Beyond my control?

T-minus one day and counting.  Macro Man was intrigued to see bond markets come under the cosh yesterday ahead of the Fed.  Sure, retail sales were solid and the SPX rallied, though neither were particularly outstanding in their magnitude.  UK CPI, meanwhile, came out in line with expectations; given that those were for a headline print of zero, it's hard to pin global bond weakness on that.  Late betting on the Fed?  Perhaps, though no one bothered to tell the short end; October Fed funds futures were unched on the day.


Nevertheless, there were tens and especially bunds coming under pretty significant pressure; one can almost imagine Goldfinger intoning "Nein, Herr Bund, Ich erwarte, dass du sterben!"

Of course, some of this weakness has merely retraced the bond market's appreciation during the volatility of the last several weeks.  As such, it's probably best characterized as more of a "normalization" than anything else.  That being said, Bunds will encounter support at 152.75-153.00.  Should that shelf fail, then there's little but fresh air between there and 150.  At that point, a new narrative ("Blame it on the Fed!") will likely be in place.

Speaking of blaming it on the Fed,  Macro Man wanted to follow up on last Friday's post, specifically regarding the pressure faced by EM countries and their currencies/asset markets.  It seems as if a few have adopted a "woe is me" attitude or, to be more charitable, have merely quoted the Viscomte de Valmont from Dangerous Liaisons:  "It's beyond my control."

If this were true, then we'd expect to see little differentiation amongst EM countries of a similar stripe.   Certainly that's what we observed during the taper tantrum of 2013; the currencies of Brazil, India, and Turkey all pretty much went to hell in a handbasket.

Woe is me indeed.  But a funny thing happened on the way to oblivion; India appointed a highly credible central bank governor (Raghuram Rajan) and elected a reform-minded government (Narenda Modi's BJP.)  While one can certainly quibble with the degree to which reforms have been enacted (GST, anyone?), at the very least the intention to do the right thing appears to be there.

And so, as markets have veered between complacency and panic over the past couple of years, India has stood out as an oasis of relative stability.  Indeed, its nominal effective exchange rate has actually appreciated since the beginning of 2014, while those of Brazil and Turkey have been crushed- particularly this year.

And so rather than trying to shoulder the burden arising misguided policies and mis-allocated capital in emerging markets, at the next G20 meeting perhaps Janet Yellen can respond to her critics with a simple piece of advice: physician, heal thyself!


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Dr Finans
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September 16, 2015 at 7:51 AM ×

What does the last Graph say?

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Leftback
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September 16, 2015 at 8:47 AM ×

The last graph is the 2015 analog of the one above for 2013, I believe.

LB is on Merseyside. It is a bit chilly around the nether regions up here, especially after Spain.

The largely hammock-based investors formerly known as Falling Knife Capital LLC reviewed the investment landscape this week in the run-up to the FOMC meeting and decided to adopt the old adage: "Don't be a tool and try to trade the Fed. Trade the reaction to the Fed". [Actually, we added the tool part], and so we will follow our own advice.

We still like melt-up scenarios better than melt-down ones in equities. Long-dated Treasurys have had so much time to contemplate a 25 bp move that very little may happen either way. FX movements are the key to where we are headed next. There are going to be some good opportunities before the end of the year, and we are happy to wait for those to come along.




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Nico G
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September 16, 2015 at 9:17 AM ×

or rather, trade the reaction to the reaction to the Fed

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Anonymous
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September 16, 2015 at 11:34 AM ×

No economic reforms in India soon.

Land bill cancelled,GST,labour reform bills stalled..

http://article.wn.com/view/2015/09/03/Millions_strike_in_India_over_antilabour_reforms_9/

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Anonymous
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September 16, 2015 at 11:42 AM ×

India's strategic importance to the U.S...ally to stand up to China and Jihadis in the area.

Me thinks this is the only reason why INR is not in a hell hole!

http://belfercenter.ksg.harvard.edu/publication/21712/indias_strategic_importance_to_the_us.html

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washedup
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September 16, 2015 at 12:45 PM ×

MM - from a monetary policy standpoint, India's problem has traditionally been inflation (leaving out corrupt politicians and crony capitalists, but enough about the US) which has hampered a pace of growth anywhere close to its demographic potential.

The new PM and RBI governor certainly haven't hurt - some even likened the pair to the Reagan-Volcker combination in the early 80's - in reality however, the reason for India's outperformance in the last 2 years or so is simply that it got lucky with the commodity crash - its a major net importer with a relatively closed economy and decent demographic potential and the only big country which can legitimately be expected to grow at 7% for the next decade now that China is viewed with about the same opinion as one would reserve for a persistent hemorrhoid. Add a relatively underdeveloped consumer finance sector especially in rural India and low internet penetration considering the massive pent up demand for it, and you have the makings of a narrative for the next 10-15 years.

That said, I am skeptical that Indian equities would be able to buck any large trends in DM stocks, so best to bide time and wait for better bargains in the next 12-18 months, but there could be generational opportunities there soon.

Perhaps Nico can visit there and report back on the state of their, ahem, real estate to us so we can make intelligent decisions.

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Skippy
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September 16, 2015 at 1:12 PM ×

Washed, Turkey is also a large net importer of commodities (all of their energy) and the Lira has still been taken out to the woodshed and correlated to Brazil as MM pointed out.

To be fair, Turkey has a larger external deficit and a rather large FX mismatch in the unlisted corporate sector compared to India. That said, the outperformance of India relative to Turkey could plausibly be explained by more credible policy.

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Skippy
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September 16, 2015 at 1:22 PM ×

An interesting point on India's corporate sector and a potential risk is that the consensus belief or 'hope' is that capital spending would lead the revival in growth in India.

However, it is not obvious that the corporate sector is under levered or that capex-to-sales is too low. Debt to operating cash flow is over 8 times for the non financial corporate sector. That is, it would take more than eight years to repay debt out of operating cash flow if capex was taken to zero. At the same time free cash flow barely exceeds operating cash flow for the corporate sector in aggregate. Moreover, the market trades at more than 16 times forward earnings.

To be fair, the relatively weak investment to GDP can be explained by the public sector allocation of resources that the government is attempting to address.

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Polemic
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September 16, 2015 at 1:32 PM ×

Re DM bond market falls - No one suggested it could be due to Asian reserve selling? I thought everything was due to China slowdown.

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Nico G
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September 16, 2015 at 1:43 PM ×

duuuuude i wrote twice that China would sell jumbo loads of UST together with seeing their yuan down a great FX play for every EM country whose currency got nuked this year

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washedup
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September 16, 2015 at 1:44 PM ×

skippy yes absolutely correct - I don't think indian equities are currently cheap by any measure, just that when they do become cheap (say 11-12 X) they may offer much better long term returns than DM equities provided the structural trends stay intact.

Pol I think there is some sentiment now that there will be a steady sell pressure on UST by the Saudis and China due to reserve liquidations, so the market may be trying to get ahead of that - to state the obvious, its impact on yields will be a function of how badly the buyers want what the sellers are offering - clearly they didn't want it too badly in the last 2 days!

The more interesting question is how the long end would be impacted by a hawkish hold or dovish hike - I know popular wisdom suggests steepening and flattening respectively, but I think some interesting wildcards could be in the offing - I for one think a bear steepener is being ascribed too small a probability by this market.

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Macro Man
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September 16, 2015 at 1:50 PM ×

Skippy, thanks, you beat me to the punch re: Turkey and commodities. That's exactly the point I was going to make.

Pol: Yeah, maybe that's it...as good an explanation as any other, I guess. It's like the old game of FX bingo, but in reverse!

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Anonymous
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September 16, 2015 at 3:58 PM ×

Comparing Turkey with India, Turkey is near the war zone and its trading partners in Middle East are either war zones or suffered badly from the oil price crash. India, on the other hand, is much safer. Pakistan is on defense. The public infrastructure deficit is so huge that any improvement is a big positive.

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abee crombie
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September 16, 2015 at 5:22 PM ×

funny things about the EM FX.... one would supposed that USD FX reserves for all the bad ones, like Brazil, Indonesia, Turkey, South Afria etc (commodity exporting mainly) would be getting killed, but in fact they arent. Russia, yes, but most of the others are still pretty steady at 2011 levels and often double the levels in 2008. I'm not saying they wont go down in the future, but when your currency depreciates 50% over 18 months, that usually tends to restrict imports quite a bit...

Which is exactly what is happening in the financial markets. Commodity exporters are getting killed (and turkey, why not) which is straining their imports from mostly asian exporters. Hence the slowing global trade figures. This is a reflexive process, so where the end game is, who knows....

As long as the Spoos hold up, they should drag up credit spreads and help EM's recover. But if risk goes back up, watch out

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wcw
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September 16, 2015 at 6:13 PM ×

Goldfinger never would have duzed Bond: 'Nein, Mr. Bond. Ich erwarte von Ihnen, dass Sie sterben!' If you must use Du, then 'ich erwarte von Dir, dass Du stirbst!'

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Anonymous
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September 16, 2015 at 6:17 PM ×

Anonymous said...
Stocks are already rallying on back of BOJ yen selling...
There will be a HUGE melt-up in equities when the Fed postpones it's rate hike on Thurs.
Watch these foolish shorts lose their shirts...
September 15, 2015 at 3:50 PM


It is as I foretold - with the Dow now up +400 points. I trust the shorts are enjoying their margin calls...

http://www.zerohedge.com/news/2015-09-16/dow-400-points-monday-lows-bad-news-good-news-rally-extends

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Polemic
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September 16, 2015 at 6:22 PM ×

any short that can't withstand a 400 point dow move in these markets is nothing more than a day trader.

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Polemic
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September 16, 2015 at 6:23 PM ×

We are at crucial tech levels in SPX, I could list all sort of mumbo jumbo but easier just to say that the close today will be a big tell.
My full thoughts on the other blog http://polemics-pains.blogspot.co.uk/2015/09/admiring-landscape.html

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Nico G
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September 16, 2015 at 6:41 PM ×

the grind up into FOMC is a classical pattern - it offers a formidable short opportunity tomorrow 1/2 before announcement 1/2 after

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Nico G
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September 16, 2015 at 6:42 PM ×

to boot extreme weakness in DAX is duly noted

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September 16, 2015 at 9:34 PM ×

Well said Nico...fed is noise at this point

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Mr. T
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September 16, 2015 at 9:36 PM ×

Nico's had a good set of punts, but I think its crazy to get short before FOMC. Probably the one thing we can count on is low liquidity around the announcement. The fed has gone out of there way for the last 1/2 decade to stress the importance of happy markets. Noone wants to spook anything, hell noone really wants to tighten in an absolute sense - its all just relative to "emergency conditions" or whatever they are calling it now. In short, this seems like another round of FOMC cheerleading into a particularly low liquidity market.

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Polemic
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September 16, 2015 at 9:45 PM ×

Anyone got any el nino trades on?

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Nick
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September 16, 2015 at 10:40 PM ×

Oil share in soybean crush: long soybean oil, short soybean meal. There is a number of other considerations in this trade beyond El Nino, but for now El Nino effect on precipitation in Indonesia and Malaysia is the immediate driver. less precipitation in SE Asia leads to less palm oil (with the delay of 5/6, 12 and 24 months). Palm is the major vegetable oil and is overflowing the market, if and this is the big if El Nino turns out as strong as 97/98 event, palm stocks have potential to decrease significantly over the next 2 years. Also crude strength is helping by giving some hope for discretionary biodiesel blending and by upsetting the shorts who were very comfortable with the benning ENSO effects over the summer. High palm will in time lead to higher soyoil. Soyoil has not reacted so far (could think if a few explanations), while Palm is 15% off the lows over the past 2 weeks. Soymeal on the other hand is overvalued relative to corn and feed wheat as well as to meat and polutry prices and balances. + there are a few other factors going for soyoil (epa rfs with a link to crude export ban lifting for example) but they all will take longer to materialise.
That is an El Nino trade from me (mentioned it just before crude liftoff, but so far performance was disappointing to say the least). The other big one will be La Nina, but that is for next year.

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Polemic
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September 16, 2015 at 10:49 PM ×

Brilliant thanks Nick

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Nick
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September 16, 2015 at 11:43 PM ×

One thing to keep in mind about Nino is that it is strong but what's important are the local effects, so regional weather has to be closely monitored as the imact varies significantly from even to event (they are just not frqent enough to make any consistent conclusions and weather is tough to predict with any certainty outside of 2 weeks horizont, just not enough computing power for now).

As for oil, is GS just talking the book, the loan one (reset the covenants, get more collateral, reset the rates)? All the calls of over 50% probability of 20 USD in the near future from the head of commodities research.

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Anonymous
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September 16, 2015 at 11:47 PM ×

Anon 6:17 no one is surprised by this move up. Short term, this expiry is more important than fomc.

Nico - dax was interesting. Drinks & energy lifted ftse and dragged cac & esx. Dax no interest. Could see reversal when no ones looking tomorrow. 10500 op ex target.

I would love it if they hiked.

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washedup
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September 17, 2015 at 12:48 AM ×

Yes the goldman oil call was awesome - they dusted off the old forecast from June 2008 where they said it was going to $200, inserted opposites to every adjective used back then to describe fundamentals, and then lopped off a zero in the forecast.

Pol on the nino question - I'm skeptical of trading large teleconnections - I've seen plenty of exceptions to macro weather calls for an entire season to bet any real money on that kind of stuff - that said, ENSO is definitely the strongest one out there in terms of actual predictiveness, so slightly better than 50/50 instead of right at! For what its worth US winters are mild in nino winters, so its bearish natural gas all else being equal.

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Energetic
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September 17, 2015 at 10:39 AM ×

@ Polemic:
Classic El Nino trade: Long Newcastle Coal (Australian coal), if El Nino comes in strength a lot of floodings in Australia's coal mining region will happen (most mines are open cast operations)

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