Friday, January 29, 2010
Man, it's hard to believe that it's the end of the first month of the year (and indeed the decade) already. They say that time passes more swiftly as you get older; if January's anything to go by, that little aphorism is all too true. Still, you're never too old to learn, and keeping an active and inquisitive mind is one the keys to at least feeling youthful. Here are 20 things that Macro Man learned in January:
1) Chasing the initial stock market move out of the blocks is a bad idea.
2. Chasing the initial dollar move out of the blocks is also a bad idea.
3. Chasing the initial move out of the blocks in fixed income is, however, a GOOD idea.
4. Hell can freeze over.
5. So can the UK.
6. Barack Obama evidently doesn't like banks or rich people.
7. Neither does the Labour government.
8. Except when they do.
9. China might actually be serious about tightening policy.
10. Greece is in pretty serious trouble....
11. ...except on days when they have a bond offering. Or maybe that €20 billion worth of bids suggest that the investment wheat hasn't yet been completely separated from the chaff.
12. Europe, despite the rhetoric, is probably going to blink.
13. Ben Bernanke will repeat as Fed chairman.
14. The Steelers, alas, will not be repeating as Super Bowl champions.
15. The Human Fund lives.
16. Sometimes, following the consensus carry trade is a really, really bad idea.
17. A flask of mercury weighs 34.5 kg.
18. Kraft is buying Cadbury.
19. Haiti is, tragically, a bigger mess than anyone thought.
20. Fannie and Freddie have evidently ceased to exist (if they ever did), given how often they're mentioned when politicians look to dish out responsibility for the financial crisis.
Thursday, January 28, 2010
While the entire market (at least in London) appeared to be on Greece death watch yesterday, those pesky Hellenes have thus far lived to fight (or at least to trade) another day. That March 2010 CDS got paid up yesterday is hardly a good sign, though whether the purchaser possesses inside information or simply a desire to push Greece towards the brink is thus far uncertain.
Omitted from yesterday's post on DC fireworks was, of course, mention of the AIG hearings, for the simple reason that Macro Man could not see much chance of market moving developments. So it turned out, though the entire sordid spectacle does little to cast the American policy-making mechanism in anything but the harshest of lights. Not that the organs of government are any better elsewhere, mind, and perhaps it is a check mark in America's favour that there is at least the platform to attempt to discover the truth.
While Macro Man is tempted to put Holmes on the case, he fears that even that worthy might taste the bitter sting of defeat; when confronted with an adversary possessing the malice of a Moriarty with the elusiveness of an Irene Adler, victory is far from certain. Suffice to say, however, that Tim Geithner is the man to have if you are participating in an Obama Cabinet dead pool.
As for the Fed, there were some modest changes to the statement which summed to "something for everyone." While the outlook seemed to be upgraded modestly (the statement forecast a higher level of resource utilization, which is presumably a prerequisite for policy tightening) and Tom Hoenig prefered to eject "the extended period " language ASAP, the removal of the warm 'n' fuzzy vibe on housing suggests that the committee is aware that downside risks still remain. All in, to Macro Man's reading it meant that we're a bit closer to the time of the first policy adjustment, and he finds it hard to take issue with the modest uptick in yields observed since 7.15 pm London time- particularly given how strong fixed income had traded over the past week or two.
While equities eventually shrugged off the move in yields to put in a strong close for the first time in a week, Macro Man was interested to observe that his proprietary measure of risk appetite has recently moved to its most negative level since last March. What is curious is that the aggregate level of risk appetite has been positive since the beginning of 2008, with an average daily reading of 0.19 on the scale of the chart below. It's quite extraordinary, really, given the 7.3 standard deviation event observed in late '08, and it would not appear to be an unreasonable proposition that we are now overdue for at least a modest bound of risk aversion.
As for the State of the Union address, Macro Man has a couple of thoughts. While Obama, true to form, tried to strike a broadly encompassing tone in his remarks ("Democrats and Republicans. Democrats and Republicans."), the little jabs towards financiers were neither surprising nor particularly potent, and more or less confirmed that the Bush tax cuts would not be renewed. This is an easy win for him; he'll be able to tighten fiscal policy through inaction, rather than action and be able to claim that he hasn't actually raised taxes.
While his frequent references to individual success stories of his policies were clearly intended to personalize his appeal, Macro Man couldn't shake the (admittedly cynical) thought that it instead confirmed that his efficacy was so limited that the few positive results could be identified by name.
In any event, while improving the labour market is of course a worthy goal, Macro Man is let to wonder what increasing employment at all costs will do to productivity, unit labour costs, and, ultimately, competitiveness. While it's easy to say "we want manufacturing jobs to return to the US", the fact remains that blue collar workers are facing literally unprecedented competition from much lower-cost alternatives in EM economies. It's hard to see how that dilemma is resolved without subsidies, tariff barriers, or other forms of protectionism. Yeah, it makes for a nice sound bite to mumble about "green jobs" and the like, but they aren't going to save the day automatically.
Perhaps the most interesting part of the president's speech was his stated desire to double exports in the next five years. By this, Macro Man presumes that he means the gross level of exports, rather than net exports (which are currently negative, and the deficit could easily double in 5 years with no help from him.) Talk about "competitiveness" and "fair trade" also set the protectionist alarm bells ringing, particularly when taken in conjunction with his comments on employment.
A 100% rise in exports over a five year period is a challenging but not impossible goal; both Bush I (goods and services) and Bush II (goods) accomplished the feat in the past thirty years. Of course, both of these periods had something in common: an extremely weak dollar. Indeed, since 1980 the correlation of the trailing 5 year growth rate in exports and the level of the trade-weighted dollar has been -0.56, which is quite a strong (if unsurprising) relationship between two such simple factors.
What does it mean? Perhaps nothing in the near term. But Macro Man does wonder about the fate of the strong dollar policy, in both its literal and figurative forms. Hmmmm. Competitiveness....bring manufacturing jobs to America....double exports. It all smells like a harder line on China specifically and trade generally from Obama, which shouldn't come as a total surprise; why should trade be exempted from the increasingly dirigiste policy stance of the Administration? (Unless, of course, Obama expects US manufacturing to conquer the world with this catalogue of useful products.)
So if Macro Man's Cabinet dead pool tip is correct and Geithner falls on his sword, 'twill be very interesting indeed to see who his replacement might be. A new broom at Treasury may well bring new ideas....bashing mercantilists and weakening the dollar might very well be among them. Stay tuned.
Wednesday, January 27, 2010
It's a big day in D.C. today, indeed it should prove to be a big couple of days. Tonight we've got the FOMC announcement and Obama's first State of the Union address, followed tomorrow by a Senate vote on cloture in the Bernanke debate and, possibly, on the confirmation itself.
Given the timing of the first and third of those, it would appear unlikely that the Fed will rock the boat too hard at this evening's announcement. "Extended period" seems likely to remain, and it is likely somewhat premature to expect changes to the discount rate (though a recent hot 'n' heavy rumour suggested a rise is possible come March.) While there have been some suggestions that the Fed would change its policy mechanism to target interest paid on reserves rather than the Fed funds rate (given that they have lost effective control of FF given the participation of the GSE's in that market), such a significant policy shift two days before the possible exodus of the current chairman would appear to be very unlikely indeed.
As for Obama, he'll naturally touch on both health care and foreign policy, but from a market perspective the most interesting aspects of the speech will be his rhetoric towards the banks and his comments on fiscal policy generally. While the president may not be sporting a hair shirt when he makes his speech, "austerity" may be the new religion- both in terms of banks' capacity to earn, and the government's capacity to spend.
How effective such a policy stance ultimately turns out to be remains to be seen, of course, given that passage through Congress remains uncertain. On the face of it, however, less earnings for banks and less spending by the government should generate a widening of swap spreads. 10 year swap spreads are only a few bps from their lows and remain well below levels prevailing before the crisis. While this has been a function of both increased Treasury issuance and the assumption that TBTF banks are ultimately a public sector liability, a general policy move towards weaning banks from public support should re-introduce a credit premium into their liabilities.
Indeed, since Obama's announcement last week, a basket of CDS spreads of 4 US banks (BAC, C, GS, and MS) has widened modestly, as one might expect, though it remains well higher than levels prevailing at the outset of the crisis. The relationship between banks CDS and swap spreads has been a convoluted one during the crisis; since July 2007, the correlation between the two has been -0.41 (implying that wider bank CDS means tighter swap spreads.) However, since the advent of QE and the "normalization" of markets in March '09, that correlation has flipped to a more sensible +0.22. Macro Man would expect that relationship to continue, particularly if and as some institutions contemplate withdrawing from bank holding status (and thus the warm embrace of government guarantees.)
Elsewhere, Europe is no less interesting today as the orgy of demand for that Greek 5-year issue has yet to materialize in the secondary market. Amusingly (at least for those who didn't participate), the bond has sold off back towards its original offering guideline of swaps + 375 (verus an issue price of swaps + 350.) For all the sturm und drang about the leechiness of big global banks, the underwriters did a superb job of drumming up interest in this sucker and saving the Greek government a few euros.
Meanwhile, BBVA's net Q4 profits fell a cheeky 94% y/y courtesy of a slew of writedowns. Following on from similar disclosures from Soc Gen, it would appear that European financials are finding it increasingly difficult to keep juggling all the balls in the air without letting a few drop to earth.
The trend, should it continue, could pose something of a threat to European dividends. Macro Man noted a couple of weeks ago that he had vacated the last of his positions. While the strip is off quite a bit sicen then, it's still comfortably higher than the levels prevailing 3 months ago. Given that the market is still quite long of these suckers, particularly relative to the available liquidty in any sort of stressful environment, risks must surely point towards further weakness if and as the European bankinbg distress theme gets legs. This should ultimately provide an excellent opportunity to get back into the trade, hopefully at a more tasty discount to the expected divvy stream. This morning's focus on the re-emergence of a bearish Roubini does little to suggest that the time to re-enter is nigh.
That Axel Weber has emerged from hibernation and spread his hawkish wings this morning does nothing to make risky assets seem more enticing. Nor indeed does the by now obligatory Chinese rumour du jour, which this morning suggested that some banks have been ordered to withdraw loans that they'd agreed to extend in the first two weeks of the year. Per the usual, there was no confirmation, but the story didn't stop Asian equities from putting in yet another disappointing day.
It might be a big day in DC, but as noted yesterday it's a pretty eventful time elsewhere, as well. Whether the stars are aligning for a proper risk asset dump remains to be seen, but thus far Macro Man has seen little to contradict the thesis that the next decent move will be down.
Tuesday, January 26, 2010
Man, it was all looking pretty good there for a while. Futures were up (courtesy of the new Monday effect, which funnily enough is the opposite of the old Monday effect), the Greek book-build went well, and AAPL earnings blew expectations out of the water. It was almost enough to make Macro Man forget the torch-and-pitchfork-carrying mob....
Well, not really. The Monday bounce was perhaps inevitable, or at least likely, after two strong down days at the end of last week. The Greek news was positive on the face of it yesterday- demand for the new 5 year issue reached more than €20 billion, with the authorities deciding to raise the issue size from €3 -€5 billion to €8 billion- but perhaps a bit of perspective is warranted.
At mid-swaps plus 350bps, the yield on the new issue will be more than 100bps higher than the yield on the current 5 year (an August 2014 bond) was at the beginning of the month/year. Indeed, it comes at a healthy premium to the yield of that current 08/14 bond. Still, beggars can't be choosers, and €8 billion will put a healthy dent into the chunky refinancing requirements that Greece faces this year, particularly in April-May.
Nevertheless, if this were truly a life-saver, one might have expected a bigger retracement of the recent pop in yields. Meanwhile, rumours that the ECB was (illegally) bidding in the auction did little to engender a sense that the worst is past, and suggestions that the Greek Treasury would deny allocations to short-covering bids from hedge funds will keep the market on its toes when the allocations are announced today.
Still, when Macro Man went to bed, equities/risk assets had just capped off a decent, if uninspiring, day and, if anything, seemed inclined to rally a bit after the Apple figs. So imagine Macro Man's surprise when he woke up this morning and saw new lows for Spoos, H shares (below), Shanghai property, a continued short squeeze in USD/Asia, and more flamingos coming under the cosh.
The catalyst appeared to be that the PBRC was implementing the last weeks's rumoured localized RRR hikes for certain banks today. Not hugely new news, but evidently enough to put the scare into locals; the key onshore 7 day repo soared 31 bps to a "whopping" 1.65%; as you can see below, the reaction in H shares was....not good.
While the near-term real economic consequences of the tightening are modest, it seems evident that one need look past the literal regarding China. Locals are evidently expecting a tightening, so any indications thereof are likely to have a disproportionate impact upon sentiment and, indeed, behaviour.
Most China-linked asset priecs are now comfortably down on the year, with the exception of soemthing like AUD/USD (though AUD/JPY is down), which would appear to be vulnerable in that regard. There are a lot of moving parts at the moment, and (unusually), each major market time zone can point at local factors that can significantly impact global risk appetite. The macro picture is thus unusually convoluted at the moment; given the ease with which markets are ebbing at the moment, it's hard to seeing it ending well.
Monday, January 25, 2010
Should I stay or should I go?
There must be more than a few people humming the old Clash tune with regularity these days. Not that there's anything wrong with that- it might be Macro Man's second favourite Clash song after London Calling- but consider the following:
* Bankers, hedge fund/private equity managers, and similar "leeches on society." In both the US and UK, people in our industry fall somewhere below "open vats of raw sewage on a hot day" in terms of popularity and garnering public sympathy. While the public's anger is certainly understandable, it doesn't mean that it is universally justified, as there appears to be little distinction drawn between those who necessitated a bailout, those who benefited indirectly from bailouts/easy liquidity, and those who have just gotten on with things and would have been successful regardless of circumstance.
The increasingly onerous tax/regulatory regimes being put in place (little looks set to change after the UK election) must have a number of people and firms looking longingly at more finance-friendly regimes, be they in Switzerland, Asia, or even Canada. (Those who wish to respond "good riddance!", "we're happy to do without you", and "don't let the screen door hit you in the ass on your way out!" should consider their viewpoints pre-emptively noted and thus not necessary to re-post.)
* Equity longs. What a long strange trip it's been for stocks, but per the posts of the last week or so, it feels as if a sea change has taken place. The reaction to earnings, China, Greece, and Obama has been underwhelming, to say the least, and price action suggests that we are now in liquidation mode. Thus far, however, the downmove has largely been a speculative or at least futures-driven phenomenon. E-mini's generated their two largest volume days since 2008 on Thursday and Friday, while cash volumes, though decent, were nowhere near that kind of extreme.
The key question for equities in what could prove to be a tumultuous week is whether individual stock holdings begin to see more forceful liquidation, or whether futures shorts get squeezed. If the sea change theory is right, it will be the former and long holdings will go.
* Ben Bernanke. Ah, Ben. While most assumed that he his confirmation for a second term as Fed Chairman was a foregone conclusion, over the past 72 hours his fate has been the hottest of hot topics. Over the weekend Macro Man received a flurry of emails on the subject, with Saturday's basically saying "he's toast" while those of the past 24 hours suggest that he may be able to stick around after all.
His term expires on January 31, which means that the issue really ought to be be resolved this week (though it won't necessarily be. He will remain a Fed governor and can act as de facto chairman if the vote doesn't occur.) Still, it makes this week's FOMC meeting extra spicy (though no real change is expected) and should provide an interesting gauge of just how much pressure Congress is feeling from its constituents. (As an aside, Tim Geithner is probably humming the tune as well. He must feel Volker [literally] breathing over his shoulder....)
One could extend the analogy even further, to Greece (should I stay in the euro or should I go) and China (should I stay rigidly pegged to the USD, or should I let the RMB go?) Macro Man will save those analyses for another time...
Friday, January 22, 2010
Was yesterday a game-changer? It certainly carried all the hallmarks of one. The SPX broke its uptrend line off the March lows, and while that's only moderately interesting (given the number of similar such lines that have been breached during the 10 month rally), the fact that daily futures volume exceeded anything seen last year (even into the lows) was telling.
The catalyst, of course, was Obama's proposed "Volker Rule" to ban banks from owning/investing in hedge funds/private equity or even from proprietary trading. Now, Macro Man is hopelessly compromised here, as such proposals (if enacted) would be detimental to his profession.
And while it is probably imprudent to comment too much until the details are known, on the face of it such a draconian approach is both woefully misguided and appallingly naive. We can probably all agree that it's in no one's best interests to have a situation where a Lehman Brothers owns $50 billion+ in residential and commercial real estate turds, which brings down the firm and threatens the global financial system.
But there's a big difference between that and having a team of punters (not dissimilar to your author) who coordinate and utilize the market intelligence available to large banks (which is enormous and extremely valuable) to make informed bets in the marketplace. Trying to ban such activities will, in any event, almost certainly be doomed to failure, as swathes of prop guys could simply be stashed away on franchise desks. Indeed, part of being a good franchise trader is to have a view and take prop risk anyways, so how could the Federales credibly eliminate it when it is all part and parcel of "serving the customer"?
Moreover, let's not forget that it was proprietary trading- namely, the top-down decision to hedge against a subprime collapse- that helped save Goldman's bacon in '07-'08. Sure, the Feds stepped in when the crisis went nuclear, and yes that intervention to save the system may well have saved GS....but that doesn't mean that there was no utility to their top-down decision to take a "prop bet" to hedge against subprime.
In any event, Goldman's decision to donate $500 million to the Human Fund clearly wasn't enough to spare the firm from Obama's ire, let alone the public's. They clearly know which way the wind is blowing, however; the firm paid out just 36% of revenues in employee comp for 2009. That's loads less than other "human capital" intensive industries like sports or entertainment, and miles less than Morgan Stanley, which paid out 62% of revenues in employee comp. Morgan Stanley, incidentally, lost money last year, precisely because of these princely wage awards. Regardless, slashing the bonus pool to boost earnings did little for the GS share price; courtesy of Obama, the stock price fell sharply on its highest volume since last April.
Now, let's be clear: there is plenty to dislike about the way banks have conducted business over the past eighteen months, and things should change. Perhaps these proposals are simply a cack-handed way of re-introducuing Glass-Steagall (i.e., dividing banks into commercial and investment banks) without literally re-introducing Glass-Steagall. Perhaps they're even intended to encourage the likes of GS to re-privatize into partnerships. Macro Man has gone on record suggesting that both of these are desirable outcomes from a systemic perspective.
Surely the thing to do, however, is to impose top-down leverage limits and, within that construct, allow firms to get on with their business as they see fit. Trying to micro-manage the business of banking by creating lists of allowable activities is decidedly substandard. Of course, the policy was likely driven by populist impulses in the wake of the Democrats' shocking defeat in Massachussetts, and as we know the public's grasp of nuance leaves something to be desired (nearly 20% of the American public reportedly believe that the sun orbits the earth, for example.)
Regardless, when drastic populist policies are proposed (though perhaps not implemented; Macro Man's been surprised at the relatively unethusiastic legislative reaction thus far), the result is generally suboptimal outcomes. If yesterday really was a game-changer, perhaps it's time to start dusting off those W-shaped forecasts (or even the Cyrillic letter I shapes?!?!) for risky assets.
Rumblings of Chinese tightening do not help, nor indeed does the apparent waning of developed market growth momentum. The Citi major economy surprise index, for example, looks to be tracing out either a W or a И shape.
Hmmmm...a tepid economic recovery, a suboptimal, populist-driven policy reaction to a market crisis, and an equity dump after it felt like the worst had passed. How do you spell W again?
Thursday, January 21, 2010
Well, yesterday it looked as if equities were preparing to dump after all before a late session recovery mitigated the day's losses and left bears of Macro Man's acquaintance gnashing their teeth. Plus ca change....
Macro Man was intrigued this morning to see the first singificant downgrade of equity fundamentals that he's observed in what feels like forever. CS has reportedly trimmed its forecast for 2010 FTSE dividends from from 219 to 198; based on last night's close of 189, that suggests that upside of current year dividend swaps was cut from nearly 16% to less than 5%. It's a small drop when compared to the torrent of optimism emanating from the donuts on CNBC, but nevertheless is interesting coming from a heretofore unmitigatedly bullish shop.
Another reason for caution remains, of course, China, where the data dump this morning came out more or less bang in line with yesterday's leaks. The activity data is now pretty clearly a "V" (Q4 GDP rose 10.7% y/y); unfortunately for the authorities, inflation is threatening the same. While input price inflation is always more volatile than output pirces or CPI, the recent surge will concern the PBOC over potential pipeline pressures. And if there's anything the CCP likes less than unemployed urban factory workers, it's rioting peasants who cannot afford to eat. Food price inflation in China is now 5.3% y/y; while that's pretty modest in comparison with the mid-2008 highs, it's also moving swiftly in the wrong direction.
More meaningful rate rises in China are looking likely; real yields on 1 year government paper have swung back into negative territory, which ain't exactly what a 10.7% growth economy needs. While we will soon enter the silly season for Chinese data (with y/y comparisons distorted by the changing dates of the lunar new year), it is starting to look like locals are starting to pull in their horns.
Macro Man suggested an H share futures short the other day (he is restricted from trading ETFs or non-sovereign credits), which ahs thus far worked well. He's also been intrigued to see the recent weakening of the HKD off of the 7.75 base, which is certainly illustrative that something has changed, though it's hard to say exactly what.
And taking a swift look onshore provides an intersting counterpoint to the bullish growth consensus for China. Note that despite uber-abundant liqidity conditions, the property sector subindex in Shanghai is looking very limp indeed. Given that construction investment has been one of the primary beneficiaries of the Chinese stimulus program of the past year or so, it's not exactly a resounding vote of confidence, is it?
And so, with the dollar looking stronger than Hercules, potential tightening/slowdown in China, Greece imploiding before our eyes, and even an RBA board member suggesting that rates are close to neutral, Macro Man is left to wonder why copper is near its post-Lehman highs and Ozzie's still got a 90-handle, among other things. To be sure, markets like Korea are still performing well....but it's been a cold winter in China, and it might be time to start wondering what happens if the country sneezes.
Wednesday, January 20, 2010
Just when it looked like equities had finally shifted to "sell the rally" mode after ten months of "buy the dip", the SPX goes and rips 14 points to a new post-2008 closing high (cash basis.) While the rally came contrary to Macro Man's expectations, it was nice to be flat for once and thus avoid that sinking feeling that he experienced all too often last year.
In any event, while stocks closed on their highs yesterday, risk assets have beaten a bit of a retreat overnight courtesy of developments in China. Despite the PBOC claiming that the recent hike in the RRR wasn't actually a tightening, the news emerged this morning that the authorities have directed the big 4 banks to halt new lending for the time being. (As Macro Man types this, a PBOC source is on the tape suggesting that banks lent Y1.1 trillion in the first two weeks of January alone. Yowsah!) In an economy where loans and capital are largely directed by administrative diktat rather than prospective return/the price of money, that does in fact represent a tightening of policy.
Moreover, the rumour mill in China was cranking at full speed last night. Stories circulated of another hike in the RRR and, more intriguingly, sharp upside surprises to forthcoming CPI and PPI data. While the y/y change in CPI has thus far been muted, the rumoured print (marked by the star on the chart below) represents a pretty sharp bump and an uncomfortable trend.
That the authorities are finally starting to adjust policy is the clearest signal of all that they are becoming concerned about the trajectory of inflation. It appears, therefore, that we are entering a new phase in China-watching, where inflation may trump growth as the primary determinant of policy change. Will it be enough to prompt a CNY move? Probably not. But as noted a few days ago, the impact on Chinese equities could be substantial; the Shanghai Comp was slightly down on the year even with 1.1 trillion RMB of lending in the first half of January; how should we expect it to fare with the liquidity taps turned off? "Not well" is the obvious answer, at least judging from the market reaction today.
The dollar has performed pretty well overnight, perhaps driven by hints of tightening in the "Chimerica" complex. EUR/USD has broken the 200 day moving average, which could prove significant given the performance of the eur following the break of the 55 day. As you can see, the latter supported EUR/USD for much of the past six months, and the euro shanked when it finally broke, only finding support at the 200d. Might the break of the 200d herald a similar collapse? Inquiring minds want to know. Certainly the performance of many "risk on" currencies over the past 24 hours does little to suggest that the dollar will slow down any time soon.
Finally, Macro Man had to laugh at Merv the Swerve's Exeter speech last night. Look up "dovish" in the dictionary and you might find a verbatim transcript. Particularly amusing were his comments that the inflationary episode will prove temporary and that CPI will soon move back towards target.
Macro Man had to shake his head. Courtesy of the VAT-hike base efffect come January, it will be almost inconceivable that Merv does not have to write a letter to his Darling to explain why he's let CPI drift so much above the target. Merv would do well to save the letter onto his hard drive, for he may be needing it again. The BOE's own track record of projecting inflation has been dismal to say the least, as a perusal of recent inflation report fan charts will confirm. They have used the old forecasters' trick of moving their near-term projections of inflation in line with the market while leaving their longer-term forecasts unchanged.
How dramatic has this shift been? In May, assuming "just" £125 bio of QE, it was literally inconceivable to the BOE that inflation could rise to more than 2.7%-2.8% by year end; that was the very top of the fan chart. In fact, even with an extra £75 bio of QE, December CPI came in at 2.9%. Ouch!
Not that private-sector forecasters have exactly covered themselves in glory, of course. The cumulative consensus forecasting miss on CPI in 2009 (measured by subtracting the consensus m/m CPI forecast from the actual outturn, and summing the differences for the 12 months of 2009) was a whopping 1.6%!
It would be an interesting subject for an academic study as to why UK inflation has been so sticky; regardless, it certainly feels as if "Rip-off Britain" rides again. And the stickiness of inflation also raises the question of what will happen to prices if Macro Man is wrong and the UK ever does manage a period of strong self-sustaining growth.
And so your author cannot help but think that at some point, the Guv'nor will be for swerving once again. Whether that happens in 2010 is of course a matter for debate, and Macro Man doesn't have a strong view on the timing. Merv has, after all, demonstrated in the past that he can remain irrational longer than "haters" can remain solvent. But with inflation set to exceed 3% and the Bank not particularly interested in lifting a finger, Macro Man cannot help but think that Gilts make an attractive short here, especially as a spread trade against something like Bunds.
Tuesday, January 19, 2010
Sterling, sterling, sterling. Macro Man's email and Bloomberg inboxes are filled with all things sterling today. The GBP can be a fun currency, not least because of the jokes that a guy like Macro Man can make with it ("sterling's looking a bit tarnished", "GBP = Gordon Brown's peso", etc.)
Thus far this morning, the British Pound truly has been Great, carrying on a trend of the past few days. Que pasa?
Well, there have been a few things driving sterling. The most obvious (and most credible) source of GBP strength has been the takeover frenzy surrouding Cadbury, with a host of foreign firms circling the purveyor of Creme Eggs like so many buzzards. It looks like Kraft has sweetened their offer just enough to make it palatable to the Cadbury board; at a reported all-in price of 850p/share (including dividends), the whole business has been a tasty treat for Cadbury shareholders.
More viscerally for sterling, however, is the 500p/share cash component of the offer. With 1,373,866,000 or so shares outstanding, that translates to a £6.9 billion cash bung to Cadbury shareholders from Kraft's coffers. It's always difficult to know exactly how and when the cash component of cross-border M&A deals will be effected, but it seems reasonable to asssert that a decent chunk will need to be transacted in the marketplace. And contrary to the apparently common perception of non-experts ("but there's $4 trillion of daily turnover!"), a time-sensitive flow of that magnitude that everyone knows is coming can have a significant short-term effect on the marketplace.
Of course, that effect will have long faded by the time that Kraft is able to jam American shelves with Fruit and Nut or Turkish Delight bars. And from there, sterling will be left to rise or fall on its own merits. In that regard, there are a couple more factors that bear watching. While Macro Man asserted in his list of non-predictions that the UK would avoid a hung Parliament, the risk of one is very real, given the farcically gerrymandered electoral districting.
In that vein, it is clearly worth keeping an eye on Labour's electoral strategy, which has turned abruptly over the last week or two. Following on from an apparent declaration of class war a few weeks ago, Labour has performed an abrupt about-face (courtesy of the unpopularity of their prior strategy) and is now sounding almost Tory-ish. Noted creature of the underworld Peter Mandelson was in the weekend press suggesting that the 50% to tax rate would only be temporary, and today's press is aflutter with Alistair Darling promising steep budget cuts, apparently stealing a key plank in the Tories' election platform. 'Twould be tempting to call it Machiavellian, but that word connotes a degree of artifice that is notably lacking in most of the current crop of Labour politicos (with Mandelson as an obvious exception.)
It's difficult to see how this will play out. A legitimate committment to fiscal discipline should prove supportive for sterling in the medium term, though any near-term negastive impact on growth could have the opposite effect. But if Labour's naked play for the middle class convinces enough voters to generate a hung Parliament, the impact on sterling would aalmost cetainly be negative.
Finally, the press is also trumpeting a GS call that the UK growth will outperform that of other developed economies this year. While that may end up being the case, given the depth and duration of the UK recession (which could thereby mechanistically generate a sharp recovery), from Macro Man's perch the rationale for UK outperformance is not particularly compelling. Macro Man struggles to see much positive impact from sterling's protacted period of weakness; as you can see from the chart below, the TWI has been in the toilet for a good year and a half now.
The most notable impact that Macro Man can see is that the price of certain imported goods has gone up and that the volume of supply has gone down (it's been easier to find El Dorado that a 3 liter TDI A6 Estate.) CPI data would appear to back up that anecdotal impression; for what seems like the twelfth month in a row, inflation surprised to the upside, with even core CPI now up 2.8% y/y!
As for the trade account, it looks to Macro Man like the bulk of the improvement is past us. You can see from the chart below that the trade deficit narrowed sharply during the teeth of the crisis but has, if anything, started to widen in recent months. The reason for this is not hard to deduce; import growth has begun to exceed that of exports.
Much like the US, exports have to dramatically outperform imports on a percentage basis for the trade deficit to improve; over the last six months, imports have risen 8% while exports have risen 7%. That explains the recent widening of the trade deicit, and frankly Macro Man cannot see why it wouldn't continue. So while Macro Man certainly expects that the UK will return to growth this year, hopes of an export-led boom would appear to wide of the mark.
So whither sterling? Macro Man has no position at the moment (other than in his p.a.), and so can view sterling through a relatively unbiased prism. And from his perspective, the most bullish outcome for the pound (fiscal retrenchment and monetary tightening) are unlikely to occur simultaneously for a long time; if anything, if one leg materializes soon, the other is likely to go the opposite way.
And so while the British pound might be doing great today, if anything the current bull could well set up a great selling opportunity sooner or later. Macro Man will be watching and waiting.
Monday, January 18, 2010
It's been a somewhat slow start to the week, which in many ways reflects the slow start to the year. Perhaps in this world of bonus limits, bank supertaxes, and the like, punters don't feel like getting stuck in until after MLK day? Perhaps, but it's dubious. The relative inaction is rather more likely a product of uncertainty an the imperfect information with which punters are armed.
Earnings season will kick off in earnest this week (Macro Man counts 65 companies), but market reaction to last week's ostensibly solid numbers was curious, to say the least. After what seems like eons of markets reacting with a positive spin to datapoints of all description, the abject performance of equities in the face of ostensibly solid INTC and JPM reports was curious, to say the least. (Perhaps they are sctaching their heads how these big guys can notch up effective tax rates of 12% and 15%, respectively, when Joe Twelvepack pays a helluva lot more?)
Regardless, Friday was one of the highest non-expiry volume days of the past few months, which could suggest that if markets rouse from their lethargy, it will be to fall. A break of the recent uptrend line could encourage the fast-money crowd to help it on its way.
Then again, maybe the relatively slow start to the year is simply a Western phenomenon. The news has been flying out of China fast and thick, whether it be surging trade values, a suprising RRR hike (which evidently is not a sign of monetary tightening), or a rumoured increase of the stamp duty on equity trading.
Regardless, the volume in China-linked trading has been substantially higher (on a relative basis) to that of developed markets; observe how the recent fall in the Hang Seng, for example, has been accompanied by one of the highest concentrations of trading volume in the last six months.
Will all of this be sufficient to rouse macro punters from their lethargy? Maybe, but more clarity on the Fed (and more attractive pricing on trades that people would like to have, but don't) would have a more obvious impact on trading volumes and the general interest level. Judging from Friday's London afternoon, where many macro punters (your author included, sadly) were giggling Beavis and Butthead-style over a rather amusing name in the Bloomberg people directory, the slow start to the year has a bit further to go yet.
Friday, January 15, 2010
Most mornings, Macro Man has a pretty good idea what he wants to write about, and tries to insert a theme underlying all of his comments and observations. Occasionally, however, he is somewhat bereft of inspiration....those days usually produce a "fun" post like 20 Questions or something. Sadly, Macro Man doesn't even have the inspiration to rustle up 20 vaguely interesting questions, so he is sitting here this morning, scratching his head about what to write.
Today is the first equity option expiry day of the year, of course, and usually that means fireworks. But for some reason, unbeknownst to your author, the slate of earnings releases has shifted back, so we have relatively little information to go on. Normally, you've had a healthy dose of earnings announcements by the time options roll off, and Citi, for example, has usually announced on the morning of expiry- an easy one to remember, given the fireworks associated with the once-mighty C's releases over the past couple of years.
Macro Man isn't sure what's happened...it's a bit of a head-scratcher. OK, Intel beat expectations last night, but come on: they've very 1990's. So if it seems like stuff has been relatively quiet, there is perhaps good reason: we're getting less info than usual this time of year. (In fairness, there's been a little bit more sizzle in Europe, but only just.)
To be sure, we do have one bank releasing before expiry today: the House of Morgan (and Chase, and Chemical, and Manny Hanny, etc. etc.) And while those numbers might be interesting, JP has of course been one of the rocks of the banking industry throughout the crisis, with less earnings vol than most of their competitors. And in any event, the real interst in the banking sector is now on earnings well forward, after Obama proposed a fee (not a tax, no sirreee, a fee, dammit!) on large banks' liabilities to pay the tab for the bailout.
One early-cut analysis that Macro Man saw suggested that it would cost the likes of C, JPM, BAC, and GS in excess of $1 bio per annum for the next decade. For sure, in his conversation yesterday with a mate at one of those shops, his interlocutor suggested that everyone took the proposal seriously and was pretty bummed out. In any event, after this (perhaps justified, but clearly populist) measure was announced, the BKX naturally surged. Another head-scratcher.
One somewhat puzzling development that has subsequently been cleared up (a bit) was the euro's painful decline in December. China released data suggesteing that FX reserves rose by "only" $11 bio in December. While the valuation adjustment from the euro's decline will artificially depresee that number, it nevetheless suggests less piss-taking than usual in December...and thus less reason to play with EUR/USD like killer whales play with baby seals.
While the euro has tried mightily to recover thus far in January, the results have been tepid at best. JCT offered little support yesterday, particularly vis-a-vis Greece, where he essentially said "you're on your own, sunshine" while downplaying the self-sustainability of the Eurozone recovery.
This morning, the EUR has been buffetted by the peculiar rumour that Angela Merkel will resign. There's no obvious source, rhyme, or reason to that story, so naturally Macro Man has been left scratching his head once more to figure out why it's out there to begin with.
You can observe from the chart that the 200 day moving average has provided good support for EUR/USD over the past month, much as the 55-day MA did for most of H2 2009. Should the 200 day mover break, it probably won't take much head-scratching to figure out what the market will do....
Thursday, January 14, 2010
The good news is that the snow has finally started to melt. The bad news is that the precipitation hasn't stopped; we've just reverted to the usual miserable rain. Still, it's said that misery loves company, and while there is tragically an all-too-real wellspring of misery in Haiti in the purely financial sphere there is plenty of unhappiness to go around as well.
Greece, after enjoying a respite over the Christmas holidays (both Western and Orthodox) has come under the cosh once again, with yesterday's rather unflattering ECB view of Greek debt restructuring proposals putting sovereign debt under pressure one again. While there was no doubt selling of actual bonds pushing the March '12 yields over 4%, it would appear that most of the pressure was speculative in nature; observe how 5y CDS (white line, left hand scale on the chart below) attained fresh highs even as the price of the 2012 bonds didn't plumb fresh lows.
With Trichet speaking today after the ECB announces rates, markets will be keen to watch for signs that Greece is being cut adrift or in for further censure. (It should make entertaining viewing if for no other reason than that the Vice President of the ECB is himself Greek.) The market will also watch for signs of policy normalization, though it's probably premature for such signals; that didn't stop last month's press conference from being aan expensive proposition for Macro Man, alas.
Speaking of normalization, there were conflicting reports out of the US yesterday. Macro Man's favourite purveyor of fairy tales was at it again yesterday, as a "paid advisory service" reported that the Fed may look to eventually allow the funds rate to drift up towards 0.50%, and they plan to start talking about it as soon as June. Wonderful! So now conversations planned five months in advanec are now news? Mark it in your diaries, ladies and gentlemen: Macro Man has strong plans to talk about football (not the American version) on June 12th....
In any event, comments from NY Fed president Bill Dudley, who presumably knows a bit more about the trajectory of rates than the paid advisory service, said that rates could stay low as long as two years. Possibly coincidentally (but probably not), Mr. Dudley's successor as Goldman's chief US economist is among the few forecasting unchanged rates through the end of 2011.
Finally, Macro Man shed a tear yesterday (OK, not really) as he bade adieu to the longest surviving resident of his portfolio yesterday. He closed out all of his positions in Eurostoxx dividends, which he first bought in February of last year as a hedge against his short-risk portfolio. The 2014 vintage, shown below, more than doubled in value.
Whil there remains some upside to these contracts, it is considerably less enticing than it was just a few weeks ago. Assuming dividend payouts of 150 Eurostoxx 50 index points in 2014 (more or less consensus) , the annualized gain to be had from curent levels is just over 4%. (Broadly similar to the yield available on 2y Greek paper, funnily enough!) While they can certainly richen further, these suckers do tend to build in a term premium a la eurodollar futures, so Macro Man wonders how much upside is really left. Moreover, the ongoing travails of Greece, as well as unpleasant surprises like yesterday's SocGen writedown, provide a timely warning that serpents still roam the apparent Eden of current market sentiment.
It's been a good run, and these divvy positions singlehandedly kept Macro Man's equity book (modestly) in the black last year. With a lot of the juice now squeezed from the fruit, it's best to lock in the rewards so as not to live through a Greek tragedy or any other misery that might othrewsie come his way.
Wednesday, January 13, 2010
Q. What do you think of global warming?
A. I think it would be a good idea!
Another day, another day of snow here in the southeast of England. The snowmen built by the Macro boys a week ago are still standing (albeit with a Quasimodo-like posture), and still the white stuff comes down. It seems as if Macro Man has seen more snow this winter than in the dozen prior winters combined. Small wonder that "global warming" has morphed into "climate change"!
Now, one might have thought that after a week's worth of snow, an additional inch or two would not have been too big of a deal. Fat chance! The 45 minute delay on today's morning service was put down to "slippery rail conditions." Funny....Macro Man was under the assumption that minimizing friction was one the engineering requirements of the modern electrified rail system.
Regardless, if there is insufficient friction on Britain's rail network, Macro Man's old mates in China are providing some. As if mocking your author for pooh-poohing their "decisive" move on bill yields yesterday, PBOC announced that they were raising banks' required reserve ratio to 16% (from 15.5%) scant hours after yesterday's post.
Now, in the grand scheme of things, this doesn't mean a whole lot. Before the onset of the financial crisis, these types of announcements a) used to throw markets in a tizzy for a few hours, and b) generated little meaningful impact. And to be sure, the PBOC hit the tape suggesting that policy was going to remain supportive of the ongoing recovery.
That having been said, there seems to be little dispute that the policy mix in China has been little short of an orgy of liquidity, as Macro Man observed six months ago. And if we combine the signalling mechanism brought about by:
a) this RRR hike
b) measures designed to curb property speculation
c) the introduction of equity index and futures and short selling in the A share market
we might well find that there is an impact on asset prices. It is perhaps notable that since bank lending growth was dialled down in H2 of last year, the Shanghai Comp has gone more or less nowhere. A sustained, if modest withdrawl of liquidity could encourage a dive below the bottom of the wedge below.
While taking A share risk is not necessarily that easy, punters can easily short H shares via Hong Kong-listed futures. The charts look broadly similar, and while A shares may lead the way to the downside it is difficult to believe that H shares won't suffer if onshore equities dump.
There's also been decent interest in paying Chinese rates via non-deliverable swaps. While this trade looks great optically (2y NDIRS rates are just over 3% for a double digit growth economy!), Macro Man is less certain that the trade will work because
a) interest rates are a sadly seldom-used policy instrument in China
b) carry is sharply negative
c) there is a lot priced in; 2y NDIRS have retraced much of their decline from the mid-'08 highs (when inflation was high, oil was $145/bbl, the 'Comp was close to its highs and activity was chugging merrily along.)
And what of the currency? Ah, good question. Macro Man would love nothing more than to be wrong in his non-prediction of no move in H1, but he stands by his call. Unlike fiddling with property regulations and inducing a bit of selling in stocks, moving the currency probably would have deeper macroeconomic implications....not only for the trade surplus, but also for liqudity conditions (if PBOC is "forced" to intervene heavily and is unable to sterlilize all of it.)
Introducing a bit of friction into asset markets is one thing. Giving into Western demands for currency strength (amidst a rising drumbeat of tarriffs, no less!) and potentially threatening the jobs or marginal unskilled labourers is something else. Macro Man remains sceptical. And so, from his perch, if one has a "China tightening" itch that requires a good scratch, the equity trade is the implement that will do the best job.
Tuesday, January 12, 2010
Macro Man only has time for a quickie this morning, as he faces an hour's journey each way to get fitted for a sports knee brace. At long last, his torn-ACL nightmare is nearly behind him (knock on wood), as he has been cleared to resume sporting activities next month.
Macro Man had to laugh last night at the resumption of an activity of an altogether different sort. Alcoa released "earnings" last night, and while the headline figure registered a slight miss (1c/share vs. 6c/share expected), the company seemed quite happy to pimp the greater-than-expected topline revenue angle. Given that cost-cutting has been a (one might argue the) major driver of industrial earnings beats, the fact that AA missed despite beating revenue estimates by more than 10% might be a trifle worrying. Macro Man also couldn't help but notice that Aloca's true earnings (helpfully highlighted by a white arrow, since Bloomberg didn't see fit to grace 'em with a red headline stripe) showed a loss of 27c/share.
Hmmmm. Is it too early to declare victory on non-prediction number four already?
Elsewhere, China continues to garner plaudits for the radical monetary tightening by the PBOC. The central bank actually let 1 year T bill yields rise 8 bps today, to 1.8434%. Following on from the rise in 3 month yields earlier this week, pictured below, it does seem as if the tightening campaign is underway. Macro Man choked on his cornflakes, though, when he saw that a DB research piece was entitled "Another decisive move by the PBOC toards liquidity tightening."
Let's be clear. Moving bill yields by 4-8 bps when they are at least 8% below sequential real GDP growth is a lot of things....but decisive ain't one of 'em. Still, it's cued the usual frenzy to sell USD/CNY today. The market's pricing less than half a percent move in the next three months, so it's not a dreadful bet from a risk/reward perspective. Then again, in a country where an 8bp in one year yields is deemed "decisive", what would constitute a "modest" shift in the exchange rate regime? Would we need an electron microscope to observe it?
Monday, January 11, 2010
Perhaps it was always going to happen. After the hawkish drum beat of evidence for the prosecution going into Friday's payroll data, the employment figures were skewed well to the weak side of expectations. And while eurodollars gapped up and stayed up, the impact on other asset markets lasted, oh, at least forty-five minutes before "risk on, baby" re-asserted itself.
And if that wasn't enough, Macro Man's email box was peppered with sell-side missives over the weekend trumpeting China's excellent export data. Even his equity-manager chum was talking about Chinese exports on the train this morning. To be sure, the figures were impressive. Macro Man is always somewhat bemused by the focus on Chinese exports, given that these are a) at least partially driven by the country's mercantilist policies, and b) as such, at least partially represent the vulturing of market share away from other producers.
Far more interesting to Macro Man is China's import data, which was truly stunning; up 55% y/y, taking the nominal dollar amount to new highs.
Unsurprisingly, this has been taken well by other markets, with developed-markets equity indices (and futures) reaching post-2008 highs. In many ways, it feels as if there is no market advantage to weighting risks and considering expected values on sundry investments. CHINA RULZ, BEARS ARE FOOLZ is looking like a manifestly superior investment methodology for the time being.
In any event, whether it's "China rulz" or simply the ongoing abundance of liquidty available for certain types of investment, whatever is driving markets has spread its tentacles far and wide. Commodities have ripped higher; while oil could perhaps be explained by the cold weather gripping the entire Northern Hemisphere, gold has also made a Lazarus-like comeback after the $150/oz smackdown observed last December.
While Macro Man is sceptical that oil can extend another 30% or so and hang onto those gains, there would appear to be little to stand in the way of further upside in the nearer term. CL2 has sustained a break above its Q4 trendline, and aggregate open interest (shown in the lower half of the chart below) is at post-Lehman highs. New OI highs could be an obvious trigger to a further melt-up.
So what's a bear to do? Those of an ursine persuasion have morphed from terrifying creatures that can crush a
bank skull with one blow to cartoon caricatures who may think that they are "smarter than the average bear" but are undone by their own "cleverness."
One of the lessons that Macro Man has taken from last year is that trying to call the top in risk assets when the market is "in the mood" is little short of a fool's errand. Sure, it's fine to have doubts about the sustainability of "China Rulz" in light of the abject consumer credit data from Friday night (which is what the US economy ultimately needs, but is not necessarily bullish for the "we're in a sustained recovery" view), but there's no point hopping off the Risk Train until it starts peforming like Macro Man's 6.33 to London Bridge.
Perhaps earnings season (which kicks off tonight with Alcoa) will give stocks pause for thought. Then again, maybe not. Either way, as long as the market wants to play CHINA RULZ, it's a bit foolish to stand in the way.
Friday, January 08, 2010
Is Macro Man's non-predicition # 6 about to get thrown back in his face? The stars seem to be aligning for markets to seriously contemplate the timing of Fed rate hikes. Consider the evidence for the prosecution:
* Kansas City Fed president Thomas Hoenig (a noted hawk and a 2010 voter) said overnight that the Fed should move sooner rather than later on rates.
* St. Louis Fed president James Bullard (a hawk and 2010 voter) observed that housing is stabilizing, today's job report could show positive growth, and that the economy is strong enough to withstand some withdrawal of policy stimulus.
* Krishna Guha in the FT has an article suggesting that the Fed's own Taylor rule model suggests that the optimal policy rate turned positive in the middle of last year.
* The Federal Financial Institutions Examination Council issued an advisory yesterday on interest rate risk management. Perhaps this represents a warning shot on liquidity-gorged carry trades?
* Rumours of a seasonal-adjustment driven uber-print for today's payroll figures.
The confluence of these factors is curious, to say the least. Then again, so, too is the relatively muted reaction for fixed-income markets; US yields are still down on the week. Of course, while Hoenig and Bullard are hawks, they do have dovish counterparts on the board....most notably a certain "B. Bernanke", whose Great Depression scholarship will no doubt make him all too familiar with the 1937 comparisons that have arisen in recent days.
The implication that the Fed's own Taylor rule analysis is interesting, but hardly overwhelming; after all, it was just a few weeks ago that several FOMC members were arguing for more QE! That's hardly the behaviour of a group that is going to put rates up any time soon.
As for the rate advisory, it looks like it was lifted straight from a textbook. Reading the actual text, it's pretty clearly not intended for any sort of sophisticated institution; indeed, it looks like an addition to a guideline corpus that extends back nearly 15 years. So Macro Man is a bit loathe to itnerpret this as a "nudge, nudge, wink, wink" warning that rates are going up soon.
Finally, the employment data. While it may well prove positive, and that may perhaps result from s/a factors, it seems odd that none of the 76 professional forecasters surveyed by Bloomberg appear to have noticed the impact cited by Zerohedge; the highest forecast of that group is a "mere" +100k.
In any event, as cited yesterday, the spare capacity in the labour market is enormous; based on the U-6 data, the true level of unemployment in the US is over 26 million; that's more than the entier population of Australia or Saudi Arabia.
That looks like quite a bit of resource slack to Macro Man, especially for a central bank with an employment mandate. So in any ways, he hopes for a big print today that sends short-end yields screaming higher; it could well set up an entry point for the first big trade of the year.
Thursday, January 07, 2010
Macro Man is still snowed in, but on with the show....
6) The Fed will NOT hike the Fed funds target rate this year. While this view is shared by many, it is not a universal consensus (here's lookin' at you, Morgan Stanley!) and, more importantly, is not currently in the price. (FFZ0 prices effective funds at 0.89%.) The dovish tone of last night's minutes would appear to support this non-prediction, as would the recent slew of articles comparing 2010 to 1937.
Still, it's worth exploring the rationale for the non-prediction in a bit more detail. It's become evident from the conditionality of the FOMC statements that the committee is still operating with an output gap framework....with an emphasis on the slack in the labour market, given the dual mandate. The Fed's observed that the economy needs to add 150,000 jobs a month just to "stay still", as it were. And while payrolls may turn positive as soon as Friday, it will be some time (potentially years!) before job gains are sufficient to close the yawning chasm of the U-6 output gap.
More generally, Macro Man's simple Taylor rule proxy (comparing Fed funds with y/y nominal GDP growth) still shows that policy rates are too tight. Note that after the last couple of recessions, Fed funds had not only gone accommodative but been there for some time before rate hikes ensued.
And what of inflation? Well, expectations may tick up along with the oil price, though bear in mind that if oil gets too high, it will put the kibosh on growth. In any event, the FEd continues to focus on core, rather than headline inflation...and many forecasters are looking for core CPI to head top or below 1% during 2010. Hardly cause for alarm! And even if we do look at headline, there is a negative correlation between the Fed's "policy error" (i.e., the difference between Fed funds and nominal growth) and subsequent moves in inflation relative to trend.
Will the Fed adjust its library of special programs? Sure. Will they drain reserves at some point? Probably. Might they start selling securities? Possibly, though the minutes suggest that the risk is skewed in the other direction, at least for now. But will they hike rates this year? Nope.
7) There will NOT be a hung Parliament in the UK this year. This is another trendy political forecast which has a much greater likelihood of success that the Congressional one discussed on Tuesday. The outrageous gerrymandering of electoral districts by the current Labout government means that the Tories need to get 6% more votes than Labour simply to win the same number of seats.
Really, the quirky nature of the British voting system means that the outcome of the election has more to do with how many votes Labour loses than how many the Tories gain. THis forms the basis of the non-predicition, as Macro Man expects Labour to get absolutely shellacked, despite the growth of the public sector as an employer. Gordon Brown has lost so much credibility that there have been rumblings of a leadership challenge; more viscerally, things are now so bad in the UK that pensioners are now burning books to keep warm. Add in the fact that the Labour Party is essentially bankrupt, and will be heavily outspent by the Tories, and Macro Man expects Cameron & co. to sneak in with a modest majority.
8) The MOF/BOJ will NOT intervene in USD/JPY. This one makes a welcome reappearance to the list of non-predicitions. Since Macro Man scribbles down his list a few days ago, things have become a bit spicy on the yen front, as Fin Min Fujii ("laissez-faire-san") has stepped down and been replaced with Naoto Kan. The latter's policy seems to have shifted to "Can the yen weaken? Yes it Kan!"
From Macro Man's perch, the very fact that the authorities now seem to give a hoot about the level of the yen make it less likely that USD/JPY will slide into the abyss. Perhaps more importantly, interest rates (traditionally a strong driver of USD/JPY) are providing a very bullish signal. Last year's divergence between USD/JPY and rate differentials was caused by Fujii's policy of neglect vis a vis the yen; now that he's gone, Macro Man would expect that gap to close without prompting from the authorities.
9) US 2 year yields will NOT reach their 2009 lows. Those lows, reached in late November, just about tickled 60 bps. While those levels were reached only 5-6 weeks ago, the successful passage of the turn of the year and focus on moderately improved economic data should preclude a return to the low end of the yield range. Call the huge rally in 2's lat November during the Dubai crisis as 2009's version of the huge 2008 long-end squeeze. The move towardsthe issuance of more coupon securities and the winding down of QE security purchases will, in Macro Man's view, leave US fixed income trading within a range that is modestly higher than that observed in 2009 as markets inject more of a risk premium into government bonds in reaction to expected (eventual) rises in both inflation and interest rates.
10) The SPX will NOT close 2010 more than 20% away from 2009's closing price of 1115. Macro Man was called a "tail-seller" in the comment section of the first half of these non-predicitions, and this final one literally sells the tails of the index price distribution for 2010. Macro Man looks for some sort of automatic stabilizers to affect the equity markets this year. If prices rise too much, markets will assume that everything is hunky-dory and begin to price policy tightening, which should be enough to send equity prices back down. Conversely, if stocks tank, we'll hear more rumblings of an extension of QE, which should support stocks along the asme lines of the last nine months.
Looking at recent history, we can see this sort of dynamic at work. The SPX fell 23% in 2002, rose 26% in 2003.....but just 9% in 2004. The index fell 6% in 1990, rose 26% in 1991...but rallied just 4% in 1992. No, the analogues aren't perfect, but they're close enough. Macro Man looks for a year of choopy trade after the screaming trends of the past few years.
Wednesday, January 06, 2010
While Macro Man intended to unveil the second half of his 2010 non-predictions today, nature has conspired against him. A dozen hours of solid snow has left half a foot on the ground, leaving him stuck at home amidst the Surrey hills. (In fairness, the trains last night were buggered before it started snowing; good to see public transport employees looking ahead for once.)
In any event, he left his notes on the second half of the list on his desk last night, and rather than try and hurriedly reconstruct the list this morning, he figured that his time would be better spent scribbling down a few ideas on early-year trading.
There seem to be two predominant themes so fur this year: "everything goes up", and "low volume." Looking at the charts, we've seen the SPX move to new post-Lehman highs this week, but with volumes that remain well below those prevailing even in the first two weeks of December. While the SPY, pictured below, possibly exaggerates the phenomenon, the general profile is broadly similar for major Western stock markets.
Similarly, bonds have put in a decent bounce so far this year after the late December kiboshing. While it's true that volumes are nowhere near normal, they are at least a bit higher than when TYH0 took a shellacking late last month.
And while crude is gushing higher (up nearly 20% over the last few weeks), observe once again that it's come on much lower volume than was observed during the prior downswing.
Now, what does this mean? It could be that someone has chosen relatively illiquid conditions to bully the market. It could represent a lack of natural sellers in some markets. Or perhaps it just means that conviction to strap on risk is low ahead of Friday's potentially critical payroll data (critical in the sense that it could well register the first positive reading in what seems like forever.)
Or perhaps relatively low volume is simply a reflection of the fact Western asset markets are paling in significance (or at least opportunity) in relation to their EM counterparts. Anecdotally, Macro Man has heard much more interest in EM, particularly Asia, than in most bread-and-butter G10 markets. The chart of USD/INR, for example, gives a bit of a flavour for what folks are looking at. Charts of stuff like KRW look broadly similar.
While Macro Man has started the year fairly quietly, what few trades he has done thus far have been predominantly EM in nature. While getting the Fed right is still of paramount importance (and there will be opportunity to make big money trading a Fed view, in his opinion), chasing low-volume moves in G10 markets looks like a sucker's proposition.
Macro Man suspects that patience will be one of the keys to profitability in 2010, and he is attempting to exercise some in the early going as markets get off to a somewhat stuttering start.
Tuesday, January 05, 2010
Following on from yesterday's post marking his 2009 views to market, Macro Man is pleased to unveil the first half of his non-predictions for 2010. Regular readers will by now be familiar with the annual ritual, wherein he differs from the crowd by offering a set of "non-predicitions", identifying ten things that he feels won't happen. And so, with no further ado, on with the show:
1) Oil (defined as second WTI future) will NOT rise as much as it did in 2009. CL2 rallied $31.42 last year, the second-biggest dollar rise ever, and the second-largest percentage gain of at least the past two decades. This reflected a couple of factors that are unlikely to be repeated: an artificially low starting price last year, courtesy of the late-2008 liquidity-driven puke fest, and a massive shift in the delta of economic expectations over the course of the year (from staring into the abyss in January to celebrating the BRICs and contemplating positive payrolls by December.) Put another way, oil prices closed 2009 $31.42 higher than in 2008...despite the fact that Cushing inventories were actually slightly higher. A repeat performance in 2010 therefore seems highly unlikely.
2) G10 FX carry will NOT repeat 2009's stellar performance. The simple "up three, down three" FX carry basket (wherein you go long the three highest yielders in the G10 and go short the three lowest yielders) rallied nearly 28% last year, exceeding the returns on the SPX and retracing virtually all of 2008's losses. This was partially a function of similar drivers to those cited above for the oil rally (particularly the delta of economic expectation), but also of dollar weakness, courtesy of QE and the Fed's promise to not rock the boat in '09. Now, we're left with a situation where the delta of expectation and of monetary policy are more uncertain, and some of the high-yielders look pretty expensive (we're lookin' at you, NZD.) While a passive carry basket may well generate a positive P/L in 2010, returns pushing 30% and a 1.65 ain't gonna happen.
3) The Democrats will NOT lose control of either house of Congress. It's become quite trendy to postulate on the mid-term elections and a potential 1994-style collapse of the Democratic majority. Macro Man sees three problems with that thesis. First, the Republican revolution of 1994 occurred after a lengthy period of Democratic Congressional rule. By 1994, it had been a decade since the GOP controlled the Senate and 48 years since they'd enjoyed a majority in the House. This time around, it's been a scant 4 years since the GOP ceded control. Second, it's the economy, stupid. The first half of the year should see a return to job growth and further impact from last year's stimulus package. At least superficially, therefore, the economic news should get a lot better. Finally, it's not like the Republicans are offering a lot, either. The fact that Sarah Palin is still knocking about is evidence of the dearth of quality in the GOP "brain" trust, and it doesn't seem unreasonable to expect the electorate to recall why they voted the Republicans out of Congress in the first place.
4) True S&P 500 earnings will NOT reach the published consensus forecast level. According to Macro Man's i/B/E/S spreadsheet, the consensus earnings forecast for 2010 is $77 a share. While 2009 isn't in the bag yet (after all, we've got earnings season around the corner), a total of $55-$60 is likely for the headline earnings figure. The problem, of course, is that the headline figure is a work of fantasy worthy of Tolkien. The chart below shows trailing 12m earnings data on a headline basis, as well as the true earnings figures once all the "one off" turds are added back in. While Macro Man is happy to believe that the amount of turds will be lower in 2010 that it has been over the past 18 months, he wasn't born yesterday- comapanies will still
massage their figures lie to pimp and pump their share prices. Sorry, Macro Man isn't buying it. While he's currently small long equities, he believes that at some point, the small print will matter once again.
5) China will NOT meaningfully adjust its exchange rate mechanism in H1. By this, Macro Man means that there will be no step reval, and that the peg at or around 6.8250 will remain intact. He was tempted to indulge in a spot of reverse psychology and forecast no move at all this year (there's a decent chance of that), but he's settled for just non-predicting the first half. What will spur a Chinese exchange rate move? Macro Man is looking at domestic inflation conditions, but also at two external factors. The argument could be made that the authorities will do nothing on the RMB until exports exceed their 2008 peak (they're currently more than $20 billion below, on a monthly basis). Given the exorbitant Chinese whingeing about the US policy mix, Macro Man can also construct a scenario wherein PBOC doesn't let the RMB move until the US starts tightening policy.
Of course, common sense would dicatate that the appropriate response to "why should we tighten until you do?" is "grow a pair! Your nominal GDP growth is 12% higher than ours!" Sadly, however, common sense has little role to play in discussing the likely policy response of the world's great mercantilist power.
So there you have it: the first half of this year's non-predicitions. Tune in tomorrow for the second five.