2022.02.14 Weekly Note

Staying Short NASDAQ EUR, Long USD and JPY

Taking stock of current newsflow for this week’s note as there is a lot of hot topics and narratives for markets to digest at the moment:

NEWSFLOW

RUSSIA

• U.S. says Russia may create pretext to attack Ukraine (Reuters) Washington says door for diplomacy remains open, Russia calls U.S. warnings of invasion ‘hysteria’, U.S. vows to defend ‘every inch’ of NATO territory
• Standoff With Russia Over Ukraine Heads Into Most Tense Week Yet (BBG) Weekend call between Biden and Putin produced no breakthroughs, U.S. says Russia may plan Ukraine attack as soon as this week
• Russian Invasion Peril Is Driving Oil Prices Near $100 (WSJ) Spare supplies of oil and gas are limited globally as demand rebounds faster than production, making a Russian move on Ukraine a serious geopolitical risk event
• Russian Buildup Near Ukraine Features Potent Weapons Systems, Well-Trained Troops (WSJ) The more than 130,000 troops Moscow has in the region are still too few to seize and occupy the whole of Ukraine country, according to U.S. assessments. However, the deployments provide Russia’s commanders formidable advantages.

INFLATION

• Inflation Hits Another Four-Decade High. Prices Rose More Than Expected (Barrons) the [CPI] report showed price gains broadening out to affect nearly every category and all but solidified expectations that the central bank will increase interest rates at its March meeting. It also heightened concerns that inflation could last well into the middle of this year, if not longer, particularly given rising shelter costs that are likely to keep climbing for months.
• Inflation Is Everywhere, Including Places You Might Not Expect (WSJ) Beyond higher prices for materials, shipping or wages, inflation is hitting U.S. companies in less-obvious ways, seeping into legal costs for Marlboro maker Altria and auto-repair bills for insurer Allstate.
• Echoes of an Inflationary Peril of the 1970s (WSJ) The economy has changed in a number of ways over the past half century, but there’s still a risk that inflationary dynamics can re-emerge
• What CEOs Are Saying: ‘We See Inflation Going Up Everywhere’ (WSJ) Leaders from PepsiCo, Disney, Chipotle and other companies share their thoughts about pricing strategy, the pandemic and travel.

CENTRAL BANKS

• SGH Macro Advisors Economist Says Intermeeting Rate Rise Possible
  The Federal Reserve is “deeply behind the curve” on trying to get inflation under control, SGH Macro Advisors economist Tim Duy wrote in a note to clients on Thursday, adding that the central bank is on track for the equivalent of seven quarter-percentage point rate increases this year.
• RBC Capital Markets Asks ‘Is Bullard the Problem or the Solution?’
  Comments by Federal Reserve Bank of St. Louis chief James Bullard on Thursday regarding the need for a 50 basis point rate increase and the possibility of a liftoff before the Fed’s March meeting roiled markets and raised questions about the weight of a single regional Fed bank president’s views.
• Bank of England Begins Talks With Debt Office on Sales of QE Bonds (BBG) Bank will consider active sales once interest rates hit 1%, Markets currently expect that threshold to be reached in May
• Bank of Canada Gov. Macklem: Current Rate of Inflation ‘Too High’ (WSJ) Bank of Canada Gov. Tiff Macklem said Canada’s current rate of inflation “is too high” and requires a pivot in monetary policy to return increases in the consumer-price index back to the central bank’s 2% target.
• RBA Likely to Raise Cash Rate Four Times by Year-End (WSJ) The Reserve Bank of Australia could raise interest rates four times in quick succession late in 2022 given the current upward trajectory of the economy, according to economist John Edwards, a former member of the central bank’s policy-setting board.
• Tokyo’s Bond Traders Brace for BOJ Intervention Amid Haven Bid (BBG) The Bank of Japan is offering to buy an unlimited amount of 10-year bonds at 0.25% in a bid to cap the recent rise in yields.
• Russia’s Latest Jumbo Rate Increase Likely Won’t Be Its Last (BBG) The Bank of Russia delivered its third 100 basis-point hike in interest rates in less than a year and said another increase is possible at one of its next meetings in the face of intensifying inflation risks.
• Banxico’s New Chief Plays It Safe by Following Rate Hike Script (BBG) Victoria Rodriguez backs hike in first Banxico rate meeting, She sides with five-member board majority in expected decision
• PBOC’s Rate Decision Sparks Debate as Economy Comes Under Strain (BBG) Some say PBOC needs to cut rates now to spur credit demand, Others argue more evidence of slowdown is needed before cut

POLITICS

• Democrats, Republicans Stop Fighting, Start Passing Bills (WSJ) With President Biden’s agenda stalled, parties are working together on legislation related to the Post Office, sexual harassment and voting laws.
• U.S. Political Party Preferences Shifted Greatly During 2021 (Gallup) [A month old but a decent piece summarizing US political sentiment]
• Canadian Police Clear Protesters Disrupting Cross-Border Bridge Traffic (WSJ) The police arrested protesters to clear access to the crucial Ambassador Bridge connecting Detroit with Canada, over which hundreds of millions of dollars of goods are transported daily.
• UK’s Met Police send questionnaire to PM Johnson (CNBC) The Metropolitan Police are contacting more than 50 people believed to have attended lockdown parties at Johnson’s Downing Street office and residence to explain their involvement.

OTHERS

• Goldman lowers official S&P 500 forecast and also evaluates what a recession would do to stocks (CNBC)
• Omicron’s Threat to the Global Economy Runs Through China (WSJ) The U.S. and Europe are learning to live with the virus, but Beijing’s zero-Covid strategy could lead to recurring lockdowns and limit exports the rest of the world relies on.
• Nike’s Supply-Chain Snags Bring Pain to Sneakerhead Shops (WSJ) The company’s ongoing production and shipping constraints are squeezing independent sneaker boutiques, which are sometimes waiting months for key designs.
• Why British Stocks Are Outperforming the U.S. (Barrons) In addition to the lack of tech exposure, the U.K. market’s outperformance reflects outsize weightings in hot sectors: energy, materials, and financials.
• Wood’s ARK Stays the Course, Betting Big on Innovation (WSJ) Cathie Wood’s flagship ARK Innovation exchange-traded fund has bought more than $400 million of high-growth stocks over the past two weeks.
• ‘Fun Police’ Made Elon Musk Carry Out Latest Tesla Recall (BBG) Tesla restricts Boombox feature after months of back-and-forth, CEO tweets jibe at NHTSA after 11th recall since October

LAST WEEK’S ACTION

Despite the negative news flow and sentiment in the US, particularly in the latter half of the week, FX EMFX Bonds and Commodities performed surprising well last week — should be worth keeping an eye on cross-asset moves this week on that setting. Also the FOMC minutes is released this week and should add some colour to the mostly hawkish commentary from FED members.

EQUITIES

TAIEX led gains presumably due to the strong earnings by chipmakers while risk aversion was mostly limited to the US. I would consider the broadly positive week for global equities to be along the lines of a ‘bear-market rally’ and ‘value-buying’, rather than anything positive.

MSCI World maintaining the ‘roll-over’ shape as it reversed the week’s advance in the latter half of the week…

Developed and Emerging Markets also reflecting similar price action which shouldn’t come as a surprise given these ETF’s are also traded in the US, but worth seeing how cash markets respond this week on the above setting.

US large-caps led losses while smaller-caps performed reasonably well. Commodity related stocks performed well paritcularly Energy putting in the highest close since 2018. Financials marginally positive, other sectors including defensive stocks closed around or below lows of prior weeks.

Equities were flirting with neutral gamma territory before the late week selling and now fairly deep in negative again.

GEX shows much of the gamma from the end-of-JAN sell-off has neutralized in recent weeks and if this continues to build more negatively, we should see delta hedging flows return, adding to downside risks.

Volatility risk premiums have started point upwards, as hoped (marked out in Yellow from last week’s note). Volatility picture is looking more likely we are gearing up for the next leg lower.

RATES

Surge in front-end yields and overall bear-flattening trend continues. This gem sums up the action perfectly:

In addition to the minutes, there is a good number of FED speakers on the calendar this week. One might wonder whether Ukraine tensions or the increasing prospect of the yield curve inverting more rapidly could prompt them to soften their hawkish tone, I think they will stay the course however, simply to address their price stability mandate.

Fed Fund Futures market now implying more than 6 (25bp) hikes this year and 1 or 2 more next year.

10 year nominal and real-yields pushed to new highs last Thursday while the Bond volatility MOVE index made another leg higher last week where equity volatility and USD strength tends to follow.

COMMODITIES

CRB commodities index pushing highs while the ex-Energy index (Purple) has decoupled mid-week following the move in Equities lower. A notable moment in commodities was Jeff Currie (head of GS Commodities) saying “I’ve been doing this for 30 years and I’ve never seen markets like this. This is a molecule crisis. We are out of everything.”

Oil futures curve is in massive backwardation with tightness of Supply against the surge in Demand. Bullish bets for above $100 Oil from CFTC options data for JUN to DEC 2022 expiries exploded to unprecedented levels. Also while China and Russia news might negatively impact markets, any further escalation will probably add to ongoing price pressures via Oil, commodities and high supply chain costs.

FX

In FX, momentum has turned in favour of USD JPY CHF strength late last week after hawkish FED commentary triggered selling in risk. EUR suffered from sudden move in US rates and GBP continues to be resilient with the market continuing to believe the BOE will stay proactive. Commodity-Dollars and EMFX pared gains in tandem with the risk selling.

EMFX was particularly resilient against cross-asset moves and I now suspect this is due to relatively more aggressive EM vs G8 Central Banks.

Last week: I mentioned “Charts are still looking bearish for the most part and I favour fading strength this week. I also think USD will make a come back and make new highs.”

While USD is still off the recent highs, I think it will get there due to continued risk aversion and a relatively more aggressive FED and stronger inflation pressures experienced in the US than Europe. Also CESI shows data surprises have been moving in favour of the USD and EMFX, while turning lower for EUR and CNY.

TRADE VIEWS/IDEAS

• I continue to maintain and trade around core Nasdaq short and USD and JPY longs.
• Attempted a USDZAR long last week but without success. It seems my reasoning isn‘t quite right with respect to aggressive monetary policies among EM Central Banks and their lack of sensitivity to US rates. In fact, EMFX long on dips might be the way to go when I feel the time is right.

• Taken profits on CADJPY with a small portion left to run as I gradually shift towards EURJPY short for a cleaner exposure to market risks and relative momentum in Economic data (CESI).

Have a great week trading!