Posts tagged yield curve
Value Strikes Back

That screeching sound you heard in equities last week was caused by a train wreck underneath the surface of a steady uptrend in the market as a whole. The hitherto outperformance of growth and momentum reversed sharply, a move that coincided with a steeper curve and a tasty outperformance of value and small caps. The dramatic rotation across equity sectors, and the steepening yield curve, vindicate the story peddled on these pages recently. But the question is whether this is the beginning of a sustainable shift in markets, or whether it’s merely an invitation to buy the dip in an eternally winning strategy? It’s difficult to say. Robert Wiggleworth’s expertly written overview of the flurry in the FT certainly suggests that strategists have taken note, equating last week’s gyrations to the so-called “Quant Quake” in 2007. Apart from the fact that the event is significant enough to merit at least a small footnote in modern finance history, the quotes garnered by Robin indicate that strategists are at least mulling the idea that the shift has legs. This, in turn, presumably means that they’re advising their clients to run with the reversal, which almost surely would do nicely for the portfolio

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Not long now

Too many themes have caught my attention recently, so I’ll stick with some points on markets this week, leaving my more discursive thoughts for later. I think two things currently are serving to make sure that markets resemble deer caught in the headlights. For starters, Mr. Trump’s Twitter feed is keeping everyone on edge, whether they like it not. Markets clearly are moving as he tweets—no matter how crazy the statements—and to the extent that the president is using his executive powers to affect policy, he is liable to announce it on Twitter, even if he does decide not to go ahead. This makes Trump’s twitter feed a bit like nonfarm payrolls. Everyone knows that it is a lagging indicator, that it is heavily revised, and notoriously volatile due to seasonal adjustment and sampling issues. Still, knowing the headline in advance can make you a lot of money. In short; traders have to stay alert to Mr. Trump’s volatile ramblings. Secondly, markets are waiting for the decisions by the Fed and the ECB later this month. Further easing is all but guaranteed from both central banks, but expectations are elevated, increasing the risk of a disappointment. In any case, it is fair to say that whatever they actually do this month, the guidance from messieurs Powell and Draghi will be just as important as the actual actions taken by the FOMC and ECB.

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Circular Reasoning

It’s easy to trip over trying to formulate a market narrative at the moment. One interpretation of the dramatic decline in global bond yields is that the smart money is de-risking their portfolios ahead of global slowdown and a rout in equities and credit. The ramp-up in the global trade wars, and still-soggy economic data seem to confirm this version of the narrative, but it is also a somewhat naive story. The global economy is not in perfect shape, but it is hardly on the brink of a recession, especially not since it is usually coordinated tightening by central banks that push the major economies over the edge in the first place. The market is now pricing-in one-to-two rate cuts by the Fed this year, and three in 2020. The money market curve in the Eurozone is even starting to price in the idea that the ECB will further scythe its deposit rate below -0.4%. The argument in the U.S. is particularly delicious. Last year, the consensus was angling for a recession in 2020 based on the idea that the Fed was in search for a “neutral” FF rate at about 3%. Now that the Fed has thrown in the towel, the idea is that it will cut rates to prevent the recession that it itself was supposed to have sown the seeds for in the first place, by hiking interest rates.

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The End of Easy Street

One great quarter down, only three to go to wash away the horror show of 2018. The portfolio did well, though it is still bogged down by a number of single names which are beginning to look a lot like value traps, of the nastiest kind. I am, as ever, optimistic about redemption in coming quarters, but I fear that the retired Macro Man, a.k.a. Bloomberg strategist Cameron Crise, is right when he says that; “the sobering reality for asset allocators is that the returns of balanced portfolios are going to struggle mightily to approach anything like 1Q performance.” It won’t be as easy for punters from here on in, but they’ll do their best.  Bond markets have taken centre stage in recent weeks, aided and abetted by significant dovish shifts in the communication by both ECB and the Fed. The result has been a heart-warming rally in both front-end and long-end fixed income, or a pain trade if you’ve been short, and the U.S. yield curve showing further signs of inversion. The 2s5s went a while a ago and now the 3m/10s is gone too, which, apparently, is a big thing. As per usual, economists and strategists are squabbling on the significance of this price action, and I doubt that I’ll be able to settle anything here, so I will stick with the grand narratives, which are tricky enough. 

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