China...playing silly buggers, or defense?

Somewhat lost in the glow of the feel-good vibe that has grasped the body politic on both sides of the Atlantic over the last few days has been the re-emergence of China from its annual October golden week holiday on Monday.  Well, while it's been lost to a degree, certain FX punters have clearly noticed, as USD/CNH has broken up out of a peach of a pennant formation that targets over 7.00.


At the same time, USD/CNY has fixed over 6.70 for the first time in six  years.  It seems only natural to ask, therefore, whether China is pulling a fast one while the West is distracted by the political circus in the US and UK.  The answer appears to be "no."

To be sure, the RMB has weakened against the dollar and looks set to weaken further.   So, too, have other currencies, however.   Indeed, the "weak" fix on Sunday evening actually represented a strengthening of the CNY against its CFETS basket.    As you can see, a chart of the CFETS index suggests that policy may have shifted a few weeks ago towards a more stable RMB from a steady depreciaiton.


Now, the G20 may have had something to do with it, but that's come and gone.   On prior form, the PBOC would have got to work weakening the RMB as soon as the foreign heads of state were airborne out of China.  Then again, given that China has become an occasional flashpoint in the US elections, perhaps they just don't want to rock the boat too much until November 9th.

Anyhow, perhaps it's a coincidence, but CFETS released a (apparently Chinese-only) statement yesterday reiterating that the RMB would be "basically stable" in the medium to long term and that there was "no basis" for long-term depreciation.  That there is apparently no English version of the statement is curious, and obviously suggests that it was intended for internal consumption.  An obvious rationale would be to discourage the type of capital flight that pressured the currency in late 2015-early 2016, leading to a significant drawdown in reserves.

So while there can of course be further upside pressure in USD/CNH, for the next several weeks at least Macro Man would be surprised if it went unchallenged, either through PBOC dollar selling or via a money market squeeze.  (Even in normal conditions, it's difficult for retail investors to short the CNH; Interactive Brokers charges 6.5% to fund a short CNH position while paying zilch if you are long.)

While the pressure for an upside release clearly remains, from Macro Man's perch for the next few weeks the Chinese authorities are much more likely to play defense than silly buggers with the currency. 



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Anonymous
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October 11, 2016 at 8:18 AM ×

"Even in normal conditions, it's difficult for retail investors to short the CNH; Interactive Brokers charges 6.5% to fund a short CNH position while paying zilch if you are long."

That's what currency futures are for - you get the same (implied) interest rate whether you are long or short. IB has outrageous margins for the futures (same as the currency) but the futures are much cheaper to hold. Both Singapore and Hong Kong offer these, and both trade a few hundred contracts a day for the most active (December) month. The spread in Hong Kong tends to be a little tighter (about ten ticks or 100 CNH during the day session in Asia).

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Anonymous
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October 11, 2016 at 8:29 AM ×

I should add that with a currency futures position, you've locked your financing in until expiration, and you won't get shaken out if somebody decides to jack up the overnight rate to 200% (of course, that might cause other punters to bail, triggering your stops, but that is a different issue).

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checkmate
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October 11, 2016 at 9:14 AM ×

I'm intrigued by looking at a 5 year timeframe for the US$. Anyway you cut it that's approx. 18% appreciation and if the current 2 year consolidation breaks to the upside because of a general uncertainty/weakness in other major currencies then make your own guess where that strength goes to. The point being though this almost certainly implies a loss of price competitiveness for US companies and the big blue chips with such a high % of foreign sales will translate this to their balance sheets negatively.
Indeed the whole currency issue is a form of 'monetary tightening' regardless of a lack of action from the Fed. I think earnings season is actually more important than ever given that big equity is at new highs this year.

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12yo HFM
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October 11, 2016 at 9:23 AM ×

@checkmate - Agree. Also found this article about GBP interesting:

http://www.telegraph.co.uk/business/2016/10/10/currency-guru-says-pound-slide-liberates-uk-from-malign-grip-of/

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Punta
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October 11, 2016 at 9:44 AM ×

Checkmate - any rationale on your part on the USD breaking up instead of staying pat ? i.e. do you have a catalyst in mind for weakening of other currencies ?

cbs playing round robin - ie a long period of stasis, with the occasional panic, seems more likely.



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checkmate
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October 11, 2016 at 10:11 AM ×

Interesting article and I particularly noted Kings comments. The trend post FX crash appears to have been to long UK equity with big dollar correlation an short domestic equity with some of my retail sector holdings getting trashed.
Clearly the UK is going to get a stiff inflationary uptick from imported inflation and using that in the portfolio looks good.

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checkmate
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October 11, 2016 at 10:14 AM ×

Punta,
My rational for the USD to break to the upside is simply that outside of the US wherever we look we can find a wall of worry for markets to parse over. More importantly, I am trying to think like the corporate treasurer at this time. Faced with the political risk in Western Europe and the debt risk in China and anything highly correlated to the Chinese economy then where do you have left with sufficient liquidity ?

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checkmate
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October 11, 2016 at 10:17 AM ×

By the way anyone here who remembers Sep '92 ? Politicians of all parties were taking credit years ahead for the UK post '92 boom when all it really was related to a currency devaluation of approx. 30% on the ERM exit.

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Celeriac1972
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October 11, 2016 at 11:22 AM ×

Low 1.20's looks like a good place to start building a long GBPUSD position to me. I think you get three bites at the cherry, any one of which may be enough to generate a positive outcome.

1. GBP weaknesses seems - to a large degree - anxiety driven following May speech etc. Plenty of scope for this to be rowed back by a more coherent narrative from government.
2. Fundamentals, UK data may continue to surprise. Market sentiment (and pricing) may still be well out of line with reality.
3. USD strength may well be tested for any number of reasons that are nothing to do with the UK.

I think it is time to take a deep breath and get on the other side of a crowded trade.

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Macro Man
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October 11, 2016 at 12:24 PM ×

I do have some sympathy for the view that cable below 1.20 and eur/gbp near par offer excellent long term value. One issue, however, is that the FX-dependent stocks already have a lot baked into the cake- was looking at some of the resource names yesterday and they have run up quite a bit. Would prefer to -wait for it- JBTFD on those.

One aspect of the current situation which is an important less positive distinction from the early 1990's is that following the ERM exodus, the Chancellor cut base rates sharply, which allowed the property sector to rise from the early 90's crash ashes. No such stimulus is available today; rates cannot really be cut any lower, and the property sector has already done pretty well.

So really, all the growth argument has is the hope that the eventual boost to exports outweighs the J curve rise in imports and overall reduction in UK household purchasing power- the latter of which is hardly going to be cause for celebration and hosannahs on the street.

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checkmate
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October 11, 2016 at 12:43 PM ×

MM,
Yes ,the two situations are not exactly the same. Rates were very high globally back then giving plenty of wiggle room that does not exist today. However, why is there always an 'however' ? Rates are so low that I see another option which fits with the way the economic dialogue is turning. That is instead of monetary policy the UK go big with fiscal policy. May as been dropping hints. Think what the uptake is going to be if they decide to run with a national debt issuance at this juncture offering rates above the base rate at an healthy spread? They'll be buried by bids from the demographic boomers alone nevermind the Pensions Industry. Turn that around and throw it back into the economy via infrastructure investment etc. I confess I'm also talking my book because this is what I expect them to do this Autumn. Switch horses from reliance on monetary policy to Fiscal policy. If the global markets don't like it well by all means weaken that currency some more and give the UK even more price competitive advantages than it already as at this time. I can think of a few European countries who would love to be in this position and can't get it because of we know what membership. The irony here is 'warlike' commentary from the EU just serves to create an inflationary environment in the UK and a deflationary one in the EU. Qualifier, inflation might be stagflation before it turns.
Re your last para it implies a onesided outcome and this isn't true. Action , reaction, double entry bookkeeping, think winners and losers, two entries not one single outcome for all.
In effect the UK is getting a real shot at growth here that should leave the rest of the EU looking poor by comparison. That is not to say the UK will make it really happen. It's just to point out that there exists that possible outcome. Could also be really drawnout so I am not suggesting currency weakness is a one-way bet regardless of timing your entry.

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12yo HFM
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October 11, 2016 at 12:47 PM ×

...prefer to -wait for it- JBTFD...

@MM: Eminently sensible. Did I mention that you've always struck me as an intelligent and pleasant fellow? ;)

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Hotairmail
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October 11, 2016 at 12:59 PM ×

Ah yes. The post ERM exit bounce was the last time the UK had a positive trade balance. I can hardly remember it. And I think we'll need more than a devaluation to achieve it again. Perhaps we need to re-designate London property sales to overseas clients as 'exports'. (at one point one of the FT scribblers made that self same suggestion!)

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Macro Man
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October 11, 2016 at 1:12 PM ×

Yes, calling it "exports" sounds better than "selling the family jewels"!

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checkmate
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October 11, 2016 at 1:42 PM ×

Hotair (I hope that isn't literal),
"And I think we'll need more than a devaluation to achieve it again. "
I have no problem with anyone having a different opinion to me ,but I would say it helps to appreciate it if you at least try to explain your reasoning.

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Anonymous
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October 11, 2016 at 1:45 PM ×

Too pessimistic. One of the serivce sectors that really benefits from the devaluing is education: now uk high education is really attractive given its quality and relatively low cost.

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Macro Man
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October 11, 2016 at 1:47 PM ×

Is this the same education system that Amber Rudd announced a crackdown on the number of foreign students for?

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scepticus
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October 11, 2016 at 2:24 PM ×

Well whatever happens it'll be very interesting to observe how the typical Telegraph reader internalises a good ol' sterling crisis (bad!) that emanates from a Tory-led expansion of the state sector (very bad!) co-incident with a uptick in interest rates or at least some help-to-save wheeze (good!) and falling property and stock values (very very bad!).

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scepticus
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October 11, 2016 at 2:41 PM ×

Oh, I just read the linked article; most interesting if the tune of the DT is now changing to being intensely relaxed about sterling getting shafted...

Question for the GBP bulls post 1.20 here: how would you play this particular scenario from a buy and hold perspective for all of us out here who don't day-trade and only rebalance occasionally?

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Hotairmail
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October 11, 2016 at 2:45 PM ×

@checkmate

The long term problem re much of British business is its reliance on trying to be the lowest cost producer rather than focusing on quality and innovation. Devaluation, low wages, low productivity, low investment, low skilled immigration are all the same side of the coin. Short term, a devaluation can help in those 'cost' driven sectors, but long term those are fundamentally bad areas to be in.

Where we've done well is in things like premium cars, financial services, satellites and chip design etc. However, these markets simply aren't big enough to allow us to make our way in the world and more worryingly, we already have an outsized share of them. We need more of the funcional Mittelstand type layer of British business so we can sell into the large internationally traded goods sector. Last bike rack I bought I found was from Holland. When the Council delivered my wheelie bin, looking on the bottom I found it was made in Germany (probably a part of a total system incorporating the truck). These are boring functional items but need to be made and if you do these things well and people trust your quality, you don't need to be the cheapest. Germany is by no means the cheapest, has historically loved a strong currency and vies with China for largest net exporter in the world - but still do less well than Holland on a per capita basis.

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Anonymous
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October 11, 2016 at 3:52 PM ×

Alcoa just reported. Higher quarterly profit due to cost-cutting and lower tax provisions. Nevertheless results missed expectations and its stock sank nearly 10%!

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checkmate
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October 11, 2016 at 4:16 PM ×

Hotair (wasn't literal)
I appreciate your reasoning and I think from a longer term viewpoint you are right. The question will be can we get a government to focus on the longer term and make policy accordingly? In the medium term though I still think that what is a currency devaluation will make the UK look rather better at the growth game than it's EU counterparts. After that is when the going gets tougher.

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Leftback
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October 11, 2016 at 4:47 PM ×

Long USD and vol here. We are also short CADUSD, USO and IWM (added to all of these yesterday). There are some echoes of last August here, as our risk parity friends don't enjoy upside spikes in USD. As MM points out, if USDCNY breaks to the upside and moves towards 7, there will be some intestinal discomfort. Good times…

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Leftback
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October 11, 2016 at 5:37 PM ×

Reduced position size in IWM and UUP; we took some profits here with SPX on support around 2140….
We are still short USO, the crude oil trade is still very over-extended here, with speculative longs at a very high level.

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CV
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October 11, 2016 at 5:44 PM ×

"Long USD and vol here. "

Looks like the place to be! I am increasingly coming to the conclusion that Yellen and her commandos will get another leg of the USD bull market no matter what they do. In which case, they might as well go on and do what it is that they have been thinking about doing anyway ... makes sense, right ;).

Good points on the CNY MM! I agree with LB ... above 7 and the fun stops for most.

I think this is spot on MM;

"One aspect of the current situation which is an important less positive distinction from the early 1990's is that following the ERM exodus, the Chancellor cut base rates sharply, which allowed the property sector to rise from the early 90's crash ashes. No such stimulus is available today; rates cannot really be cut any lower, and the property sector has already done pretty well."

The sad truth is that hard Brexit, soft Brexit or middle-of-the road don't matter When an economy like the U.K. with a huge twin deficit gets a shelling in the FX market like this, it has one inevitable outcome. Stagflation! Now, maybe it won't be three years of purgatory like in Brazil ... but it won't be nice!

Think about the BOE here ... if they're not very, very careful next meeting they could end up talking the GBPUSD absolutely into the gutter here. It won't take much more of this before they need to step up the rhetoric to protect the FX. My guess is that they won't though which is why I fear for further GBP downside and higher yields. As a GBP earner, I am long commodities, gold, softs etc all denominated in USD(!) In case you didn't know ;p...

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johno
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October 11, 2016 at 5:53 PM ×

Anyone want to make the case for owning GBP here? I can't.

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johno
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October 11, 2016 at 6:04 PM ×

The best case I can think of is that I can't think of a case! Which usually means its a buy or it's crashing.

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washedup
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October 11, 2016 at 6:12 PM ×

Am I the only one here that feels this market's enthusiasm regarding Hillary Clinton's being in the white house is a massive blind spot? If there is anything we know about career politicians (Theresa May being the most recent example), its that they lean whichever way the wind is blowing. HRC's actual policy proposals, which are fairly left leaning (if not outright anti-business) are being casually dismissed much the way Brexit polls were, because she is assumed to be in the pockets of wall street and corporate interests. But given her starting point of extremely low popularity, I think her number one priority from the day she gets elected would be to get re-elected - the easiest way to do so would be to throw red meat to the left, not go centrist which the global pro-business climate of the early 90's allowed her husband to be. I think even a fiscal stimulus carried out by a Clinton white house is likely to be heavily geared towards consumer subsides and/or extremely progressive taxation rather than defense or infrastructure related.
Only serious comments/opinions please - thx in advance.

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Anonymous
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October 11, 2016 at 6:12 PM ×

exactly. with the market microstructure we have, that spike low on the chart is your only waypoint.

fwiw, um, bit of air under bonds, globally, as well. stronger D and weaker everything else - continues to suggest deflationary pressure from credit/growth side. supply has been epic as well.

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CV
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October 11, 2016 at 6:12 PM ×

Johno ....

First the obvious ... it will have a monumental short squeeze soon of course, but I an armchair trader here. I don't play FX because I hold my money too dear ;). Anyway, beyond that ... I think next key story is the BOE. If they think that everything is "unchanged" and that they can still promise to ease further if the economy slows, they're running a big risk.

For now, it's ugly but not a disastrous.

- The curve is steepening, NOT bear flattening which would be really bad.

- FTSE is holding up in local currency terms, so the market is still playing the "international revenue" channel.

Those two dynamics could be tested soon enough, though, and if they reverse ... it's game over.

I think a re-test of the flash crash lows is pretty much given here before the inevitable "rebound". Hold on to your hats!

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Anonymous
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October 11, 2016 at 6:57 PM ×

What's your view on UK services inflation post GBP collapse? While prices of imported goods (or even locally manufactured goods with imported parts or goods that can easily be exported at stable international and thus higher GBP prices) are bound to increase, I can't decide what the effect on services will be.
Here's a practical problem: My kids school offers a price fix deal if you pay a year in advance. Given the usual ~5% school fees inflation, that's generally a good deal. What about next year though? Demand may go down as people move out of the country, and in any case salaries won't have adjusted higher yet to reflect the lower sterling value. If for any reason though there is increased demand by people with non GBP income sources, they may hike prices by even more than usual. Would you pay in advance?
On the balance I'm thinking it's better to not do it, and that's despite the zero rate environment and certain stagflation ahead. If everyone thinks this way, staglation is even more certain then.

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Anonymous
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October 11, 2016 at 6:57 PM ×

anyone know of a GBP equivalent of UUP?

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CV
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October 11, 2016 at 7:02 PM ×

Hmm, this is getting rather ridiculous for a Tuesday ...

Is that you with a bat, bashing Betty LB?

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checkmate
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October 11, 2016 at 7:13 PM ×

Think wider. The USD dollar is smashing everything except Yen which means in my book a genearl rush to reserve currency status and weakness in risk generally.
I can understand the 1.20 level given what happened recently and taking a squeeze tarde there probably makes sense if only because you're going to know where you are wrong very quickly. As an old head once told me back when dinosaurs were still walking the pit 'support doesn't always hold' ,but that's the risk and likely one worth taking , small.

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Anonymous
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October 11, 2016 at 7:18 PM ×

@washedup, I would take a different view: Hilary really does not need the left, because the left has no choice but vote for her anyway. After Sanders, nobody from the left would challenge her and Warren is too calculated to do that. Remember, Hilary relied on the middle to win the primary and the general election, she is going to rely on the middle to win re-election as well. So Hilary is going to pursue the pro-business road, backing TPP, wall street, renewable energy, big media, big internet companies... Some potential losers: healthcare and oil/gas. I think she is also very hawkish, much closer to Bush II level than people believe, so maybe it is also good to defense.

On GBP, is there a good index to monitor the commercial real estate especially the office rent market in the City? It might be a good leading indicator to measure the Brexit's impact.

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Macro Man
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October 11, 2016 at 7:24 PM ×

Is 12YO in detention today?

Re GBP, on a long term REER/PPP style basis it is pretty unequivocally cheap at 1.20 /.90. The argument is that that is a nice cushion with which to buy real assets, particularly if you can find ones that are cheapish in local ccy terms. It's not really a case of "buy 1.21, stop 1.19, target 1.30" mumble.

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washedup
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October 11, 2016 at 7:45 PM ×

@anon 7:18 - thx for sharing your thts - the view you outlined is about as consensus as it gets (which most certainly doesn't make it wrong, BTW). I think a lot would depend on whether her first term involves a recession or not. The higher her approval the more business friendly she can afford to be, which sets up a negative gamma vis a vis the economy. Plus, whats different this time, is that she will start out more de-legitimized in the eyes of the public than anyone in modern history, and that changes the definition of what constitutes the 'middle', i.e. people who could vote for her but are not super enthusiastic - trust me thats not wall street I am talking about.
I think the country itself is slowly getting more and more anti big business in a way not seen since the 60's, and any politician that doesn't respect that will get booted pretty quickly - she is nothing if not a smart politician.

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Leftback
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October 11, 2016 at 7:51 PM ×

LB thinks it will be a while before we see any value in anything that is part of the UK equity market, although we always keep half an eye on the big dividend payers, large energy stocks and so on. However the global disease of overvaluation has not spared Britain lately, so we don't see anything compelling. We might punt sterling at some point but it would have to go a lot lower and we agree it may well retest that spike low. [Standard post-Flash Crash behavior, almost as though a Flash Crash reveals a lot about where everyone's stops are.. ;-)].

If oil follows equities lower then it is going to be a fun week at Hammock Capital…. we are enjoying ourselves thoroughly.

Volatility trading is a very bizarre thing. On the one hand this is what it's like at our shop: "Hello. This is LB at Hammock Capital. I'd like a large order of Fear, please…" "How much would you like, sir? Medium or Supersize?" "Supersize please, or as much as you can load on the truck". "When would you like that delivered, sir?". "Oh, I was thinking tomorrow, please. Oh and, you know, if it was nice and early, so that absolutely everyone really crapped their pants during the first half hour after the market opens tomorrow, that would be great". "Yes, sir, we'll pass that along. Thank you for shopping at Fear.com sir!"

Over at the pension fund offices, it's not so much fun for the vol sellers, Thad, Brad and Chad in the office of Rick the Risk Guy: "Thad, do you know what reflexivity is?" "Is that a board game, like Twister? I think a chick tried to make me play that once but I fell over and spilled my beer, dude" "Chad… how much leverage did you guys use?" "Uh… I'm not really the quant here. Brad?" "uh, some. We, uh, used, like, some…" [Rick the Risk guy rolls eyes., mutters f*ck under his breath…].

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Anonymous
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October 11, 2016 at 8:10 PM ×

@washedup,

You are right about the shift of the atmosphere in the US. But that is hard to quantify. Let's focus on how the election would change things: She wins+senate majority goes to Dem. Now it is all about House. If House goes to R, then she has to go to the middle to get anything done. I guess that this is preferred by big businesses. And the consensus is also talking about the next mid-term is very R friendly. So if Dem gets House this year, she might only have a two-years window to do what she wants, just like Obama. That may scare some businesses. She is smart, but it seems to me that election for her is just a spinning/money game. The most likely outcome is that she bets on the marginalized population will not be strong enough to fight her next time, just like this time.

Then again, I am not sure how these help us time the market: so far Fed is still much more relevant than the election. Is today's drop a pre-run of tomorrow's FOMC minute? Maybe November is also subject to a hike given Hilary is so far ahead. I agree with LB that shorting oil so far has the pretty high reward/risk ratio.

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Anonymous
admin
October 11, 2016 at 8:26 PM ×

Markets Scorecard since the Monday after Brexit:

Cable Much Lower.
USD Much Higher.
Euro/USD Flat.

US & EU yields Much Higher.
UK yields Much Lower.

Emini 100 handles Higher.
Dax 1000 Higher.
EuroStoxx50 300 Higher.
FTSE 1200 Higher

Now that Brexit reality appears to be hitting, is there a case for the Gilt and Equities being massively mispriced? (Sure, there was the assumption of Central Bank intervention and UK assets repriced due to FX lifting all.)

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12yo HFM
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October 11, 2016 at 9:33 PM ×

Is 12YO in detention today?

Not yet, however one finds oneself perplexed at these 'rigged markets', and rumors of deleveraging by some rather unintelligent & unpleasant fellows by the name of "risk parity funds". I have now drawn some 'support lines' on my PnL chart, which I trust will go some way to arresting further declines in the SP500. Peace out.

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fcp
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October 12, 2016 at 1:26 AM ×

Did anyone find out the level that US pension fund or whatever it was sold a those naked puts?

There is no way they are making money on that trade. I'm guessing the next leg is down and we go at least that low.

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washedup
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October 12, 2016 at 1:59 AM ×

@fcp - I think most of those structures are fairly long dated so vega is a much bigger issue than gamma - that said, based on the WSJ article that first talked about them I surmised that a big chunk of them were entered into in 2014-2015, so my WAG would be 1980-2120 since thats where the market spent most of its time back then. Also, I highly doubt they are plain vanilla - there must be some knockout levels down below.

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Anonymous
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October 12, 2016 at 2:03 AM ×

I have now drawn some 'support lines' on my PnL chart, which I trust will go some way to arresting further declines in the SP500...

awesome!... you need to get a Twitter account dude...

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12yo HFM
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October 12, 2016 at 7:41 AM ×

@Anon 2:03: +1
PS Just waiting for price to drop further b4 I buy TWTR in it's entirety ;) #goals

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checkmate
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October 12, 2016 at 7:49 AM ×

You'll have something to buy very soon that I am reasonably sure about because the SPX will in a couple of days had 3 full months of churn/sector rotation so something will be changing with OPEX looming.

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