Musings on a correction

The ducks have all been lined up for a correction in those markets most impacted by hopes of Trumpflation, namely the dollar and fixed income.  The euro went down ten days in a row.   There's a US holiday approaching which will see large swathes of the market out of the office for three days.  And, as of yesterday afternoon New York time, there was even a large earthquake just off the coast from Fukushima, site of the devastating earthquake/tsunami that changed the face of Japan's energy policy and external balance, ultimately sowing the seeds of Abenomics.

If we look back at the earthquake in 2011, which happened early on a Friday morning US time, while the initial reaction was modest there was considerable follow through once the extent of the damage to the nuclear power facility became known.  Indeed, in the several trading days following the earthquake, USD/JPY dropped some 8%.



As such, the relatively muted reaction observed thus far (at the time of writing) has been telling.  Just two weeks ago we had an example of history providing an excellent road map for a political outcome; one might have thought that the market may have been more inclined to follow the historical precedent of Japanese earthquakes- not only the 2011 disaster, but the 1995 Kobe 'quake, which saw USD/JPY drop like a stone afterwards.

That the market has chosen not to take USD/JPY behind the woodshed speaks to the level of conviction on the dollar trade, the level of positioning (or lack thereof, relative to conviction), or both.  Either way, the paltry correction in the dollar despite an ample rationale for one and ostensibly overbought momentum suggests that the buck has further to go.   Certainly from a fundamental perspective, Macro Man would be more inclined to fade equities than the buck at this juncture, though it may well be the case that positioning will also support stocks for a while longer if survey evidence is to be believed.  Moreover, as Spooz have surged to their highs credit has not quite followed suit.   Mere coincidence, noise, or an incipient sign that the issue-to-buy-back craze may have peaked?


Then again, we should always be wary of the good Dr. Pavlov when he rings the bell.   US 5 year yields at at level where they've stopped on a dime for the last 2-3 years.  While a breakthrough would provide another important brick in the wall of evidence that something has fundamentally changed, common sense would suggest this as a likely place for shorts to take profit.

If they don't, then strap in because the rest of the year will be a fun ride.
Previous
Next Post »

28 comments

Click here for comments
Anonymous
admin
November 22, 2016 at 7:43 AM ×

Nico is down over -$200k in 24 hrs on his spoos short. Strange that he hasn't posted an update.

Reply
avatar
Nico G
admin
November 22, 2016 at 7:48 AM ×

thank you for caring, im still up 4 million year to date

Reply
avatar
checkmate
admin
November 22, 2016 at 8:20 AM ×

I would have thought this was worthy of thought.
http://www.msn.com/en-gb/money/news/trump-to-withdraw-us-from-major-trade-deal/ar-AAkAOQf?li=AA54rU&ocid=spartandhp

Extrapolate from that and it's obvious that the Trump economic 'guns' will certainly be turning on China asap. Globalisation is dead in the water. For anyone ho though it was a gamechanger for the UK to leave the EU I'd start rethinking issue as a matter of scale for those major trading partners of the US. The question of Brexit was supposedly one of uncertainty over what terms come next and which sectors were most vunerable. That applies equally to this issue except in this case.

Reply
avatar
checkmate
admin
November 22, 2016 at 8:21 AM ×

'except in this case' it promises to be even more disruptive.

Reply
avatar
Anonymous
admin
November 22, 2016 at 9:07 AM ×

what can trump do himself as president on existing global trade agreements ? he may train his guns but will repubs even back him ? if not what can he do himself ?

Reply
avatar
checkmate
admin
November 22, 2016 at 9:43 AM ×

I think you guys still do not get it do you ? This isn't just 'Trump'. Indeed you can summarise the 'Trump' effect to be this. Domestic politics now 'Trumps' anythingelse at all. Any politicians that have any survival antennae intact will be tuning into that and getting onboard the new gravy train. Ignore it at your cost.

Reply
avatar
chegewara
admin
November 22, 2016 at 11:02 AM ×

actually surprising why credit hasn't sold off given the liquidation in the govies and increase in libor.

Reply
avatar
washedup
admin
November 22, 2016 at 12:26 PM ×

@MM yes the post fukushima yen rally was largely a result of japanese insurance firms re-patriating huge amounts as a result of the quake, especially since there were large unknowns regarding the extent of the payouts because of the nuclear angle. Seems obvious in hindsight (and a lesson for the future - when there is domestic repatriation for a net capital provider country, its bullish their currency - duh) I don't think even initially this quake was seen as being anything comparable.

I am curious how these moves in govvies, bucky, and credit have impacted the liquidity factors in your equity model - at your convenience of course.

@checkmate yes I agree with you - which is why I think even if clinton had become president she would put her ears to the ground and do the exact same protectionist stuff. Why markets love the idea of 50% of the globe not talking to the other 50% is odd, especially when they very well know that when these formulas were tried before (1981,2001) the aforementioned ratios were much bigger - we are truly zero sum now when it comes to the DM/EM mix, or maybe even negative when you consider productivity trends.

Reply
avatar
Leftback
admin
November 22, 2016 at 1:09 PM ×

Probably going to be a quiet day in a traditionally quiet week, but we'll listen to the whispering of the FX and bond markets even as we ignore the shrill high-pitched squeaking of low volume trade in the equity markets.

One or two signs of slowing momentum in the dollar, and of a bid under Treasuries. We have pretty much drawn our own line in the sand around here for bonds, MM, so it will be interesting to see whether it holds once again.

Maximal noise in the media about the "Bond Crash", mostly from people who never spend time thinking about f/i markets. A break to higher yields from here is always possible, but so many other things "break" if that happens, we just don't see it.

Sell Euphoria (banks); Buy Despair (govies).

Reply
avatar
washedup
admin
November 22, 2016 at 1:28 PM ×

"but so many other things "break" if that happens, we just don't see it."

Looks like Taleb has met his match in you Lefto - its quite obvious these financial systems are self correcting, flexible, and agile, yes?

Just kidding - like I said before I am with you on at least a short term pop - however, if it doesn't do so quickly (next 4-5 trading sessions, say) I'd say its a swooning market thats merely consolidating to resolve oversold conditions.

Reply
avatar
Anonymous
admin
November 22, 2016 at 1:39 PM ×

Van Hoisington: "Nothing to see here".
['Under present conditions, it is our judgment that the declining secular trend in Treasury bond yields remains intact.']

Reply
avatar
checkmate
admin
November 22, 2016 at 2:16 PM ×

LB
It isn't clear to me whether the loos of momentum will eventuate vis a relatively shall consolidation ,or a full correction capable of swing trading. If its' the former it will be a continuation and if it was to be that then I'd be with you looking for what 'breaks' because the % rise in financing cost from the lows of the last two years would be a ballbreaker. Unfortunately, look as I may I can't see the edge in working out what happens next either in FX or bonds. Maybe the kicker will come out of Italy?

Reply
avatar
wcw
admin
November 22, 2016 at 2:26 PM ×

In re DJT-Ryan and trade, the president does not need congress to withdraw from many trade deals. TPP as a result is dead already, and NAFTA likely on the block.

The response from the rest of the world is not necessarily tit for tat, see the WSJ today on China-backed Asian 'Regional Comprehensive Economic Partnership'. It seems eminently possible that DJT-Ryan are going to have a trade war, but everybody else will not necessarily attend.

How to trade this I do not know. Anyone have a few bright ideas?

Reply
avatar
CV
admin
November 22, 2016 at 3:48 PM ×

Good post MM. The bond/USD move certainly looks ripe a for little pre-Thanksgiving profit taking. Also, equities at all-time going into Turkey stuffing season is a lay up, right ;)?

The market clearly has run away with the Trumponomics narrative, but that does not mean that the story isn't sustainable next year of course. It's asymmetric, though. It is very easy to discount the good stuff, lower taxes and stronger growth, but not easy to discount the bad stuff, free trade barriers, high inflation, Fed scrambling to get on side, strong USD etc. It could come, though.

As for the USD. I can't see past the political haze in the EZ now. Fact is that if you read the programs of Le Pen, the Five Star etc (which I have belatedly started to do), it's very unclear exactly what they want to do with the euro. We have soft-exit, hard exit, bilateral devaluation against Germany etc etc. All this assumes they sweep into power of course, but that is why the next 12 months in the EZ will be "interesting"

But they want to do SOMETHING, which probably involves holding a gun to Germany's head. In short, the unpredictability of these guys is huge. I don't think anyone would want to leave with Draghi in Frankfurt of course; I think they want to use the euro as a fiscal and monetary WMD. But the road from here to there is paved with lots of head banging for investors.

If Trump goes for it here, I think the USD is just, what is it LB says, put its ears back and go!

Claus

Reply
avatar
Maverick
admin
November 22, 2016 at 4:48 PM ×

Trump is supposedly going to impose 15% tariffs on China imports and this could prompt a further weakening in RMB, which in turn could lead to a similar sell-off in a basked of APAC currencies. Further weakening of EM currencies will exacerbate risks from their exposures to USD-denominated debt.

As of a couple of minutes ago, ADXY is -2.2% since the US election, compared to -3.8% for EURUSD and +3.3% for DXY, so Asian FX basked has sold off less than EUR, so the impact of any potential trade spat with Asian countries isn't fully reflected in ADXY.

However, any potential trade rift will likely center around sectors like autos, steel, etc., so some EMs will be hit more than others. Not sure market is entirely differentiating on this basis in the overall EM sell-off, but ADXY performance would probably suggest it is.

On USDJPY rally: I was expecting more of a pull-back today (mainly from the TPP fallout), but its resilience points to single-minded, strong conviction in the Trumpflation theme. This will probably continue until evidence to the contrary comes out, which could take months. It's easier to understand benefits of Trumpflation than the the net negatives of a failed trade deal.

Reply
avatar
Leftback
admin
November 22, 2016 at 5:04 PM ×

A lot of people are a bit too US-centric. [MM, CV, others are not included in this, btw]. If you just look at USTs and Spoos, you might form one set of conclusions about what is happening: "Death of Govies", "Equities to the Moon" "Rates Blowing Out" "The Reflation Trade" etc.... which is really more media bloviation than serious analysis. But, you know, never mind the thinking, just Party On, Dudes.

However, if you look around the world you will see that rates are only really blowing out in emerging markets [mainly as a consequence of the strong dollar], and there is actually a VERY strong bid in Schatz at the moment, with German 2y yield now at -0.70%, which is not exactly a "Death of Bonds" piece of data. Das ist für mich ein bißchen unglaublich, nicht wahr?

As a result, the 2y2y US-Ger spread has risen to 1.8%, which seems entirely too enticing to be ignored by European investors hungry for a bit of real yield.... and this is just ONE reason we are looking for a reasonably strong bounce in USTs (not sideways congestion) from the prevailing heavily oversold condition in the days ahead.

http://ibankcoin.com/flyblog/2016/11/22/german-bund-yields-diverge-and-head-lower-again-amidst-market-jubilation/

Reply
avatar
Maverick
admin
November 22, 2016 at 5:44 PM ×

*baskeT x2 @4.48pm



@Leftback: agreed, and also 10yr US-Ger spread just shy of record at 2.08%

Reply
avatar
johno
admin
November 22, 2016 at 6:21 PM ×

Maverick, some interesting thoughts on tariffs. I understand that the President has executive authority to impose general tariffs of no more than 15% and that it can only last 150 days. The DoC and ITC can impose longer-term anti-dumping/countervailing duties, but those are targeted. I was thinking tariffs didn't make sense, besides achieving headlines for Trump's base, especially since the Chinese can intervene less and let their currency depreciate to recoup lost competitiveness. But then again, those tariffs are tax revenues that Trump may need to get his tax cuts and infrastructure plans passed through Congress. So maybe it does make sense. When I look at this scenario of tariffs and offsetting CNY depreciation, I see the net result as a transfer of Chinese purchasing power to the US governments' coffers. I'm not sure that's right, so someone please correct me if I'm wrong.

In markets, I'm flat right now. LB is probably right about US yields, but fading something with this momentum isn't my MO. Given the rally in European fixed income today, US yields aren't moving much. Fading DXY seems especially rash with 1) the Italian referendum right in front of us and 2) the tariff shoe yet to drop.

Reply
avatar
wcw
admin
November 22, 2016 at 7:08 PM ×

@johno, not to mention, the vacant Fed board seat appointments shoe.

Reply
avatar
CV
admin
November 22, 2016 at 7:34 PM ×

That 2-year yield spread is indeed amazing! Fascinating that front-end yields in the EZ are still where they are. On the Trump/China trade debate, this by Brad Setser is key.

http://blogs.cfr.org/setser/2016/11/22/fiscal-reflation-in-one-country/

Basically, his argument, and this has been mine too, is that if Trump wants to turn on the fiscal motor, the CA deficit will widen and dollar increase. I.e. the ROW will get a ride on higher U.S. growth. Now. This is NOT what the current U.S. administration wants but it is difficult avoid it if they really go for it. Incidentally, this would be good for EMs too I think because they are very well positioned given weak FX for a Bretton Woods II redux in which they orient their exports to the U.S.

The thing is ... if Trump wants to do this without letting foreign money in (or limiting it at least), the cost will be much higher inflation. After all, labour intensive construction work does not increase productivity in the short run, so the cyclical result would be inflation.

Of course, this is just one version of the world, but it is a convincing one I think.

Reply
avatar
abee crombie
admin
November 22, 2016 at 7:57 PM ×

Nico, you shoulda shorted European stocks instead. They suck. US is the juggernaut. I dumped my rusell. I dont like to short MoMo either, like jonho

MM nice insight on the 5y. I think that is the real tell regarding where rates go. Also you would think it should be followed by Real rates moving higher if equities are gonna keep levitating, as that would mean there is some growth. (USGG10YR - USGGBE10)

GS is out with some of thier top trades.I do like the long HIgh Yielding currencies vs KRW/SGD trade

Reply
avatar
Anonymous
admin
November 22, 2016 at 8:11 PM ×

I've been,or wanted to be, short equities for last 10days. I feel like there might be an epic month end squeeze at play. If Dax can break its recent ceiling..

Reply
avatar
washedup
admin
November 22, 2016 at 9:06 PM ×

"I've been,or wanted to be, short equities for last 10days"

if you can't decide whether its the former or the latter, you may have bigger problems than the future direction of the market!

Reply
avatar
Nico G
admin
November 22, 2016 at 10:39 PM ×

Abee

you are very right i had switched from shorting Europe, to US last summer before monster compressed European banks valuations started to reprice and overperform the US, that call was good until Trump election

now with Italian referendum being the immediate next worry Europe was the easy short post Trump. I am patient though, i have the incredible feeling that we're living winter 99/2000 again, a monster blind rally up on the promise of a 'new new new economy' completely ignoring the return of the bond vigilantes

dunno if you remember how the yield curve inverted early 2000 while equity folks were blindly pushing Nasdaq vertical... for me 2200 was the last 'wave' needed, it can sure go further up but the picture is complete, i am liking the 2500 spx calls everywhere, because those talking heads are once again behind the curve.. and so will the Fed be very soon

the next direction ain't pretty, longs you may want to trail your profits very sensitively here

Reply
avatar
Nico G
admin
November 22, 2016 at 10:46 PM ×

to be added, Europe underperformance, coupled with the EM markets soon to be decimated by king USD, do not bode well for world equities, with a few exceptions (Hong Kong and Nikkei which fare well with stronger USD) so the message is geo allocation is back, the mickey mouse risk on/risk off is completely gone. We can go back to real trading, hallelujah

Reply
avatar
Nico G
admin
November 22, 2016 at 10:49 PM ×

lastly, my gold old obsession with corporate buy backs tells me many balance sheets are about to get disfigured by raising rates you guys remember the mantra 'rates will stay lof forever', at par with 2006/2007 'house prices will never go down'

Reply
avatar
AW
admin
November 23, 2016 at 5:41 AM ×

Buying some puts. Equity vol back to insane levels.
Completely sick of this rally narrative, and hoping for some 2 way flows to snap us out of it.

Reply
avatar