AUD and CAD Weighed Down By Higher Funding Rates




In a recent conversation I almost broke out into laughter when a trader asked me, "do you trade value or momentum?"  Yeah, well let me tell you brother...you don't survive in this business by nailing yourself to the cross of a trading dogma. You survive by changing with the regime, identifying opportunities the market is ignoring, and riding the wave when it turns. Once you marry yourself to a philosophy, you're going to be caught with your pants around your ankles when the market changes and leaves your trading style in the dust.


And indeed, when you look at a market that has been completely schizophrenic over the course of the past six months, you need look no further than CAD and AUD.


Over the course of this year, these two commodity currencies have notably underperformed--not only in the DMFX universe...

But also in comparison to a broader set of commodity currencies (I included EUR as a “control”).




When you consider the break with high beta carry trade currencies  like ZAR (and MXN, which I left out), oil plays like COP and NOK (sure, Norges Bank is hawkish, but come on), and underperformance even against recent commodity EMFX laggards like CLP and RUB, it’s time to start sniffing around for other explanations.


A few weeks ago I picked up on this underperformance in CAD when there had been some noise in the media to suggest it was due to NAFTA risk.  I noted that was little to suggest that this move had anything to do with NAFTA. Since then, that hypothesis has proved to be correct. While the steel tariff/trade war story did pick up some steam, there has been some signs of progress on NAFTA negotiations--one need look no further than the Q1 2018 currency champion: MXN...a currency with a morbund economy and a populist/nationalist leading the polls for an upcoming election!


I rebuilt this regression analysis over a five year period--comparing spot AUD and spot CAD against a basket of commodity prices (metals for AUD, and oil for CAD), S&P implied volatility, and importantly--the spread of 2yr local rates vs. US swaps.


In AUD, you can see these factors have been VERY heavy over the last few weeks. I highlighted the move in spot AUD down from over .80 to .77 with my color crayon.
Source: JP Morgan data


And similarly in CAD...I highlighted the move up from 1.24 to over 1.30
Source: JP Morgan data


What this data shows us is that there isn’t much going on here that we wouldn’t expect from the underlying drivers of these trades. But that brings us back to the the libor trade….which has much as I hate to say it, seems to be the TMM2 white whale lately.




That factor model is driven by the spread in swap rates--and US 2yr rates have risen by 20bps in excess of fed expectations, just in the last three months. That has had a material impact on the “modeled” value for AUD and CAD...two currencies for which interest rate spreads are very important.


And thinking more about the fundamentals, there’s even more to suggest that the widening in LIBOR/OIS has been a driver for underperformance in AUD and CAD. Aussie and Canadian banks are big players abroad. They’ve made so much money in their home markets they are constantly on the prowl for opportunities in foreign markets--and much of their lending is benchmarked in USD.


Over the past few years, names like Scotia, NBS, and RBC in Canada and Westpac, Commonwealth Bank and Macquarie in Australia have been very active in the CP and cross currency basis markets. Some of those liabilities have termed out as the banks took advantage of easy credit conditions in late 2016 and 2017, but their USD borrowing is still significant. There’s no doubt they are feeling pinch of higher funding costs and are likely changing their funding strategies in reaction to the changes in the US tax code, something that has been whispered in the media for a while, but has taken on new life in the past couple of weeks as a the sell-side analyst community pulled back the curtain on some of these changes. (p.s. Thank you to everyone who sent me the underlying research piece!)

Where does that leave us trading these currencies? The regressions show AUD is right on the screws with the model, and CAD is still a touch rich, if anything--and while I'm sure there are those that will suggest that these funding pressures don't have an impact on spot, the direct funding pressure on the banks argues otherwise.


More importantly, in addition to the usual correlations with DXY, commodity prices and overall risk appetite, keep an eye on funding costs and the libor/ois spread! A big move in either direction will be a driver, even if there aren’t any big changes in monetary policy expectations from the BoC, RBA or Fed.

Shawn
TeamMacroMan2@gmail.com

@EMInflationista

Previous
Next Post »

33 comments

Click here for comments
March 31, 2018 at 11:24 AM × This comment has been removed by a blog administrator.
avatar
March 31, 2018 at 11:26 AM × This comment has been removed by a blog administrator.
avatar
Shawn
admin
March 31, 2018 at 6:53 PM ×

c'mon amps. I expect better from you.

Reply
avatar
April 1, 2018 at 6:40 AM ×

I'm sorry, Shawn. But that type of language isn't going down well over at my gofundpage/sendampstoasiawithanewlaptop.

Reply
avatar
April 1, 2018 at 6:57 AM ×

What'd ya reckon. Shawn. Are my tips here worthy enough to start a gofund here on this blog and send amps to Asia and send out a tipping sheet each week to those generous donors. Because I will not be going to Wall Street or City of London to be tied down with litters of kids.

Reply
avatar
Shawn
admin
April 2, 2018 at 3:58 AM ×

Have you considered Latin America? I could see you having a lot of success there.

Reply
avatar
Cbus20122
admin
April 2, 2018 at 4:02 PM ×

Watching the dollar closely here for a potential breakout...

I agree with most others on here that it's the most important risk-off signal right now. IF we see a big dollar rally, that is a bad signal for most risk assets.

Reply
avatar
Gus
admin
April 2, 2018 at 4:37 PM ×

Below the 200 DMA? Free fall?

Reply
avatar
Leftback
admin
April 2, 2018 at 5:11 PM ×

No 12 y-o dip buying heroes? So disappointed, I was sure they would be chirping and buying the 200DMA. I really miss those guys and their advice on making money every day.

New low now in force - something in the SPX 2570 area today? A reasonable guess is that some very big punters have been running the stops around the 200DMA today and having their way with the unwary. That level of SPX 2585-2590 is resistance now, at least for today.

The Kevlar™ Gloves are staying in the drawer over here. What was the Feb 9 intraday low? SPX 2534? Not out of the question, but perhaps not today.

Chad, Brad and Thad are back at the pension fund, btw. Running a hot dog cart outside in the parking lot.

Reply
avatar
Cbus20122
admin
April 2, 2018 at 6:19 PM ×

With SPX below the 200 day now, it'll be interesting to see if NDX stalls at its 200 day MA. That could potentially support SPX as a whole.

Regardless, I feel like 2450 is a general range target I would imagine we'll see. After that point, not sure where things go - will depend on what happens with the dollar and other indicators.


I think something worth mentioning is that the market seems to be pricing in a lot of bad news that is brewing outside of the primary headlines. People want to point towards the big headlines like trade, or trump tweeting about Amazon, but I don't really think those are the big drivers, just the media-driven narratives. The credit markets have continued to point towards more issues than most equity market participants are willing to realize, and we're starting to get rollover of economic data to confirm these issues.

Reply
avatar
Nico G
admin
April 2, 2018 at 6:33 PM ×

it's a bear tape

i would have shorted the obvious (end of quarter) but the wife will not allow any more size

Reply
avatar
Gus
admin
April 2, 2018 at 6:37 PM ×

Is LB getting ready to enjoy the upcoming last hour of trading? Wondering if it will be epic or not?

Reply
avatar
Leftback
admin
April 2, 2018 at 7:04 PM ×

Yes, it is a bear tape. All the signs have been there.

Mr Margin will be calling, whether that makes the last hour or two epic or not, hard to tell. Institutional managers have Q2 money to put to work at some point, which may stem the bleeding somewhat. "Cash on the sidelines" is real, for a day or two, at least. :-)

It's a bit sad to note that many Passive Investor Millennials will find that their "Stash" is dwindling not growing. I wonder if that was in the small print. Meanwhile the short squeeze in Treasuries is quietly resuming.

LB is reminded of some 2008 jokes. "How do you catch a falling knife?" "Wait for it to land - then pull it out of the victim by the handle". Pondering a re-test of the Feb 9 intra-day low, which would take the spooz down another 20 points or so.

Reply
avatar
Skr
admin
April 2, 2018 at 7:17 PM ×

Shawn, that CAC 40 note at the end of last year is turning out to be one of the best performancing indices.

Reply
avatar
Leftback
admin
April 2, 2018 at 7:28 PM ×

Note that the lunchtime bounce in spooz failed at almost exactly the 200DMA - what was once the market's strongest support level is now resistance.

Reply
avatar
Skr
admin
April 2, 2018 at 7:59 PM ×

Cbus20122, it's probably nothing

https://www.aljazeera.com/news/2018/03/judge-rejects-saudi-bid-drop-911-lawsuits-180329085514203.html

Reply
avatar
johno
admin
April 2, 2018 at 8:31 PM ×

Thank you for the post, Shawn. Agree with your assessment that neither CAD nor AUD is out-of-line with drivers.

Reply
avatar
Buy Stocks
admin
April 2, 2018 at 8:34 PM ×

I really miss those guys and their advice on making money every day...

As we wrote here previously (our comment since deleted) we've had tactical shorts for a couple of weeks now. As of today in excess of +1500 Dow pts on shorts. To those of us with some experience, this tape is not difficult.

Reply
avatar
Skr
admin
April 2, 2018 at 8:55 PM ×

Wow, Are you guys hiring?

Reply
avatar
Leftback
admin
April 2, 2018 at 9:07 PM ×

LOL. That's good to hear, "Buy Stocks". Always comforting to hear about successful trades once they are in the bag. It was quite distressing to many of us when you went missing. We were concerned for your welfare. :-)

Not sure if this move in Spoos is over yet. Another VIX spike and a final low wouldn't be a huge surprise.

Bonds look a little overbought here, looking for yields to maybe creep higher from here into the Friday employment data.

Reply
avatar
Buy Stocks
admin
April 2, 2018 at 9:32 PM ×

"Leftback" - No need to feel sore. Have posted numerous calls before the fact that turned out to be huge wins against so many of yours that became loses. Call me if you ever wanna learn a thing or two ok ;)

Reply
avatar
IPA
admin
April 2, 2018 at 10:09 PM ×

@BS, why bring this playground fantasy to an adult joint? You know by now you are a laughing stock here. Couldn't find guts to just sit quietly as the market finds buyers in the next day or so on retest of Feb low? Would have returned as a victor. By now you have completely discredited yourself. Not that you had any respect here at all. Finally shedding a diaper does not make you experienced! You have to be able to make it to the restroom every time and not just occasionally. Please return on Friday to tell us how you reversed on turnaround Tuesday @ 2525 on SPX.

I loaded a bit more USD/JPY at 105.75 and have another entry at 105.50 if it gets there overnight in Asia/Europe. Inverted head and shoulders in making.

Reply
avatar
Shawn
admin
April 2, 2018 at 10:10 PM ×

@Nico, so am I to understand your risk manager is your wife? That sounds fraught with peril.

Reply
avatar
johno
admin
April 2, 2018 at 10:52 PM ×

Whatever, BS. Blah blah blah.

Reply
avatar
Nico G
admin
April 3, 2018 at 1:38 AM ×

yeah Shawn that's right. And you are right - and even trickier than it sounds if the risk manager is making kids

Reply
avatar
IPA
admin
April 3, 2018 at 2:16 AM ×

More importantly, how does it feel to be on the same side as Buy Stocks? Scary...let him tell you two weeks later when you had to cover.

Reply
avatar
Buy Stocks
admin
April 3, 2018 at 7:28 AM ×

why bring this playground fantasy to an adult joint?
Shouldn't that be: "why bring an adult to a playground fantasy joint?"

IPA, johno - you two are the biggest clowns I've ever come across online. With your puerile comments, "head & shoulders" patterns etc I'm sure you're beating quantitative algorithmic funds hands down :) Have fun fellas.

PS Have closed shorts on US equity indexes overnight. Watch & learn.

Reply
avatar
johno
admin
April 3, 2018 at 9:25 AM ×

BS, blah blah blah

Reply
avatar
Buy Stocks
admin
April 3, 2018 at 12:08 PM ×

BS, blah blah blah
Quod erat demonstrandum

Reply
avatar
April 3, 2018 at 2:45 PM ×

Buy Stocks...your crowding me out of the market. What'd ya reckon. Shawn. Don't worry about South America. End of year mygofund/sendampstoasiawithanewlaptop to raise 30K. Once hit..within 3 months set up in south east asia somewhere and for donors that donate $50+ they receive free subscription for 2 years to the futures recs each week. Though, not much changes in one week, but nonetheless. F##k it. Let's monetize Macro-Man. I feel a two way market coming on.

Reply
avatar
April 3, 2018 at 2:56 PM ×

correction....50+ one free year sub. 100+ two free year sub. 500+ I'll throw in one single name of your choice 12 month analysis.

Reply
avatar
April 3, 2018 at 3:54 PM ×

I've got Uni debt on the books now. Let's get real.

Reply
avatar
Karen Brown
admin
April 4, 2018 at 3:49 AM ×

I AM FINALLY FREE FROM FINANCIAL BONDAGE THANKS TO MOORE LOAN COMPANY (mooreloancompany@yahoo.com).

Good day everyone,I can’t hide this great testimony that took place in my life I will love everyone to know it and be a partaker of this, that is why I want to share it to the whole world by placing this advert on classifieds, I am Mrs Karen Brown by name, I live in Chattanooga, Tennessee United State, I want to thank ROBBINSON MOORE for his kindness upon my family life, I never knew that there is still a sincere and trustworthy lender like this on the internet and on earth. Just some days I was in search for a loan of $ 100,000.00, As I was running out of money for feeding, School fees, My business was really going out of capital and my rent. I was scammed about $15,000.00 dollars and I decided not to involve my self in such business again. But a Friend of mine introduced me to a loan firm due to my appearance and doings and also my complains to her. And I told her that I am not interested in any loan deal anymore but she told me that there is still a sincere lender who she will recommend me to, And she gave me the details of this man who is called MOORE ROBBINSON. And I really put a trial and I am most greatful and lucky today, I was given a loan amount of $95,000,00 Dollars by this great firm MOORE LOAN COMPANY. If you are in need of a genuine, Sincere, durable and a truth worthy loan lender or financial assistance and also you know you can be reliable and trusted, capable of paying back at the due / duration time of the funds I will advice you to send your contact to them via email @[ mooreloancompany@yahoo.com] OR Test (414) 454-9493 . And you will be free from scams on the internet. Please I am begging everyone on earth to help me thank Mr ROBBINSON MOORE. And I will always being sharing this great surprise and testimony that happened in my life everyday to all that need loans. Contact them now if you are in need of a loan: AS THEY ARE EFFICIENT,DYNAMIC AND RELAIBLE.....Again there contact email [mooreloancompany@yahoo.com OR Text (414) 454-9493.

Reply
avatar