abob's fundies journal

Quoting abobtrader

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He he, that was fun, fading the extremes in EUR/USD on the back of the data. NFP was bang in line with expectations.

For the macro picture, I feel a little bit more USD bullish, but thats a bias stemming from the price action. We (or at least me, anyway) are easily influenced, eh!

Going forward, and to be a little different from the pack I would keep an eye on the fwd looking indicators of Europe such as ZEW and IFO. CPI is important, but I don't think numbers like GDP or other dated data will have an impact. The eurozone is a slow moving beast and if we want to get a steer on the steepness of the tightening trajectory, fwd looking indicators may be what it is all about.

Note - Cable looks like a poor surrogate for the EUR/USD these days. The correlation has broken down a bit as the mkt has chosen to buy cable on EUR/USD rallies, but to sell EUR/GBP on the dips...ie its trading with a GBP +ive bias.

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Quoting abobtrader

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Interesting correlations: the Nikkei & USD/JPY


I find the relationship between USD/JPY and the Nikkei fascinating. Here are the charts going back 6 months:
http://photos1.blogger.com/blogger/5...28Small%29.jpghttp://photos1.blogger.com/blogger/5...28Small%29.jpg

It is clear that both the Nikkei and USD/JPY have been moving in tandem in recent months. From the outset, this could present somewhat of a puzzle to investors who may think that strong stock market returns should be good for the home currency. So why is the yen depreciating when the Nikkei is marching higher? I present some possible answers:

1) International investors have been buying Japanese equity securities (international demand for Japanese bonds is likely very low given the yield and eventual possibility of monetary tightening). The majority of equity investors are not in the business of speculating on currencies and so are buying USD/JPY and EUR/JPY as a hedge. With the Nikkei on a rising trend, investor holdings of Japanese equities are growing in size, which in turn requires further selling of the yen to maintain hedge effectiveness.

2) While flow data supports the hypothesis that international investors are indeed buying into Japan, what are the Japanese investors doing? Surprisingly, they are investing outside of Japan. A consequence of the improved economic outlook for Japan is an increase in the risk appetite of Japanese investors. However, since Japanese investors have been burned by the domestic equity market, reduced risk aversion translates into an increased flow of investment in to international equity markets. This puts further downside pressure on the yen.

3) The Japanese authorities are highly unlikely to end their zero interest rate policy (ZIRP) any time soon. This is good for the Japanese corporates and with interest rate differentials in vogue in the currency market, is a negative for the yen.

4) A weaker yen boosts the revenues of Japanese exporters, boosting the Nikkei.

5) A weaker yen further eases monetary conditions which is Nikkei positive.

Correlation and causation
As a macro investor its imperative to have an appreciation of the possible drivers of a currency (note, these will change over time). At the same time it is important to realise that relationships are dynamic, often difficult to discern, and can be prone to total reversals. For example, the idea that a weaker yen boosts the earnings of Japanese exporters and supports the Nikkei is perfectly valid and can be observed in the data, but at the same time, the causality in this relationship is not unidirectional. A rapid decline in the Nikkei for example, has also been associated with a weaker yen (despite the above observations). That there are similar two-way relationships between financial markets and the real economy only adds to the complexity.

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Quoting abobtrader

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Over the past two days I closed out both the long USD basket trade and the long Woolworths trade. The WW trade produced a gain of 22.5% while the USD basket had the following payoff:

Short GBP/USD: Loss of 318 pips.
Short EUR/USD: Loss of 214 pips.
Long USD/JPY: Gain of 94 pips.
Long USD/CAD: Loss of 255 pips.

Note, this may not seem like a big loss in percentage terms, but FX trades always involve leverage.

I have provided a history of the ABOB Portfolio below. You can see that I had 9 winning trades in a row, and the USD basket could have been the 10th. What went wrong? In the financial markets, when I take a view I realise that I won't be right all the time, but I try to make sure I am 'betting on black'; by this I mean I don't like to trade on a whim, but I try to find a trade that has a skewed risk-return profile (in my opinion). This usually involves finding a security that I perceive to be in extreme overvaluation territory or extreme undervaluation territory. With hindsight, I can say that the USD was clearly not at an extreme and my trade was more akin to trend following. There is nothing wrong with trend following per se, but it doesn't suit my trading style. Furthermore, my view on the euro-US interest rate differential was proven wrong by developments that took place after I put the trade on, with the Fed signalling a less aggressive stance and the ECB moving to a more aggressive stance (at least in the eyes of the market). Whether or not the USD appreciates from here is not the point. The fact is that the world didn't develop as I had expected. Indeed, I am happy closing the trade before all the stops were hit.

http://i33.photobucket.com/albums/d5...olio3Small.jpg

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Quoting abobtrader

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http://www.federalreserve.gov/gifjpg/building.jpg

Last night the FOMC delivered a widely expected 25bps rate hike, taking the Fed Funds rate to 4.25%. After 13 consecutive rate hikes, the Fed's press release suggests they may be nearing the end of the tightening cycle. At the very least, the idea that the Fed is on autopilot beyond January is effectively dead - it would appear that as with the BoE and ECB, the Fed is also moving toward a stance where policy action is reactive, and dependent on the economic data. That intepretation of the press release means I can no longer rely on the interest rate differential story to lend sufficient support to the USD. It's true that the absolute differential remains USD favourable, but I think from here on there is greater risk of a more aggressive ECB than of a more aggressive Fed and so there is more scope for the euro-us differential to narrow than to widen. I'm not moving to a pro-euro position because my confidence remains low. Indeed, at present the ABOB Portfolio has no live trades on.

Here is the important text from the November FOMC statement:

With underlying inflation expected to be contained, the Committee believes that policy accommodation can be removed at a pace that is likely to be measured. Nonetheless, the Committee will respond to changes in economic prospects as needed to fulfill its obligation to maintain price stability.

..and from the December FOMC statement:

Nevertheless, possible increases in resource utilization as well as elevated energy prices have the potential to add to inflation pressures.

The Committee judges that some further measured policy firming is likely to be needed to keep the risks to the attainment of both sustainable economic growth and price stability roughly in balance. In any event, the Committee will respond to changes in economic prospects as needed to foster these objectives.

In my opinion, it is clear is that the Fed has moved away from the language that suggests policy remains accomodative, a signal that we are near the top of the tightening cycle. At the same time, the Fed is telling us there is at least one more 25bp rate hike on the cards if the economy progresses as the Fed forecasts. On balance, the concern about the upside risk to inflation suggests a good chance of a further hike, but other than that I believe it's anyone's game.

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