Wednesday, May 11, 2011

Speaking of currencies...

Heck if this is important, but I will post this anyway. It is an introduction to what will follow.

Below 2 charts.
- UK's Non-EU Trade Balance, 12m rolling sum, in 10^6 GBP.
- UK's Total Trade Balance, 12m rolling sum, in 10^6 GBP.

The trend seems clear. An american high-school cheerleader would say something like "Oh. My.God. The Industrial Revolution is soooo 1800's".

The country has bad deficits, high debt-to-GDP, banks that were nationalized, activity that has been stagnant for the past 6 months, high unemployment, high inflation and still loose monetary policy. Did I mention they're tightening fiscal policy (still loose). Issues with London losing the battle against other global financial centers.

Would you like to buy Sterling? Only if I had the time to go check out the Royal Wedding, my friend!

The GBP is included in the "Printing-Presses" currency category I have here on my side together with the USD and the EUR.

The JPY should be included also as these guys are THE owners of Canon, Kyocera and the likes. They MASTER the skill of printing. They invented Quantitative Easing! BUT, on the other hand, since their stocks have moved down 75% since their bubble peak in 1989-90 and their bonds can't go much higher (bad risk-reward, 30year @ 2.03% with 105% net debt/GDP, 200% gross debt/GDP, bad demographics, low savings rate) they have been investing abroad for years. Their stock of wealth abroad is massive. So, contrary to what is considered common-sense for every other country in the world, the japanese currency, the yen, actually appreciates when there are market stresses. Natural disasters, financial disruptions, etc, all make the Yen go up, especially against the USD. Wow. Now add positive net-exports flows... Positive current-account... and you get the Central Bankers of the world intervening in the market selling the yen to try to stop the trend. Right after the earthquake we heard from a currency dealer 'Our yen books are cleared now. ALL stop-losses have been triggered". That was right after the JPY rose 3.80% in 15-minutes. And the BoJ came to the market.

So if I were to add the JPY to a basket of currencies it would be on the 'long vol' side. Buy long-term deeply out-of-the-money YEN puts while buying some spot JPY. Why? Well, it seems to reduce the overall volatility of the basket in periods of stress.

A basket I am very interested in at the moment is:
- short USD, EUR, GBP (33% each), perhaps short 3-5% AUD.
- long BRL, CLP, CAD, NOK, CHF (30% / 15% / 20% / 20% / 15%)

I'd include the JPY on the long side @ 5% of the basket, to reduce stress-volatility, increase the sharpe of the trade, taking 1% from each other currency, like the CHF.

This basket has a decent carry, especially nowadays!, bets against bad balance sheets and negative real interest rates.
The long side is structural commodities + higher growth + better stablished banking system (CHF = gold) + bit better demographics

It has performed very well since the end of the crisis, 15%+ since June 2010. And I expect it to keep performing well.
Downside risk is massive stress, like seen in 2008, before the printing presses are set to full-throttle again.

Even though the long-countries have better balance sheets they're still net-debtor. A lot of foreign capital within these economies that could be pulled out. Their higher growth is of course dependent on that. Not to mention their foreign reserves that contain US Treasuries, etc.

Anyway... Currency trends tend to last for years, decades and I do not think we're at a turning point yet. If you consider the drivers of growth on the two sides of the equation here I believe the basket is looking good: (A) population growth + (B) marginal productivity gain. The only time this doesn't work is when there's no capital to support A+B, which is global financial stress.

So... what do you think? Emails to are welcome with a brief background of yourself.

*Disclaimer: charts and data are presented as I receive/see them. Sources are usually not checked for validation and my own calculations are of 'back of the envelope'-type. I am aware that some math that I do myself might be wrong and/or misleading to some extent. In financial markets the rate of change of economic data is often more important than the actual level and the perception of 'what is priced in' is more important than 'what is actually going to happen'. This is actually the way people pick entry and exit points. So... yes, sometimes you might say 'This guy is an idiot, this is way wrong!' with a high conviction, being right. Not to worry. Markets are made of expectations and the clash of conviction between its participants. Portfolio managers know that being an idiot is sometimes profitable and being smart is often a bad choice. It is all reality, sometimes good, sometimes bad. By the way: corrections to my analysis and intelligent debate is welcome. theintriguedtrader AT gmail do com

No comments:

Post a Comment