and where will the US household savings rate peak?

16) Has everyone forgotten about the impending avalanche of ARM resets in the US in 2010 and 2011?

17) Was this month's Merrill Lynch Fund Manager Survey written in Pamplona?

18) Surely this marks the top in gold?

19) Will the CNY ever move again?

20) Why oh why do London cyclists seem to think that the rules of the road apply to everybody but them?

Wednesday, June 17, 2009

Back and Fill

Well, the SPX fell yesterday....but not quite enough to signal a greater likelihood of a deeper drop, closing just above its 200 day moving average, which, as we established in yesterday's comments section, is either an important technical signpost or a load of old rubbish.

Regardless, it is worth noting that volumes have not yet spiked in a manner characteristic of an impulsive sell-off. Perhaps Macro Man has some company in waiting to see how the current back-and-fill price action resolves itself. It's interesting to note, though, that VIX has seen a small spike recently, and Macro Man has heard some rumblings of bets being put on for a forthcoming volatility spike.
In any event, and following on from yesterday's debate in the comments section, Macro Man's reading of the technicals leaves us somewhere in no man's land in a number of markets. To be sure, there are some interesitng tactical trades to be made, but as of now it is difficult to say with an investable degree of certainty that the reflation trend of the last three months will either continue or reverse.

A visual example of this transition from trending to back-and-fill can be seen via RSIs, which can seen as a barometer of the strength of recent trends. As you can see, over the past few weeks the RSIs for the SPX, EUR/USD, gold, and 10 year Treasury yields have all ebbed from their highs.

Macro Man could see more of the same for the remainder of the week, as next week may prove critical for determining the fate of the recent reflationary trend. The FOMC announcement and the ECB tender will be fascinating, as will the usual month- and quarter-end scramble.

Macro Man has his biases of how things will play out, and has allocated a bit of capital accordingly. He hopes to get more resolution from both the newsflow and the price action over the next seven and a half trading days.

Tuesday, June 16, 2009

Careening Into Quarter-End

Where from here? Yesterday has (or should that be had?) the potential to mark a significant turning point for markets, though as yet follow-through has been indifferent, to say the least. The Eurostoxx closed below its 200d moving average, and while the SPX fell 2.4% yesterday it remains 1.5% above its 200d. It is slightly dangerous to get aggressively short SX5E without confirmation from US equities; unsurprisingly, therefore, European equities have been trading water this morning as they wait to see what the Americans do.

The past 24 hours have also seen a classic FX screw-job, as EUR/USD broke through a fairly obvious head and shoulders neckline, prompting a raft of stops......only to squeeze back above (also courtesy of stops) this morning. Apparently, the BRICs moratorium on talking down the dollar (thereby shooting themselves in the foot) only lasted a day, as the weekend comments from Kudrin that there was no real alternative to the dollar have been countered by Medvedev's stated desire to...err.....create an alternative to the dollar.
With quarter-end falling two weeks from today, it's perhaps worth considering what the next couple of weeks might hold. There's the small matter of Friday's triple-witching expiry and next week's Fed meeting, of course, which could obviously add ample noise (and perhaps a dose of signal?) to price action.

Regardless, Macro Man has heard some rumblings that funds will be buying equities into the close of the quarter to get closer to benchmark, which has been cited by some green shoots/reflationist proponents as a rationale for further equity gains.

While this may be the case for individual managers, Macro Man isn't so sure about asset allocators such as pension funds. Through yesterday's close, US equities had posted their second-largest quarterly outperformance over government bonds of the last thrity years. In fact, until yesterday, it was the largest quarterly outperformance.
Now this admittdly comes on the heels of a record underperformance of equities in Q4, followed by another abject stock market performance last quarter. And if pension funds didn't do any rebalancing over the last few quarters, then yeah, they are probably still underweight. But if they did......well, then they might even be overweight now. A pension fund that owned 60% equity and 40% bonds at the end of March would now own 65%/35%. Price has done a lot of balancing work for them.

We'll only know in retrospect what allocators end up doing, but Macro Man has a funny feeling that anyone expecting a late-month or late-quarter bounce such as we observed in Q4 and Q1 might well be disappointed.

Monday, June 15, 2009

What Do High Energy Prices Mean For Equities?

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.

Friday, June 12, 2009

What If?

Another day, another Chinese data dump. Today's figures were perhaps more of an unalloyed positive, with retail sales coming in slightly better-than-expected, while industrial production confirmed recent leaks by comfortably exceeding consensus forecasts. Today's data also left little doubt as to the source of this economic "miracle", meanwhile; M2 growth printed a robust 25.7% y/y. This left Macro Man wondering....given the sturm und drang of FX reserve managers over American policy choices recently, what would they say if the US pursued an expansion of the money supply as aggressively as China?

Elsewhere, yesterday saw the release of one of Macro Man's favourite datapoints, the quarterly Fed flow of funds report. The ebb and flow of household wealth has been a valuable tool in mapping the sometimes bewildering behaviour of the US consumer over the years.

The good news from the report, at least if you are a member of the Church of the Second Derivative, is that the pace of decline in household wealth and home equity slowed in Q1. Net wealth fell by "only" $1.3 trillion last quarter, while home equity declined by $450 billion. That compares favourably with losses of $4.8 trillion and $673 billion, respectively, in Q4 of last year. Hey, even the y/y chart has started turning up....good news, right?
Maybe, but when looked at in absolute dollar terms the chart is less encouraging. The wealth destruction in the household sector is breathtaking and provided an obvious explanation as to why savings have increased (and, in Macro Man's view, will continue to do so.) edit: Note that the chart below should be labelled billions, not millions.

Of course, net wealth may well stabilize in the current quarter courtesy of the stock market rally. Of course, what Mr. Market giveth, he can also taketh away. Meanwhile, another interesting note in the flow of funds report was a continued rise in the household debt-servicing burden as a percentage of net wealth has reached all time highs.

So it was interesting to observe that the US household sector did a little asset-liability matching in Q1, dramatically increasing its direct holdings of Treasury securities by nearly $400 billion.
There are a couple of notable things about this. The first is that households' nominal Treasury holdings remain comfortably below their all-time highs notched in the mid-90's, suggesting that there is ample room for households to buy more. The second is that the Q1 quarterly rise in household Treasury holdings was nearly as large as the top three quarterly rises in Fed custody holdings for central banks combined.

This has led Macro Man to wonder....what if the household sector financed the budget deficit by taking down the issuance? The market seems to subscribe to the view that foreign central banks are the only entity that could possible take the other side of the Treasury's all-too-frequent auction calendar, but this seems misplaced. A steady rise in savings and a rebalance of household asset towards fixed income could easily take down the Treasury's entire auction calendar.

In that vein, it was interesting to see that the much-feared 30 year auction came off without a hitch yesterday, delivering a solid bid-to-cover and nary a whisker of a tail. In the follow-through, bonds put in an impressive bounce, forming a key day reversal pattern on the charts in the process....a rather bullish development.
Macro Man has stayed out of the melee in Treasuries over the past few weeks, but yesterday's developments have him wondering if we might not be on the cusp of a healthy bounce. It might be a trifle dangerous to play a week and a half ahead of the next FOMC meeting, but on his charts we could easily see a 2-3 point bounce in the 10y note future from here.

Thursday, June 11, 2009

Chinese Takeaway

Yesterday's post excited quite a bit of comment from China buffs and commodity hounds alike. The ensuing 24 hours has provided several significant new datapoints with respect to the China story, so in the interest of completeness it's probably worth addressing them. What can we take away from the investment and trade data?

First, the good news. Fixed-asset investment rose a touch more than expected, climbing 32.9% year-to-date. The green shoots/China growth pimps proponents are pointing to this data as a sure-fire sign that de-coupling lives, China has engineered its own recovery, etc. OK, fine. To be sure, a goodly portion of of this investment has gone into infrastructure projects, particularly in western China. That is pretty valuable.

But capex growth keeps humming along....does the world really need more manufacturing capacity at this juncture? And readers are invited to judge for themselves how sustainable/healthy/desirable it is to see property investment starting to surge again.
The trade data, meanwhile, was less positive. Import and export growth undershot expectations (and by a larger margin, it should be added, than FAI exceeded them) even as Chinese firms continued to increase imports of commodities such as copper and crude.

One of the great things about trade figures in China is that they one of the few datapoints that you can be pretty sure aren't fudged or manaipulated too badly, since they can be corroborated with similar statistics from China's trading partners. In that vein, it's worth noting a remarkable disparity in China's PMI and its export data. While the PMI accurately herladed the collapse in export growth, to date its rebound has not been matched by a similar renaissance in export data.

While it's true that the PMI data may now be capturing more fo the iternally-driven ivnestment dynamic within China, it's worth pointing out that the latest survey had export orders rising.

This, of course, begs the question of who the Chinese plan on selling to. It's all well and good continuing to build factories and export capacity, but the real world isn't like Field of Dreams; just because you build it doesn't mean that customers will come. Yesterday's US trade figures were telling in that regard. Imports declined again in April; while an inveterate "second derivative" believer may find reasons for optimism in the slight lessening of the pace of import decline in yesterday's data, Macro Man is rather more sceptical. And the fact that US exports declined as well suggests that domestic demand in the rest of the world remains flaccid at best.

Perhaps May will bring better news for the US consumer (and thus, the Chinese export engine?) We'll know more in a few hours with the release of May retail sales figures. It will be an interesting test case to see if the reflation story is starting to bite itself in the ass; gas prices rose by 10% in May versus the April average, which should have taken a check out of households' disposable income.

'Twill be interesting to see if that fed through into lower demand for non-petroleum products. Macro Man suspects that it probably will have, which will then raise the uncomfortable question of whether we've already reached the point of renewed demand destruction in the oil market.

Wednesday, June 10, 2009

The China Syndrome

Another day, another low-volume traipse within established ranges. That sentence sums up yesterday's action in equities and currencies rather succinctly, don'tcha think? To be sure, there's still plenty of action in rates space-any day when red Eurodollars rally 25 bps can hardly be called "quiet" or "uninteresting", that's for sure.

But from Macro Man's perch, perhaps the most interesting market at the moment is commodities. The rise in crude over the last few weeks has been little short of inexorable. While the rally in prompt (front-contract) crude for much of May was mostly a curve trade, narrowing the steep contango in crude, over the last couple of weeks the belly/back end of the oil curve has exploded higher. Dec '12 is up a full $10 over the last 10 trading days, for example.

What's driving this? To a degree it's a dollar phenomenon, the same sort of "invoice currency" effect that we observed last year. Moreover, the rise in crude specifically and commodities generally has exhumed the momentum jockeys, who have started buying simply because the price is going up. But ultimately, it seems to Macro Man, the bedrock of the commodity bull story is down to the Chinese growth "miracle." Call it the China syndrome.

On the face of it, now looks like a great time to position long commodities for a China-driven bull run. After all, the PMI only ticked above 50 a few months ago. Perhaps more importantly, Chinese imports have not rebounded much at all in value terms. The chart below shows the nominal dollar value of Chinese imports since the beginning of 2003.
Drilling down beneath the surface, however, we see a picture that is much less unequivocally bullish for commodities. While overall imports have barely started to recover in value terms, many commodity imports have absolutely skyrockjeted in volume terms. And at the end of the day, the inputs to China's industrial and investment complex are based on volume, not value.

Macro Man ran a study looking at the import volume of four different industrial commodities, comparing it with the trend of 2003 through mid-2008, a period in which Chinese growth averaged 11%. (Data for coal imports only begins in December 2004.) The results were remarkable.

Starting with coal, for example, we see a modest upward trend in coal volume imports, which is surely what you'd expect from an indutrial country like China. To be sure, the noise aroudn the trend was fairly substantial, even in the good times. But note how the last few months have seen import volumes blow through the trend and exceed prior highs by a very sunstantial amount.
We observe a similar phenomenon in iron ore, where the prior trend was stronger (a steeper slope) and less noisy. Again, import volumes have blown through where they "should" be had China continued along its 11% growth pace. Not coincidentally, there have been plenty of anecdotal reports recently suggesting that Chinese iron ore stockpiles are bursting at the gills and that there is a lengthy queue of ships waiting to deposit more on China's shores.
Copper is also quite interesting. Unlike the prior two commodities, even during the good tiems there was no discernible trend in imports. You can see the peaks and valleys induced by prior policy actions from the central authorities. But again, the message is quite clear: China has recently imported much more copper than they ever did during the boom times.

And finally, crude oil. This may be the most remarkable chart of all. While crude hogs most of the headlines in the commodity space, on the basis of this study at least China's behaviour has had relatively little impact on price. Unlike the other commodities, import voloumes have yet to reach last year's highs, and they have only now reached the trend of the salad days.
May trade data is scheduled for release tonight, and it will be fascinating to see how imports evolved- both in value and volume terms. From Macro Man's perspective, China has been been fairly shrewd in all of this, building large stockpiles of important industrial inputs at knock-down prices.

The flip-side, of course, is that even if China manages to maintain its recent growth path over the next few quarters, its recent commodity buying spree might mean that it buys much less from the rest of the world than one might normally expect, perhaps with the exception of crude oil (the only commodity where Macro Man retains a long exposure.)

For now, the China syndrome giveth....but if Macro Man were long high-beta plays on Chinese growth, he'd be concerned that at some point, the China syndrome may taketh away.

Tuesday, June 09, 2009

Shellshocked

Somewhat contrary to Macro Man's expectations, yesterday proved to be more of a low-volume consolidation day than anything else. Sure, there was still some action in fixed income (though the magnitude of price changes paled in comparison to Friday, and most flow seemed to be in option space), but FX action was fairly listless and SPX cash equity volume was the third-lowest of the year.

Oh sure, we still had the virtually-obligatory futures ramp into the close, courtesy of whatever sinister force you choose to believe in. Perhaps the strangely quiet day was a function of indecision, with punters unwilling to buy the risk asset dip in light of the fixed income price action, and unwilling to sell with the SPX and SX5E perched just above their 200d moving averages.

Or perhaps the market was just shell-shocked; by all accounts Friday was not a particularly enjoyable one for many punters. Although the HFR macro index probably understates the returns that the industry generates (superstar funds have little incentive to share their performance data), the returns from last Friday look rather ugly.
While EUR/USD has put in a bit of a recovery this morning, in line with the equity bounce and a stabilization in rate markets, headwinds appear to be forming against the single currency. The last 24 hours has seen a renewed focus on the European banking sector, which to date seems to have adopted a strategy of "if you lie with enough confidence, you can brazen your way through this."

Macro Man knows from the comments on this site, offline correspondence with readers, and discussion with market contacts, that there is a fair amount of head-scratching going on. Not necessarily about the state of European banks, as there seems to be a reasonable consensus that they are impaired; rather, people are wondering what it will take to get them to 'fess up.

* In that vein, yesterday's revelation that WestLB almost went belly-up over the weekend was curious, to say the least. Man.....50 bp moves in the reds, banks going bust over the weekend....Macro Man's getting deja vu...it's almost like last year again!

* Apparently, the Yanks are after the Europeans to prosecute a strict series of stress tests (presumably something more stringent than the Americans' stage-managed three ring circus affair!) One can imagine Europe responding with a two-word reply (the second word of which is "off.")

*And of course, the always-understated Torygraph suggests that the IMF wants European banks to quit lying as well.

Throw in the ongoing Latvian saga and yesterday's downgrade of Ireland, and you'd have to say that after such a sharp rally, the chances of a sell-off in European banks must be increasing.

After outperforming the Eurostoxx index by nearly 40% from early March to early May, European banks have had essentially flat-line relative performance against the headline index. It certainly looks like the short-covering in European banks has largely run its course, and given the recent newsflow Macro Man is wondering if there isn't a bet to be made on the relative underperformance of European banks moving forwards.
Finally, it's not all bad news for Gordon Brown. Sure, his Cabinet reshuffle was a disaster (so much so that he's tapped Apprentice star Alan Sugar to execute his personnel decisions moving forwards) and Labour's performance in the European elections wasn't quite good enough to be labeled "dismal."

Still, the housing market is clearly showing at least a few signs of life. The RICS survey has shown definite signs of life, and anecdotally a house on Macro Man's road (a cul de sac of five houses) sold within two weeks of listing.
Crazy as it seems, if this continues we might actually have to start thinking about the timing of rate hikes, as surely Merv will want to extricate himself from these extraordinarily low rates with alacrity once things turn....

Monday, June 08, 2009

Carnage

After spending the last twelve weeks floating in the warm, comfortable ether of the reflation trade, markets received a rather rude awakening on Friday. Part of it was down to the birth/death model-assisted "good" print in non-farm payrolls. Part of it was down to comments from Atlanta Fed president Lockhart that the FOMC could start raising rates while still pursuing QE/credit easing. And part of it was down to good old-fashioned momentum trading.

Regardless, the outcome was carnage in the fixed income market. One didn't have to look too hard to find 5+ sigma events in the Treasury market. 2 year yields rose 34 bps and the 2-10 curve flattened by 22 bps. According to one of Macro Man's bookies, those represented six- and eight- standard deviation moves, respectively. Or was it the reverse?
Regardless, the move has continued today, with 2y yields rising another 6 bps and the curve flattening a bit more. Remarkably, markets are now pricing in Fed hikes by year-end (Dec Fed funds contracts are 33 bps below front-month), while yield expectations in 2010 ("the reds") have risen dramatically.

Probably unsurprisingly, other markets have not taken this new rise in yields terribly well. Equities have been limp since the NFP number was released, though given the back-up in yields one might say that they could have traded worse. Still, the Eurostoxx and SPX are both perched just above the 200 day moving averages...a break back below, combined with a continued fixed income sell-off, would surely embolden what bears have managed to survive the recent cull.

A more telling impact has been found in FX, where punters have once again found that the one-way bet against the dollar isn't all it's cracked up to be. The DXY has broken back above its downtrend line, and it sureloy won't be long before momentum followers get stuck in.

Taking a step back, however, Macro Man cannot help but wonder if this fixed income carnage isn't sowing the seeds of its own destruction. After all, what's the likely asset allocation flow if equities sag and the dollar suddenly looks like it isn't going down the swannee after all?

One might reasonably conjecture that Treasuries would see some inflows. Valuations at the front end already look attractive; one can already take a bet in options space, offering even odds, that the Fed won't put rates up this year. That doesn't look like a bad bet.

Morever, if we look at the past couple of years we can observe a landscape littered with similarly violent moves that ultimately came to naught.

Bizarrely, nearly a year ago to thew day, eurodollars sustained a downdraft of similar magnitude to that observed three days ago. To be sure, the circumstances were not identical- eurdollars had been drifting lower for some time last year- but the tone of the market (panicked selling/forced liquidation/momentum jockeys piling in) was eerily similar.

This was a distinctly unpleasant environment if you were caught long or trading RV.

Yet a week later, implied yields topped out and began an inexorable decline that reversed the carnage before the shenangians of last September.

And so Macro Man wouldn't be altogether surprised to see a similar outcome this time around. Sure, markets can always sell off more. But we know the Fed's watching, and, perhaps even more importantly, so are other markets.

One could argue that Friday's price action was the logical eventual outcome of the "green shoots" theme. Now, the theory gets a more serious test. Like many sceptics, Macro Man suspects that it will be found wanting.

Friday, June 05, 2009

A Little Perspective

At last, the end of an eventful week is upon us with the release of US unenjoyment figures today.

Yesterday's central bank hoe-down was a bit of a limp fish, with no particularly earth-shattering revelations from the BOE, BOE, or JCT. Yet there was one interesting datapoint that certainly caught the eye, particularly in advance of today's payroll report.

While the initial jobless claims figure was bang in line with expectations, the generally-smoother continuing claims figure registered a considerable surprise, coming in lower than the previous week and undershooting the consensus forecast by a robust 120k. Given that this data is among the most useful in pinpointing economic turning points, this would appear to be more fodder for the green shoots crowd.
And so it might well prove to be, in the end. Then again, perhaps not. After all, it takes more than one week's worth of data to confirm a trend or a turn. And while the chart above appears to suggest that continuing claims are indeed flattening out, with the benefit of a little perspective we can see that this change is essentially undetectable from a longer-term perspective. So while yesterday's figure may prove to be an important turning point in the fullness of time, Macro Man is waiting to reserve judgement....and he certainly isn't makign a judgement on today's figures based on yesterday's data.

One other notable feature yesterday was a melee in the foreign exchange market around 1pm London time yesterday, when the dollar suddenly went bid, particularly against sterling, and rumours started to fly that Gordon Brown was resigning/no he wasn't/yes he was/no he wasn't.

Leaving aside the issue of whether Gordo's continued presence on the public stage is a positive or a negative for the pound, the recently-hibernating bears on sterling are beginning to rouse from the slumber. Surely recent price action is a turning point?

Well, again, maybe it is...but maybe it isn't. It turns out that Rio Tinto has spruned Chinalco's advances with a two-word response (the second word of which is "off") and decided to raise money and go it alone. This capital raising is being done on an FX-hedged basis, which entails the sale of significant amounts of sterling....and guess what? Yesterday's most notable sellers of the pound were the three book-runners!

It's not like we needed a reminder that this market remains rather challenging for traditional macro punters, but yesterday's sterling price action provided one anyways. Hopefully with the benefit of a few months' perspective we can look back at this period, shake our heads, and enjoy a good chuckle.

Thursday, June 04, 2009

The Sharp End Of The Stick

OK, now we're getting to the sharp end of the stick. Yesterday had all the hallmarks of a potential "turnaround day", but perhaps fell a bit short. With the ECB/BOE/BOC today and US non-farms tomorrow, there is no kind of price action that should surprise (except, perhaps, a low-volume, summery flat-lining.)

The currency market has been rumbling for a couple of weeks now. Perhaps it's been the drumbeat of sturm und drang over the fate of the dollar (the latest example of which is here)...but it's interesting to observe that demand for FX options (and thus, implied vols) have been rising for the last week or two. This is the first sign of an uptick in FX implieds this year, and contrasts sharply with the ongoing decline in VIX.
A sign of a big move comin' perhaps?

Meanwhile, in equities, major indices fell yesterday, but not enough to provide more than the faintest crumb of comfort to bears. Specifically, both the SPX....
..and Eurostoxx...
...were supported by the recently-breached 200 day moving averages. It's interesting to observe that number of other asset prices never looked back once breaching their 200 day MAs over the last few weeks. (Naturally, one of the few that Macro Man tried to play, copper, was an exception.)

Regardless, it looks like the 200d MAs represent a useful trading pivot for indices over what's likely to be an eventful 30 hours of trading.

Wednesday, June 03, 2009

The Car Of The Future

Macro Man's tied up all day, so he thought he'd share this amusing video on the future of the American car industry, since there are a number of petrolheads amongst his readership. Thanks to reader Professional Gringo for passing this one along...

Tuesday, June 02, 2009

Fairly Interesting

The next couple of days should be fairly interesting. The SPX did indeed close above its 200 day moving average, as did the Eurostoxx....but of course, this came after what's already been a super-strong rally. Immediate follow-through has been tepid, to say the least, for what it's worth (i.e., not much.)

Similarly, the dollar looked like it was really on the rack yesterday, only to catch a magical bid against the yen late in the London morning, which has since filtered through into other stuff today. It's no biggie if you've been along for the ride, of course, but if you're trying to re-immerse yourself like Macro Man is, it just makes things a bit trickier.

On the surface, the macro data out of the US yesterday had everything that a risk-asset bull could ask for. The ISM was strong, particularly in the details, with new orders breaching 50 for the first time since late 2006. Meanwhile, the personal income data seemed to be just perfect: stronger-than expected income and spending, and a tasty bump in the savings rate to a new fourteen-year high of 5.7%.

The details of the latter report were somewhat less serendipitous, however. A closer look at the source of income revealed that most of the surprising increase in income was actually government handouts, e.g. transfer payments. Although one data point is hardly sufficient to confirm a trend, the fact that Uncle Sam's largesse was largely tucked away rather than spent was a tick in favour of Macro Man's core view- e.g. that the "recovery" will disappoint as household savings are rebuilt. It's Ricardian equivalence before your very eyes!
Moreover, the recent rise in oil prices, if sustained and continued, will take a significant bite out of households' disposable income. If it also pressures nominal rates higher, as has seemed to be the case over the last month, that will at some point provide a headwind to further equity strength.

The recovery in US 10-year inflation breakevens this year has been nothing short of stunning, as they've retraced nearly 80% of their H2 2008 collapse. Much of this adjustment has come via higher nominal rates; TIPS yields haven't done a whole lot over the last couple of months.
While it's well-known that TIPS don't really represent any sort of market-implied inflation forecast, they do represent some sort of measure of market dysfunction; during times of stress, no hedge fund wants illiquid, capital-sapping stuff like TIPS on their books. That TIPS have held in there recently suggests that market liquidity is returning...just as you'd expect from the equity rally.

Hey, Macro Man even managed to trade an FX option yesterday without incurring the immediate mark-to-market hit that characterized all of his trades in Q1. While the directional timing is a bit tricky, that he can once again access the option market to take bigger bets makes it a good time to get stuck in once again.