Repelling Hannibal

Friday, July 08, 2011

Yesterday, TMM ventured forth into the world of BTPs on a macro argument. Today the world has decided that TMM's position has a similarly unfortunate target-shaped birthmark to Gary Larson's deer in his cartoon "Bummer of a Birthmark Hal". We are beginning to hate this week. As you know, we really really really think that Europe is in a mess, but, and here's the big BUT, we don't see it falling just on a market whim.

The massed market armies have been on a crusade against Greece for the past 3 months and had reached the gates of Athens when they were repulsed by the Greek vote and the Euro package (however dodgy). But this has left the screaming attack mob somewhat frustrated and desperate for blood, so they appear to have instead turned their attention to snooping out and attacking anything vaguely euro-weak. TMM's IB chats and mail boxes are full of Euro negatives, many recycled old themes that are being dug up and recycled, but today's favourite lynch victim is Italy. The speculative hoards are crossing the Alps Hannibal-esque in order to give the Latins a good kicking. But like any good army General leading a campaign we need to keep our troops under control for an organised assault and pick when and where we wish to fight our battles. For TMM the battle for Italy is being engaged too soon against a well organised defence and so we are calling for a retreat.

First, for overlying strategy TMM believe that for Italy to get into real trouble EVERYTHING has to go wrong, whereas for Spain NOT to get into trouble EVERYTHING has to go right... So Spain before Italy PLEASE.

Now, let's look at what Italy has lined against the baying hoards:

  1. The A-Team is focused on the firewall between Spain and Portugal/Ireland/Greece. And Spain is ahead of the queue from Italy so they definitely won't let Italy go.
  2. The Risk premium priced into Italy is now enormous relative to a macro model ...fair value is 120bps over, currently 240bps. At just 36bps below Spain, that's just rubbish.
  3. People getting all worried about domestics not turning up to buy... they have no choice, they will turn up.
  4. Italy runs a current account of only just above 3% and did not do fiscal stimulus in the recession. The starting base is better.
  5. Today's IP number implies +1.7% qoq in Q2, or an annualised 7% print which is quite strong. People seem getting all beared up on the recent economic data, but it's just shockwaves from the Japan IP drop.
  6. Open Interest in BTP futures has increased 14% over the past 3days, with today's shenanigans likely to post a further 5% increase ... Tourist Traders (i.e. - non-experts that are bussed in for the mugging) have put on sizable shorts.
  7. Looking at articles from the Economist re: Tremonti results in a biased view given their public vendetta against Berletchsconi and Co.
  8. BTPs yielding 5.3% vs. the ECB refinancing rate at 1.5% will have carry monkeys scratching their brows and thinking "hold on, I can make 11.4% leveraged 3x".
  9. And finally, readers will recall TMM's attempt to price DEM/ITL NAdd ImageDFs with their creation of the END Market. TMM thought it was time for an update, and the 5yr synthetic NDF is implying DEM/ITL at 1000.49 (see chart below), which is -1.06% depreciation. Now, according to TMM's REER models, the Italian Lira is only around 12% overvalued, but accept that under a Euro break up DEM/ITL probably moves 20%. So that implies around a 5.3% (=1.06/20) probability of Italy leaving the Euro. That seems ludicrously too high to TMM. All back of the envelope stuff, but you get the idea.

So come on guys, leave Italy alone. We'll come back and revisit it if Spain goes.

Posted by Polemic at 11:34 AM  


Well, besides that the marginal returns (all mean reversion generated) from investments in noise re Spain have diminished considerably over the last several months, one has to think of political risk in Italy. No Berlusconi, no stable government?

Of course, the Liga Norte might agree to an economic program on the condition that Sicily and Naples be returned to the Bourbons.

Charles Butler said...
12:29 PM  

If they want to attack the Euro, they can't afford to waste time with Spain. Everyone knows the only chance would be through Italy: the shorts were having quite a bad time with the normalization going on, this is the last push.
Italy's been through much much worse times, been there done that. And got a lousy t-shirt.

Anonymous said...
1:18 PM  

I got burned on this too. Stopped out. At some point soon we will find out that either 1) it is a good buy or 2) there is something we didn't know about that insiders are trading on.

1:21 PM  

I'm far from Italy, so this is more a question than statement of fact, but isn't the level of political corruption in Italy orders of magnitude worse than countries like Spain or Ireland? If the rule of law is more pliable in Italy, then this opens up the possibility of all kinds of nefarious activity that (a) has the potential to wreck the country; and (b) would lie below the radar and wouldn't be apparent to an external observer. Here are a few examples: special deals cut for banks re regulation and capital adequacy; hidden government debts at the local, provincial and federal levels; use of derivatives/complex financing arrangements to conceal aggregate debt levels; outright fraudulent government reporting of both economic numbers and fiscal status; etc. etc. The point is that if the ruling party/elite is known to be dishonest, then how can anyone have any faith that they even understand the facts of the situation in the first place? My belief is that once Berlusconi loses control and is forced to flee, there is going to be an endless succession of skeltons being pulled out of the closets.

PPM said...
1:53 PM  

TMM, it's Lucy Strikes Again.

Are you blokes familiar with our comic strip over here, called Peanuts? There is this chap called Charlie Brown (bullish investors), and he is ready to kick the football (US employment data) using a lot of leverage, encouraged by Lucy (ADP) but at the last minute she snatches the ball away (NFP misses estimates) and he falls on his arse (market drops precipitously). It never fails to amuse....

US Investors Faked Out By ADP Report

Leftback said...
3:00 PM  

Good analysis MM.

A question, I do not undertand GBPUSD. I figured that NFP would suck so I cleared my long GBP BEFORE NFP. Now NFP indeed sucks but GBP spikes to 1.6070...any insight about this movement? Is it the expectation on QE3? what do you hear? scraching my head on this one. thanks.

Anonymous said...
3:27 PM  

Revealing, isn't it, that the prior argument that Italy was safe because its debt was held domestically is now being turned on its head?

Couple of charts below might indicate what Spanish debt speculators have been up against - foreigners who just keep coming to the trough.

Charles Butler said...
3:51 PM  

Good one LB.. yes lucy not only moved the balls but kicked the prostrate kicker in the gnadgers for good measure too.

PMM Re italy. Maybe so but we can only trade on what we know and some of the figs such as current ac cant lie. If we were to trade on lying deviousness potential then I could list a load of emerging countries that are doing well that should go first..

As for gbp.. world hating eur and trying to like usd, just had a leg of the usd stool kicked out... gbp a winner by default as somewhere quiet and unnoticed to park in the storm (like nzd). Add on a cart load of gbp shorts piled on recently and resulting stoplossfest and u end up with a normal fridayfkfest in fx. I quite like gbp actually.

Polemic said...
4:04 PM  

There were plenty of buy orders scattered around 1.5930 this morning, likely in defense of a 1.59 barrier. In which case there might have been a biiig cuddly panda squatting there - and eur/gbp has been getting it in the neck all day as it is. Reckon he sold around the top earlier, having loaded up with some more ammo for the next defense.

I like cable too, more often than not though I'm happier as a short little bear.

ntwsc said...
4:40 PM  

No real indication that the UK's wonderful coalition government has any intention of doing anything at all about its economy worth noting as long as The City is happy, so why not like Betty, with the US so obviously floundering again? Also, if you think about the ongoing capital flight from the Irish banks, where do you think it is going to go?

Leftback said...
4:50 PM  

Thanks Polemic and ntwsc,

I like GBP too, that is why I longed it in the first place. But I reasoned since NFP would suck then GBPUSD would drop as usual, why I should stand in front of a coming train. I had planned to reload GBP after the expected drop due to NFP. Imagine my jaw drop to the floor...

Anonymous said...
4:55 PM  

this could be transient and related to the latest fiscal package that's been announced (but not yet implemented)

under the new package equity&bondholders that do not use a pension fund (say, the vast majority of elders) would see some accessory tax go up 600% or so. I would expect some selling before the measures are implemented.

also, there's talk of raising capital gains taxes, and with 50% of bondholders being domestic you can imagine what the effect has been.

Autore del blog said...
5:08 PM  

This was absolutey the worst jobs report in a long time. Be brave, now is your chance to buy everything not nailed down before Jackson Hole next month.

Anonymous said...
5:18 PM  

Polemic "PMM Re italy. Maybe so but we can only trade on what we know..." I think his point is that we dont know which facts we think we know are true. The Economist has an old article called "The Greatest Trade Ever" The trade was italy joining the Euro.

TulsaGuy said...
5:44 PM  

Folks I'm hearing from Asian sales people in Asian time about why to be short BTP - this is going to be as brutal as the EURCHF squeeze a week ago judging by the DPI and TDI indices - we're talking HK cabbies at this point.

I'm still in the "Italy - structurally more fucked than the numbers look" camp but this is ridiculous. Some cheeky longs here of a v short term nature would make sense.

Nemo Incognito said...
6:35 PM  

Yeah Tulsa guy and PMM very fair point.

Its just getting painful not even trusting what we are meant to trust. Suppose it comes back to our core belief we often rant about "do your own research" but we get caught out because short of scurrying around checking every hidey-hole you can never be certain, which is of course, you will rightly argue , exactly why everyone is selling ! Perhaps my point should be why the hell did anyone buy this sht in the first place if we have known for eons that the place is as bent as a nine bob note. Why only start protesting about that fact right now - because the Letch's departure is going to make the obvious more obvious and we didn't mind the yield until the time we knew the lid was about to come off? ( Cf journo's tape people exposé yet i bought the paper )

.. oh i dunno .. But me ol mucker nemo put the "Its gone Tabloid" argument well with TDI and DPI measures being picked up via his HK cabbies.

Polemic said...
7:11 PM  

Polemic, it's been a long week. Surely time to head to the local pub or drink Chelsea dry?

Cheers. There will be more nonsense on Monday....

Leftback said...
8:56 PM  

Early night for me LB. Dozing off whilst reading a good book in the knowledge the alarm won't be going off tomorrow morning .. bliss.

Polemic said...
9:04 PM  

And what about that "decoupling" thing TMM coocked up in a haste yesterday? is that still on? After a week seeing the years' return wiped out and a further 36 hrs of prevaricating "I do I don't" a-la anglaise, you served the goldman O'neil specialite, only to remove the dish sheepishly by diversion of an italian diversion? Come on folks, have some english backbone :)

Anonymous said...
11:33 PM  

Hannibal was one of the greatest generals ever, not like the clowns we have running things the world over.

1:47 AM  

As a fellow Englishman (and I make correct usage of the term) I strongly refute the reference to prevarication.
If as I suspect Anonymous meant to accuse Pol of procrastination, I should refute that too, as I haven't inferred any intentional delay from his musings.
Dithering, however, is a signature dish best served with custard.

Dunno about Hannibal though ... Asterix has always been my hero.

ntwsc said...
11:24 AM  

Cor I feel a damn site better for 12 hrs of blissful slumber...

Thanks NTWSC for your support but he may have a point but yet also have missed the point. His point that we have been dithering waiting for resolution is correct. The point he may be missing is that dithering can save live. As Bow Wow Wow sang--

Much as we'd love to know whats going to happen next we can go "errrr" as much as the next man.

As for the decoupling thing. Friday didn't really give any reason to think that isn't the case. Italy got hit, there was a euro wobble, meanwhile asia was bid and the US didn't really respond until its own home grown set of jobs data nailed it. All working independently.

Jim O'Neil gets paid cart loads for his dishes. Just consider us as a financial Soup Kitchen by comparison.

Lovely day here - back to the garden work ..

Polemic said...
3:54 PM  

Betty just playing games lads.

Ambo said...
5:29 PM  

Please sir, can I have some more zuppa di pomodoro?

ntwsc said...
7:02 PM  

Post a Comment