Wednesday, February 09, 2011

Titration of a Bullish Solution

We kicked off today thinking we had scored our first goal in the TMM 2011 non-predictions with Darth Weber NOT getting Trichet's post at the ECB. But it appears that the decision has gone to the 3rd umpire. We are praying for a goal and, by the time you read this, it will most probably have been announced, one way or another, whether he is not joining the ECB, not joining a large European Bank or not joining a Hedge fund. Or is.

The markets are a mixed bag and we continue to feel that there is a drip function of news around that may well end up turning sentiment generally negative. In fact, let's look at it as a schoolboy chemistry experiment

Titration of a bullish solution with negative news

Make up a solution of Bullishness

3g Bullish equity sentiment
5g US growth
2g of European Silence
6g of cheapness of EM equities to local fx bonds
10g of Trends
2g of Dovish Ben
7g of QE liquidity
in 1 litre of Kerosene

Make up a titrating solution (titrant) of bad news and fill a burette

5g of Egypt
1g of the Wikileaks story about the US government questioning whether Saudi oil reserves are for real
8g of China liquidity tightening
6g of Bond Yields
3g of P/E ratios
7g of threats of protected agricultural prices
2g Hawkish Ben
10g of General Surprises
in 300ml of Toluene

Clamp the burette over the flask and slowly drip the titrant into the flask until a cloudy precipitant of worry appears in the golden solution. This is known as the Doubt Point. Continued titration of the solution will see the cloud darken as the worry increases. Fumes will start to appear as the solution approaches its tipping point when it will instantaneously transform to a solution of pure bearishness. Which is green. This is known as the "What the F Just happened to my P+L" Point.

Your call as to where we are in the process. But we are really worried that instead of gold we end up with "pure green".


Right Field said...

Current Profile Argues Hedging Exercise About to Begin ---- Professional’s went home yesterday with elevated expectations of an Asia risk-on profile, that clearly did not materialize. In my view, too many believe inflation expectations are discounted in price and very few are willing to accept the future impact on growth, read oversold prices are leading consensus to believe Central Banks are in control which is misguided. Korea, like China, has this week’s rate tightening priced in but the question is not action this week, it is on the forward basis. Point being, the Chinese Secretary General last night said more tightening measures should be expected in February.

Conclusion: Bernanke speaks today at 10:00 in front of Congress, no one believes that he will reverse his stance in asking investors to buy US Equities (sell risk-free assets). In my view, how he addresses the recent 9% unemployment rate matters more today for risk assets with respect to whether Treasuries are sold again. Point being, too many believe that higher yields are a green light for higher Equity prices but the fact that USD/JPY has not weakened post a seven day and 10-sigma move in UST 2-yr yields reflects the fact that risk-appetite is being hurt by higher yields and suggests to me that asset prices need to adjust lower. Stated another way, no one is covering USD dollar shorts on higher US yields and exchanging it with JPY as the carry trade. Again, two days of well below average volume highlights the apathy by investors to buy risk at these levels. The sellers strike is of higher probability of ending or at the very least, volatility levels argue a broader hedging profile in US Equities is about to begin.

Leftback said...

"no one is covering USD dollar shorts on higher US yields and exchanging it with JPY as the carry trade."

Well stated. This will only occur after the next phase, which seems certain to involve a repricing of risk in emerging markets and commodities linked to Asian growth.

Polemic - I bet you were a terror in the O-Level Chemistry lab. We look forward to the Henderson-Hasselbalch equation being applied to the capital markets. Actually, I like the analogy, I think that's what we do in our heads every day, titrate risks.

notayesmanseconomics said...

As to the markets it often takes equity markets a long time to respond to rising government bond yields. The first impression is usually to assume that they reflect good news then some time later they are affected by the thought that it will cost more to borrow...

I am sure the German establishment knows where Mr.Weber is going.When I worked for one of their main banks I told the man second in charge of their trading book that the German Finance Minister was going to make a big statement today. Oh no he isn't he replied. My wife looked out of the window and saw him cutting his grass!

Leftback said...

Submerging markups... The short EM trade is certainly delivering for us today. Could it be that HF piranhas are clustering around the prey as blood begins to drip into the water? The EEM chart is looking ugly.

Right Field said...

Too many are only looking at their long SPX or SX5E index positions. EM corrections due to inflation historically morph into a growth scare and the rotation of money flow to DM from EM or Large from Small Cap cannot be a
straight-through-process where risk assets never react negatively. Especially when you have a 10 sigma move in UST 2yrs....there is a reason equity vol, skew and correlation are inviting you to hedge for the moment during this transfer of money flow....

Anonymous said...

maybe bond yields are just in the process (most of it done) to reprice to a natural equilibrium level ... stop looking at core PCE ... all the rest counts too and no reason why equity should sell off because bond prices are more fairly valued. now equity prices should go down for a host of other long term reasons but that's another discussion.

Anonymous said...

Short AUD$/US$ for EM to DM ?

Anonymous said...

EURUSD threatening an outside reversal day. With an Italian as the front-runner perhaps we're feeling trepidations about ECB -> QECB.