Tuesday, 3 February 2015

Membership Applications to Two Socially Unacceptable Clubs.

Yesterday’s post was a bit of a longer 'maybe' look highlighting longer term risks to the bond markets caused by any sudden change in perceived outlooks for deflation. 'Risk to the bond market' probably has you yawning into your screen as it has to be one of the most over thought, least performing and just downright beaten to death themes out there. The nail in the coffin was 2014 when the trade du l’annee was to be short bonds into the end of US QE. As we know, the result of that trade has left anyone even suggesting being short bonds liable to public pillorying or compulsory removal to the Zero Hedge comments column.

This derision and social stigma has almost pushed the short bond movement underground. I am picturing darkened allies, locked black doors with seedy characters loitering outside. “I’m here to see errrr, Mr Bond”, "and what is Mr Bond's first name?”, "Short’’, ‘Aw'right in you go’. Followed by a walk down greasy stone steps into a seedy cellar where a few tallow skinned, hollow-eyed, men fervently discuss, under a single bulb hanging from a frayed cable, how to short Bunds without anyone noticing.

Though the club has been running for years, I have never been tempted by membership, having been convinced for a while, well since 2008, that standing in the way of the firetruck that was sent to save our houses from burning down was not the wisest move. But with corporate bonds now trading negative yields ( Nestle bloom.bg/18JY07J ) I think it’s time to realise that this is getting as nuts as a really bad trip and someone has to grasp reason and go and put the kettle on.

So what is it with Bunds? They go up as Euro growth falls, they go up as Europe falls apart as spread trades sees them bought vs periphery, they go up as Merkel et al declare no new financing, they go up as ECB announces QE and they NEVER EVER go down. If Germany had any sense they would scrap the Debt/GDP rules on negative yielding issues, issue as much as they can, then send the whole German population on holiday as they don’t have to ever work again because the rest of the world is paying them to do nothing - which would make some European countries livid as the Germans take their well paid jobs of doing nothing.

One twist to the path of bunds has been that policy makers are targeting break-evens.  But we could suggest that break-evens are only falling because people keep buying bonds. And why are people buying bonds? With a hat tip to my old co-author 'Nemo', we can apply Goodhart's Law here and say policy makers' break-even targeting is being anticipated by the market and so they are buying bonds ahead of it. This bond purchasing then pushes the break-even down further encouraging more policy action. The break-even thus becomes useless as an indicator. The corollary would be that should the cycle reverse in anyway, the reinforcement will be reversed causing larger swings in the opposite direction,

So with  that added to my reasoning from yesterday (and lets add that JPM's global PMI just rose for the first month since last June) I think its time to sign the club membership forms and go short Bunds.

Not being satisfied with just buying membership to the ostracised club of short bunds, I am also signing up to the ‘you must be joking, are you nuts’ club of long Aud/usd.

the RBA cut rates today and on top of an outlook that predicts terms of trade to be through the floor on weak commodity prices it was enough to see the AUD slotted down by not far shy of 2%. But this could well be the sharp dump that is worth buying as commodity prices have all put in a recovery today, the USD’s run has run out of steam elsewhere and 2.25% is still infinately more generous than you can get lending to a chocolate company (see above). There is one other reason to buy AUD. When the whole aussie market is treating the words of the journalist Terry McCrann, as gospel you know the world has gone mad.

So having been a member of the 'blasphemous, but now beginning to be grudgingly recognised'  long oil club for a month or so there are two more dodgy clubs I have my membership application in for. However my subscription budget has meant I have have had to resign from the Long Chinese Equity club. It was great fun and hugely rewarding over the past year and I may rejoin at a later date.

If you don’t hear from me for a while, look out for my name to soon appear on a financial offenders registry and for me to be banned from approaching within 1 mile of a financial product.

Or worse,  I suffer this for financial blasphemy


Corey said...

What's next, bitcoin?!

Polemic said...

Corey, I know where you are coming from and that made me laugh as I did think to myself .. jeez I really must be careful not to paint myself into a corner that the bitcoiners could get me on. I'd stick live ferrets down my trousers before I bought bit coin

Nic said...

I like the price action in AUDUSD tonight but the level has me scratching my head.

Corey said...

..lol. I'll see your live ferrets and raise you one live lobster for the other side of that trade. I know, but, but look at how much its gone down. I might buy a few just for fun..only against EUR thou.

hipper said...

Well considered point on inflation expectations. If they (Dr. Aghi) really reacted with oil prices in mind and EZ indicators were already improving from a temporary cyclical low anyway (whatever that means) then they actually might get their inflation (oops sorry, growth I mean) shortly. Considering that, European bonds of all sorts are at very silly levels.

However this won't change the fundamental problem which are: CB can't print trade, can't force wages up, can't force spending and lending, can't slow down job destruction through efficiency improving in leaps, commodity oversupply (again through tech improvement). The current bottleneck with these operations are the distribution of funds not reaching those that have real needs to consume and thus would do so.

All efficiency and automation is really a huge factor, bigger than most people commonly acknowledge. What all of this development (still advancing in leaps) essentially means is you need fewer people in the total value chain to serve the same population base and thus lower capacity usage. I hear a lot of technology creating new jobs while it destructs old ones, that might be true but I doubt those new jobs in quantity are enough to compensate for the old disappearing ones in the big picture.

If they want really effective and wide-spread stimulus, why don't they take these kind of ideas seriously. Atleast in Europe they try, build roads and bridges that lead nowhere and airports and stations no-one uses. Good job, just keep at it and put all that huge efficiency improvement to work and dissolve that nasty supply glut of everything: