EUR and CNH

Although yesterday's ECB meeting was never going to be in play, Mario Draghi was particularly circumspect, refusing to drop much of a hint about either an extension to the full size QE program or what a taper might look like.  (He did, however, concede that the program will need to be wound down via a taper rather than stopped cold turkey.)  Indeed, the only time he showed much conviction was in the disdain he expressed for the various "uninformed" sources stories that have emerged over the past couple of weeks.   It's an interesting contrast to the Trichet ECB, when hundreds of thousands of Euribor options would trade an hour or two before a "sources" story appeared on Market News, which in a stunning coincidence often pushed the options immediately into profit.

Anyhow, there was enough jiggery-pokery in the Q&A to ensure a torrid time for short term punters trying to trade the headlines.  ("No discussion of extension"....Bunds drop half a point.   "No discussion of a taper"....Bunds rally right back.)  Indeed, intraday price action in bonds has been erratic for several days now, which is probably good if you're a swing trader but less so if you're looking at them through a fundamental lens.   The same holds true for many markets at the moment, though you have to say that the euro is starting to look rather heavy.


After all, it remains one of the cheapest shorts against which to hold USD, certainly more so than the CNH.  As noted a few days ago, the chart of USD/CNH looks good for more upside....


...on a carry-adjusted basis it's been a difficult trade to hold for very long at all.


Indeed, this is the great conundrum with trading China....the line you see on your chart looks like an obvious trade, but once it's implemented and paid for, it's not nearly as good.   The chart below refreshes work from earlier in the year, illustrating the RMB vs CFETS basket (a home run short), the nominal version of a tradable version of the same (a stand up triple), the tradable basket with carry included (a double, assuming low transaction costs- ha ha ha), and the trade that people actually do, the CNH vs USD (grounding into a double play earlier this year, now just a fielder's choice.)


Now, Macro Man has contended that the despite the incipient hysteria over another round of Chinese currency depreciation, if anything the shift has been away from depreciation and towards stability on a basket basis, as you can see from the sideways tilt in the CFETS baskets in the chart above.  The upshot of this is CNH versus the USD is more aligned with movements in the basket constituents (the largest of which is the euro) that has historically been the case.  We can see this both on a naive overlay chart...



...and via statistics (the 60 day correlation has gone from 0.32 at the beginning of the year to 0.58 now.)  That's not to say the causality is all one way...after all, perceived weakness in the RMB can still force the PBOC to intervene, thus drawing down reserves and forcing rebalancing sales of EUR.

The moral of the story, however, is this:  what you are seeing in USD/CNY or CNH these days represents dollar strength more than it does RMB weakness.   And frankly, if you're going to play dollar strength....why not do it against the more liquid currency with the better carry characteristics (albeit without the Kyle Bass wishcast targets)?
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Sonia Shahid
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October 21, 2016 at 8:23 AM × This comment has been removed by a blog administrator.
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Skr
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October 21, 2016 at 12:49 PM ×

Took a large chunk of DXY off the table at a very tidy profit. Ready to start a short.

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checkmate
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October 21, 2016 at 2:14 PM ×

LB
Was that the breakout on US/Can$ ?

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Mr. T
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October 21, 2016 at 7:07 PM ×

This story today about the K+S downgrade is pretty interesting. DE000A1PGZ82 (held by the ECB) - junk ratings from all the agencies - 6 year debt yielding 1.9%. So a junk rated chemical company hemorrhaging cash is borrowing at a 40bp spread to the freaking US government? Policymakers - are you happy yet? It's certainly possible that a credit cycle peak is somewhere around here, and a good chunk of debt held by the ECB becomes junk rated. Where will the unwashed (non-central-bank) masses turn for yield? First they came for short end, and I did not speak out - because I was a risk taker. Then they came for the corporates and the junk, and I did not speak out - because they were pushing my stocks higher.

I don't know how much more of this stimulus the world economy can handle.



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washedup
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October 21, 2016 at 7:25 PM ×

T - while there is clearly a bit of a backlash building towards monetary activism, I don;t think its of the scale that would give pause to these idiots - the stakes, in terms of personal reputations and careers, not to mention the future gigs at goldman and jp morgan, are quite simply too high.
So the next step seems to me to be (gulp) equity purchases, at which point there will be nothing risky left to buy, leading to zombification - honestly, I used to laugh at LBs theory that the entire developed world would eventually turn japanese, but I'm not quite so sure anymore if this trend continues - what I do feel strongly, is that the higher equity valuations in that world go hand in hand with much lowered earnings and sales growth prospects, equity 'investors' seem to act as if they can have it both ways - very odd.
Also, if ECB's portfolio does start to sour - at some point, does that impact the euro? There has to be someone who isn't happy with this state of affairs, although I am hard pressed to locate critics right now.

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Anonymous
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October 21, 2016 at 9:48 PM ×

Checkmate
BoC's next move is to cut, and almost did on Wednesday. Domestic investor discussions with BoC officials signaled that they were much closer to cutting than could be gleaned by the statement. My view is Poloz got spooked when the loonie got up to 1.45 in such short order, but he is much more comfortable with USDCAD in the 1.35-1.40 range.

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washedup
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October 21, 2016 at 11:05 PM ×

Anybody keeping tabs on the libor/OIS and TED situation? Wasn't that spread supposed to come crashing back down after oct 15th post new regulation commencement? thx in advance!

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Anonymous
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October 22, 2016 at 2:20 PM ×

OK, I get it...

Companies are spending a record $1 trillion on dividends & buybacks for 2016

http://www.bloomberg.com/news/articles/2016-10-21/trillion-dollar-payout-may-mean-peak-largesse-for-u-s-investors

and the year before that, & the year before that, and... Just pull Table F.223 of Fed Release Z.1 IT'S ALL RIGHT THERE

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Anonymous
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October 23, 2016 at 10:37 AM ×

FED John Williams said he'd support one interest rate increase in 2016 and a few more next year, though he added that he'd be unperturbed if inflation rose above the Fed's 2 per cent goal. Williams said that he will be "definitely not losing sleep" if the Fed overshoots its inflation target, and that it's "absolutely essential that we demonstrate that we can hit this 2% inflation goal."



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checkmate
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October 23, 2016 at 11:14 AM ×

Parochial I know, but I was dragged kicking to shop in our small UK city this Saturday. Surprised, the usual carp[ark was signed full and alternatives were virtually jammed full. Thought there must be some event in the centre ,but no it was just 'volume of traffic' (UK motorway speak for business as usual). In the 30 years that I have lived here I have observed this only in the close runup to xmas . So, wherefore art thou Brexit smackdown? Shopping appears to be the answer.

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Anonymous
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October 23, 2016 at 8:28 PM ×

Checkmate, it's half term and shoppers are buying goods at current prices before the next stock of imports are more expensive due to weaker £.
Mobile phones have increased in price in the last month, competitors prices usually fall a month after the latest iphone launch, not this time!

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