Is it the machine or the input?

THE US election would be pure comedy genius if it didn’t involve handing the winner the keys to a huge global arsenal of nuclear weapons. To be honest, I glazed over listening to the intricacies of who did what in the Clinton camp as the detail transcends the boundary of concern. Just as the detail of which artery a sadistic murderer cut first is beyond my concern, as I have already decided I wouldn’t be inviting them round for dinner.

The whole idea that democracy results in choosing between Trump and Clinton should really demand examining the process of how we got here. Potentially knocking down the old structure and starting afresh. US democracy is as fit for purpose as a large banks' IT platforms. At least the banks have realised the need to evolve.

In the depths of history when I was a junior trainee probationary assistant dealer (that role would have been titled ‘director’ at a US bank) we had to plug data into a computer each day to work out the associated costs of lending and these were added to client borrowing rates. Because this was a menial task it was given to the lowest ranking staff, whose turnover was pretty quick. Now, the computer itself was impressive, it had a nice green screen and stood alone in a different room. Its awe-inspiringness meant that its output was never questioned. Which meant that the whole system was never challenged. This was a problem because, though the output was valid, the input was not.

As each new junior inputer was shown the ropes, the instructions passed down from their predecessor changed slightly, Only slightly, but an important sightly. The original instructions were to find the values of the input variables and input them. However, at some point the instruction had been passed down that you just input these numbers. From then on variance in the input numbers ceased and hence the output became fixed too. For months the same numbers were input as that was what the juniors had been told to input and what they told their successors to input. So out came the same answer. When it did finally come to light months later, via an accountant in a distant part of the bank, the bank had lost a fair chunk of change.

But the point of the story is that this was a case of thinking the system is infallible but completely missing the human input error. The shininess and the complexity of the machine had everyone believing that the system was pretty foolproof. Which is exactly what we have with the US elections. Though the machine may be huge, complex and exceedingly expensive, someone needs to stand up and question how the output can be so at variance from what should logically be expected. Now, either the machine is broken, or the operators have been feeding in the same garbage for so many years they have forgotten the purpose of the process.

The US has many very clever people living there and I wonder how it can be that they don’t stop the process or put themselves forward as inputs. But I think I know the answer. For the same reason that a real expert doesn’t bother appearing on the BBC News, instead leaving the BBC to interview other journalists or Diane Abbott. There is no upside.

But we are where we are and our only hope is that whoever ends up with the nuke codes doesn't either use them to open up new coal seams in Pennsylvania or use them as passwords to their private online email account, the @imtotallyemailsecure.ru one (sorry I thought it meant "I’m totally email secure, are you”?). It’s still going to be a close call on the night and I will probably buy some USD/MXN as that is the FX Trump-o-meter.

Meanwhile, in the UK someone has decided that Carney must go because his forecasts on the immediate outcome to Brexit have been off vs 'the now'. Oh come on now! If we were to fire or lock up every economist or strategist who had made a booboo with their call, the LSE might as well be teaching gun crime. I haven’t been a fan of Carney’s but attacking him now, before things do get rougher with Brexit, is nuts. Mind you, if he does go could we replace him with Guy Debelle please? Similarly from a commonwealth country (Deputy Governor of the RBA) but brilliant. Probably brilliant enough to run a mile if offered the post.

That’s it for now. Trade ideas? Nah, no upside.

Positional retrospective

It’s been a tense few weeks in Polemic Towers with market positions being whipped all over the place and it has taken a strong nerve to weather through but today it finally looks as though my positions are paying off so it's worth having a look at them again.

Long USDJPY - instigated at the end of September after the markets had decided to buy yen post BoJ when perhaps it should have been selling as described here http://polemics-pains.blogspot.co.uk/2016/10/yen-bomb.html. Happy to run this.

Long USDTRY- Long since the coup after the initial pull back to 2.96 area. My core beliefs that Turkey is in trouble re regional positioning and FDI flows vs trade deficits is unchanged. Seeing it break up through the post coup highs to now trade around 3.12 looks like we are finally on the move. That 'CB may not cut' move from 3.10 to 3.06 was indeed just a buying opportunity. http://polemics-pains.blogspot.co.uk/2016/07/turkey-they-think-its-all-over-it.html

Short BTPs - Short since the ECB in September and going well in the run up to Italian referendum and a general rally in global bond yields. the 50yr BTP auction appears to have been a watershed moment for them. I go along with the general concern that bond markets are the nuclear waste of monetary policy and their toxic legacy is not easily disposed of.

Long Oil - Its had a good run and is now languishing around the 50 area and I am not so sure about another up leg but I am still biased for higher as no one really seems to believe that OPEC can get it’s act together. Whilst developed markets demand may be substituted with renewables I can’t forget the exploding global population in the poorer countries who as they emerge from abject poverty are going to be buying a moped, cultivator, generator or old car before they get wired up to a renewables grid. Oil burning is still the first step out of poverty.

Now the messy bit - Long GBP via EUR and USD. EURGBP is onside and less of a worry than the cable part which has been whipping around like a cow’s tail in a fly infestation. I am one of those flies trying to hang on to longs but it is hurting. I am spending far too much time watching price action and  willing to cut sub 1.2050. 1.2250 has been behaving as a very difficult area to break and some of the short-term price action on any approach had that feel of ‘someone is working a lot to go over time at that level’ feel to it.

Short FTSE - It’s been correlating well inversely to GBP, which was the original plan to be short it and long GBP, but it’s now underperforming the GBP moves looking weaker on its own. Which can be read a couple of ways. First, its global equity weakness coming through in general not helped by bonds are looking iffy (higher bond yields, higher borrowing costs for highly leveraged debt etc). OR and this is confirmation bias at it’s best in my brain, It's showing that the belief in GBP weakness is fading otherwise everyone would be buying FTSE, No actually, I don’t think I can bend that one to fully fit.

Meanwhile in commodities, though I haven’t been talking about them, some buried deep long-term structural positions are heavily weighted towards commodities, mostly through producer stocks. Rio has done well and the rapid rally in coal prices has caught a lot of folks out as coal had been pretty much written off as having any use in the new energy world. But Chinese stockpiling must have breathed new life into the east coast of Australia to the point that the AGDF ( Aussie Goes Down forever) trade may be worth playing against. Copper has been pretty much range bound and though I tried buying bounces 6 notes ago it won’t be on my radar until it breaks properly. Supply side seems to be driving price more than demand. But overall I am happy to run long commodity position sin the deep dark recesses of guy bottom drawer trades.

Trump to win bets. I'm very happy to let them expire worthless, and hope that they do, but still think that prices may well rise during the election themselves which ill give an opportunity to sell

What next?  The only thing tempting me is Short Vegemite vs long Marmite. The spread spread. It encapsulates stupid UK politicians, Long Aud, Short GBP and a long Unilever vs Tesco. And I prefer marmite.

So that’s it. Watching and waiting and wondering.

EU Trade Singularity.

The financial markets are preparing themselves for the US election. I know this not because of direct feedback from fund managers, but because I have had calls from various trading entities advising me that margins on my trades are about to go up through the roof over the period of the US election. Which makes a change from blaming Brexit for the price of everything else going up through the roof.

Inflation is coming to the UK. But it’s only Japanese inflation. The type that comes with FX moves rather than wage cost increases and as such is transitory but nonetheless unpleasant. I have already been out and bought everything I could possibly need for the rest of my life and stashed it away in a big barn. Of course I haven’t, but hoovering up car parts for the fleet of old German badged cars on my drive may not be so silly. I may even be able to renegotiate another 5 years of storage space in the garage from my wife for the BMW 328i auto gearbox I have had in her way there for the past 5 years. As I used to say "Well, you just don’t know, dear, when there will be a shock referendum resulting in the UK leaving the EU thus driving up used German car spares by upwards of 20%”. That showed her.

But global inflation is a different beast and though there are signs that it is on the turn it does need to be global and for it to be anything other than just FX driven. It needs to be linked to global wages. China is already pushing prices higher but I am still confident that the world has enough cheap labour to see substitution production occur before the big one kicks in. Unless, of course, we go 'protectionist', which is so de rigueur these days.

If there was a Nobel Prize for ‘Greatest contribution to protectionism’ it would currently have to go to a small region of Belgium that has somehow managed to upset the whole of the Canadian / EU trade deal. I was scratching my head over this until, whilst watching my new favourite Netflix series “A Very Secret Service ”, I realised that it was, of course, because the EU don’t actually want a trade deal at all. It is such a French thing to do. Set up such a complex set of rules that you know there will always be one small one standing in the way of any change. If you want the change to occur you ignore the small thing stopping it and if you don’t want it to happen you blame the small thing stopping it. Finally, if you change your mind, you pillory the small thing that was stopping it and laud oneself for such direct positive action. Sound familiar to the management actions over the LIBOR and FX fix cases?

So either the EU had no intention of getting a trade deal done, which just shows where the protectionism really lies in the world (lets add German blocks on Chinese M+A), or this is a prelude to annexing Wallonia properly into France as ‘punishment’ for preventing the Canadians from speaking French in a more French way, or whatever was in the deal. I do wonder if the UK were staying in the EU, Cornwall could have pulled the same stunt citing lobster competition. I doubt it somehow.

At this rate trade in Europe is going to be solely limited to within Europe and the place is going to vanish into its own trade singularity crushed under the gravitational pull of its own regulation to the point that any negotiation falling beyond the EU event horizon will never be seen again. But the EU singularity is not completely black. Hawking radiation will occur at the event horizon, otherwise called Brexit radiation. Here paired virtual particles pop into existence with the pro-EU one falling into the singularity and the anti-EU particle being radiated out into space before it can be captured. As Canada has found out, approach too close and the huge gravitational tidal forces can rip any deal apart long before it actually becomes absorbed into the EU singularity.

The fate of these singularities is complex. Some theories suggest that they last forever getting larger and larger, whilst some say that they just fizzle away as they continue to radiate away mass through Brexit radiation. Yet a recent theory suggests that they can, due to quantum gravity, explode into white holes, which are the exact opposite of black holes and spew all the mass they have trapped back into the universe. Well, that would be an interesting outcome for the EU if it flipped into a deregulated, open, free trade organisation based on independent countries bonded by common ideals. Wow, Supernova!

The Brexit Quiz

With the markets basically doing everything they can to look as though they are going somewhere when in fact they aren’t, it may be time to fill the gaps with a Brexit quiz.

Brexit is -

A toasted cheese and gherkin sandwich.
A game very similar to Jenga where you pull out the bricks until the structure falls down.
The nickname of that weirdo in the pub.
A Russian conglomerate
A numbers puzzle on the back page of the newspaper.
An adolescent nickname for a part of the male body

Hard Brexit is

A Brexit you forgot to wrap in clingfilm and left out all night.
A Brexit game where all the pieces are spherical.
The guy in the pub with all the tattoos on his face
The arms arm of a Russian conglomerate
A Brexit you do on the train to impress your fellow passengers
Takes over all rational thought at the time but in the cold light of day is awfully embarrassing.

Soft Brexit is

A Brexit in a bap.
A Brexit game for 2 year olds made of foam.
The guy with the tattoos once he gets a puppy.
The hacking arm of a Russian conglomerate
A Brexit printed on lavatory paper for small room amusement.
Completely normal though you may end up paying your neighbour for a hand to make it work.

Article 50 is

A heaving overpriced bar in the City.
A micro art gallery down the road at number 50
A Kings Road clothing store.
A scrap of clothing in an evidence bag in a murder trial.
A rumoured part of an extraterrestrial housed in a warehouse in a desert.
A Turner prize entry resembling a turd.

EEA is

A country code on the back of cars from somewhere in eastern Europe
A Greek beer
Environmental [something] Agency, whose signs stop you swimming in rivers.
An Australian flightless bird.
What a Canadian replies when asked which phone service they used in the UK.
A US college fraternity house.

Sterling is

A fraction of an old Pound.
An engine driven by temperature differentials.
A rather dapper old racing driver.
The work that our mighty British politicians are doing to make Britain great again
What a local from Birmingham calls a migratory flocking bird.

Single Market is

The old place in town that smells of cows.
Speed dating.
A vinyl record store.
Elon Musk’s ambition with him the only one in it.
The financial equivalent of a black hole.

Eurozone is

A nightclub on Playa De'n Bossa
A boy rap band prounounced "Euros-One"
A remake of the Twilight Zone
A no loitering drop-off area outside St Pancras and Gare du Nord stations
10 cubic megaparsecs of space under the control of Lord Zarg the Destroyer.


Free movement of people is

A Bob Marley song
A marketing strap line from a colonic irrigation provider.
Borderless printing.
St Vitus Dance (ergot poisoning).
A Ryan Air promotion but issuing you the boarding pass will still cost you £1000.

The words "Brexit means..” are always followed by

Brexit
Beanz
What ever you have always wanted but felt too stupid to ask.
An interminable argument based on something unprovable.

How much will Brexit cost/save the UK economy

8
2000
7 googolplex
i
A much as it takes to persuade you to change your mind.

If an economist is asked about a political outcome of `Brexit' they will say

What they want to happen.
What they don’t want to happen but they’ve warned you and it’s going to be a disaster.
It shouldn’t be up to politicians, let alone voters.
They will wait for the data.

Soft Brexit. It's not that hard.

I spent a lovely evening in the company of those who participate in financial twitter. Lovely bunch, A smattering of buy and sell side and a cadre of journalists. But they nearly all had something in common. Mention that you thought Brexit would turn out Ok and you were mostly greeted by stunned gasps.  Laying out a route where it could be OK which involved a soft Brexit along the lines of an adaptive EEA was seen as heresy.

Yet this shock was coming from folk who were 'Remainers'. Surely if they were so in favour of remaining they would support the idea of a soft EEA style exit as preferable to the diamond-hard Brexit that the market is expecting (or rather was, I'll come to that later) rather than arguing vehemently that it wasn't going to happen and instead, all their greatest fears were going to become reality. This was a behavioural clue. These Remainers wanted to remain so badly that getting most of what they wanted through an EEA was just too terrible to think about and they'd rather see Armageddon than see things turn out OK against their protestations otherwise.

So, the basic notion that was being proposed to them went something like this -

 May and Rudd completely messed up the presentation of Brexit plans last week, to the shock and horror of all those in Washington on the IMF circuit, but what they said did not mean that heading down an EEA route was out of the question. Whilst the media got excited about the statement about immigrants only being allowed in if they had a job to come to, this is in effect exactly what Norway has in place at the moment. There is a difference between limiting the flow of needed workers and limiting the flow of all people. In fact, if we look at the Lichtenstein model, which the EU agreed to, Lichtenstein can take up to 90 immigrants a year. Now if you pro rata that up to the UK levels it's about 150k. This is over May's target but eminently fudgeable. Heading down an EEA  route removes the UK from under the jurisdiction of the European Court of Justice and instead parks it under EFTA, which interprets European Law for the non-EU members. So that's the open borders and ECJ issues handled.

More importantly, it is pretty obvious, as the Remain argument has pointed out, that the process of leaving the EU is gong to be long and tortuous and needs a transitional agreement whilst everything gets sorted out. The soft option could easily be accepted by all parties under a transitionary agreement. Why would a soft EEA style, or 'EEA lite', route be accepted by the EU? Supply chains.

Supply chains are so intertwined these days that disruption causes 'butterfly' effects around the world. The 2011 Japanese Earthquake was a case in point. The microchip maker Renesas was knocked out and suddenly the main ingredient to automobile engine management systems was unavailable. Car manufacturing around the globe staggered. Even when you did get a car they were only available in certain dull colours as the paint factories were also out of commission. A hard Brexit will not take out physical supply and the effects of price, with respect to tariffs, can also be adjusted for, but the legal complications are going to take much longer to adjust for. Even if top level Euro politicians may be sounding flat-out against any compromise, those around them know that upsetting the global supply chain is worth avoiding if at all possible.

A handy EEA style package sold as a 'transition' would be sellable within Europe as the UK are seen to be under some EU directive but without the benefits, in other words worse off in EU eyes,  whilst it would be sellable within the UK as the immigration issues will have been addressed (remember we would move to freedom of labour within quotas rather than unlimited freedom of movement of 'people' ) and the UK would be out from under the ECJ.

Now the cunning part would be if someone forgot to add a sunset clause, or expiry date, on the transitional agreement. If the transitionary period went well and everything stabilised it could easily be seen as the new norm and any thoughts towards changing it quietly dropped.

So that was  the basis of this evening's debate.

As mentioned in yesterday's post the world is currently discounting diamond hard Brexit, with the US doing what they do best and missing the nuance. The noise from the States has so many similarities to those expressed during the Eurocrisis. It was black and white, though mostly black. We can also note how the US time zone has seen the biggest legs down in GBP over the last couple of days.  So any hint that the ideas discused this evening may be a possibility should see the pound rise fast. If May's speech caused a 4% drop in pound then that could easily be reversed on glimmers of hope for a soft exit, even if it was wrapped in barbed wire at the Tory Party conference. May and Rudd may have thought that they were just rallying the troops at a non-election year conference but they seemed to forget that the whole world was watching. Yet listen to what they said and none of it is inconsistent with current Swiss of Norwegian conditions.

So, having had this debate in the pub, I get on the train home and see this.

#Newsnight has learned UK govt may be prepared to continue paying billions to Europe to retain access to markets and other rights

Boom. What fantastic timing considering what we had been suggesting in the pub and up goes GBP/USD by 150 points. But considering where we have come from this really isn't much (so far). For me, this is a game changer. Yet the newsfeeds and Twittersphere haven't gone wild over it (yet). Probably because, as I found out at the beginning of my evening, the narrative is for Brexit disaster and the idea of a soft exit doesn't fit with that narrative. Well, guess what? The narrative just changed.





Positons -
Long GBP/USD (added)
Short EUR/GBP
Long USD/TRY
Long USD/JPY
Long Oil
Short BTPs
And now short FTSE futures. GBP has rallied and FTSE has hardly budged. FTSE is up on weak GBP and a reversal will see it play catch up with the rest.

Oh me of little faith.

Whilst the bickering in US politics continues, I wish to avoid comment and instead go back to the once mighty pound, though I do note that the Trump hedge has just become cheaper.

I will put my hands up to being flabbergasted by the Tory party statements last week. The ones that flabbergasted the rest of the world with their implications of returning to the UK being run along the lines of old golf clubs. May and Rudd’s speeches catapulted international expectation of the UK’s Brexit outcome to one of isolationist arrogance.

Now, one of two things can happen. Well actually one of many things can happen but let’s stick to two. The UK government can learn from the global reaction and bend to a more conciliatory line or they can carry on the path to the 1950s, complete with the dream of a new UK car industry producing 1950’s quality cars (I'll have an Austin Healey please), coal mines, Blackpool holidays and, why not, even bring back Pounds, Shillings and Pence.

I am praying that the feedback of international reaction, via the diplomatic service, bends policy and some of the more draconian members of Cabinet are let go. Liam Fox may be a great chap to go for a beer with, but his understanding of diplomatic nuance is somewhat truncated and from what I gather the civil service has, allegedly, already written him out of process. But when I talk about international reaction I am looking mostly at the US. The EU have made it blatantly apparent that they are playing hardball and the tone of any pre-official dialogue is as intransigent as that expressed by the likes of M Hollande. My concern after last week’s speeches was the shocked reception it met with in Washington. May and Rudd need to adapt.

One of the benefits to the UK is that it makes our exports more competitive. But one has to take care as I am wondering if a large part of the export boost we are seeing is the rest of the World effectively clearing out our inventory. Inventory that has seen its input prices priced at £/$ 1.50 but output sold at £/$ 1.25. there is going to be a sweet spot to buy up everything that has an external price function in it before the FX moves feed through to repricing. So, as UK consumers should be buying up German car parts, Bosch dishwashers, Miele vacuums and Stihl hedge trimmers before they all go up in price, so should overseas companies be clearing out all of our manufactured goods that are currently sitting in inventory. The problem comes when the FX moves feed through and the prices go up. At that point there is a strong chance that the export boom we are currently seeing subsides.

The effect is fastest with goods heavily dependent upon materials and lagged in anything that is labour intensive as wage pressures are normally last in the inflationary line. So services will benefit longer than manufacturing. Creatives in Hoxton, Ad execs in Soho, accountants at London Bridge and lawyers in Holborn are going to be competitive longer than a JCB digger that is reliant on importing 65% of its parts.

With most banks now calling for cable to 1.10 (It was 1.20 until they were forced to extend the pencil line as time over took them) I wonder what it will take to get anyone to buy pounds back. Traditional measures have it undervalued  but markets are forward looking and the departure from the EU is not appearing in  current traditional measures though it is being discounted in the price. My own long term belief is that GBP/USD trades at 1.6000 which is probably a classic example of price anchoring as that is what it has averaged since I started out in the City a very long time ago. 1.60 has been to cable what 1.10 currently is to EUR/USD.

I am certainly not calling for cable to hit 1.60 by year end, especially with the USD so strong on the belief of clever people that stupid people will no longer vote for Trump (dangerous thought process), but with ‘this time it is different’ echoing around and the pendulum of UK government expectation swung solidly to ‘hard brexit’ I feel there is finally room for any change in news to be less negative for GBP. Add to that the massive positioning of shorts in GBP futures markets and I have started to buy it again after any brief losing venture in cable from 1.28 to 1.25. I also note that Gilts actually went up today, but then so did most global bonds.

On to other things - Oil is still going up, this time apparently thanks to Putin suggesting he is willing to participate in slowing production, though my oil friends tell me that due to technical things involving ice in the oil up there it isn’t an easy process. But my worry with Putin goes further than that and I'm very surprised that there is so little concern expressed in the markets at the continued deterioration of relationships between Russia and the West. Why is this? Because the current market participants are too young to remember the abject fear we ll lived during the cold war? Or just that the only real trade to hedge for complete West / Russia war is nuclear bunkers, iodine, guns and gold and to mention that in a serious investment forum would see you despatched pronto.

Is there an ETF that markets itself as a war hedge? Would be quite a thing to develop as you could be pretty sure that if the worst came to the worst your claimants would probably not make it to knocking on your door. Perhaps it could have a trade code ZH1


My Positions.

Long USDJPY
Long GBPUSD (again)
Short EURGBP (fresh)
Long USDTRY
Short BTPs (forever)
Long Oil. (though now seeing potential for a pullback)

Signing off - 'Long Pound Pol'

GBP goes EURCHF. What's going on.

Ok, so I was wrong. Cable was not a good buy two days ago and just to prove me REALLY wrong the marvelous Antipodean time zone decided to ram GBP in a way that hasn’t been seen since the SNB spoofed EURCHF.

It’s the small hours of London Friday morning for me  and the reasons for GBP's freediving world record attempt haven’t yet been formulated. Now I'm afraid that if you started reading this expecting me to tell you what is going on in GBP, then sorry, I don't know. But having worked in FX for a good chunk of my life I can have a good guess at what is now going on in the banks.

First, every salesperson is struggling to call all their clients who had 'call levels’ at zones never expected to be hit, whilst trying to fill orders in systems at levels that they think they can get away with. Oh, hang on, no they can’t do that anymore as they need audit trails. So, they will all be huddled around spot desks arguing over whose order was hit at what. Said spot dealers will be shouting a lot and staring at an automated blotter that is slowly dripping in a queue of trades that their antiquated order and back office system in some far off distant place on the planet is trying to process. Basically, there will be a lot of ‘WHAT THE F### IS MY POSITION.. ARRRGH ‘ going on.

Meanwhile, clients will be calling in demanding to know why their stops were done 7% below current market and why no one called them. Because if they had been called they would have bought it back at 8% below current markets because they are all retrospective geniuses.

Managers will be trying to recite the rules of engagement for filling stops but can’t find them so call compliance. However, compliance is asleep because they are mostly based in Head Office and that isn’t in the Antipodes, apart from the Antipodean banks whose compliance officers will be teaching some course to the catering staff on how not to deal with Yemeni banks.

By now the dealing systems will be catching up with what's going on and the spot traders now fit into two categories:-

Group 1 who look at their position screens and see a vast profit who split into groups 'A' and ‘B'. 'A' stays very quiet knowing that sales will want some of the profit if they see how much it is and ‘B' who stand up and declare themselves as trading Gods.

Meanwhile Group 2, on seeing vast losses, immediately write emails to every manager under the sun blaming their staggering losses on system latency and the ridiculous guaranteed stop levels that sales made them undertake. If they are lucky management will swerve the losses into a contingency book, but if they are unlucky and the bank was thinking of replacing them with a 'Raspberry Pi’ algorithm, they will be out of the door by close of Friday.

But back to sales. Those that are still on the phone are quoting the reason for the fall on anything that they feel everyone else is saying because no one has a real clue. They will probably repeat what JPMChase or Goldman say as they reckon that the guys there are cleverer than them and more likely to know. So, clients will currently be being told that it is due to- "Barriers being hit at 1.25, 1.20 , and 1.15" and if they can't even manage that will say "Stop losses”, which is a great generalised term that demands no justification. But some foolish folk will have done a Bloomberg News search for GBP and decided that it is due to the news that fracking had been allowed in North West England. Which is of course rubbish, because we all know that it happened because Diane Abbott was made the shadow Home Secretary.

By now very senior management will have come down to the dealing room. Bearing in mind this is out of London time zone, the senior managers involved will have absolutely no idea whatsoever about Sterling so will ask questions to frantic spot and sales folks along the lines of "Has Brexit been announced?" or "is this is a big move?" The frustrated dealing staff will have to tread a thin line with them, alternating between wanting to tell them to p### off and ingratiating themselves with them as, with the size of the losses they can see, they may well be up before them the following morning.

Meanwhile sales are noted to be only saying, into phones and Bloomberg chats, “But seriously, that’s where it was” and starting to swear at overseas sales coverage who are trying to goad them into either filling their clients better or having any profits accruing through their clients stops reallocated back to them rather than staying in the center that ripped them off did the execution.

The options trading desk will have appeared to have turned Greek as that is all they are speaking, shouting things like .. "Watch your gamma", "check your theta”," where did I trade that delta" and "Oh shit, they said you made money shorting vol. “

For the sales guys with no clients with GBP orders, they will be feeling rather smug and trying to sound intelligent by quoting correlations as to what this should do for other pairs. Such as “Well with the cross correlations we should see a pick up in CNH/MXN vol and our model says that the 3m/1yr calendar spread is the way to play it”, only to find that if they try to get a price from their options desk they are told "you  moron! haven’t you seen what's going on in GBP?".

So, it will all be fun and games. Do I care? Not a bit. Because I am sitting at home, it’s the wee hours of the morning and I am about to go to bed chuckling mischievously to myself, knowing that London FX sales folk are going to have one hell of a miserable start to the day explaining to their clients why they have just lost 7% of their company's hedge book.

Oh and let's not forget all those corporate treasurers dusting off the wording for their 'due to FX volatility, losses were greater than forecast' statements to add to this year's accounts.



------
Addendum - 15.30 BST.

Oh look, in record time, The first corporate excuse appears. Fancy that!

"You are filled, yes at the low sir, well someone had to be the low and it just happened to be you"-

So if he lost £15m over a 0.1100 GBP/USD move, face value of the FX trade must have been just over £160m. Not that huge and no where near the £1.6b I first eyeballed. I never was any good at FX.

Noise signal in the Pound.

Oh look, the Pound is at levels not seen since the last time and the FTSE is at a number. So say all my twitter feeds over and over again. No comment on where it goes next, just where it is now. Which is as useful as a bag of sick.

One of the most important trading indicators of the last 3 years, in this effectively mean reversionist market, has been journo-noise. Toys out of prams, headlines, panic screaming and pointing at numbers with no reference to what may happen next, other than pulling out a ruler and pencil and implying that something terrible will occur (have you ever heard them do the reverse and imply something wonderful will happen in the future?). I am convinced that journo-noise trumps fast moves, rulers and pencils as a signal and I am convinced that this morning’s cacophony of Sterlingness is a signal.

The price of GBP has fallen and it is assumed that it is related to Brexit. Though the chance that it is related to Brexit is pretty high, it's worth pointing out that no one actually knows for sure. Correlation, causality and all that. The reason GBP is lower is that the natural equilibrium between buyers and sellers has moved. Or in 'spot shag' talk, someone sold it and no one bought it. Now, unless you wish to ask every seller of GBP in the market why they sold GBP you will never know for sure why GBP has fallen. I know this sounds pedantic but though the probability is hugely skewed towards it being Brexit, it is important to know that it isn’t a 100% certainty on which to base secondary assumptions, which is what our brains tend to do with anything over 50%.

Anyone who as worked in the FX markets will know that momentum is a major factor for model trading accounts and they will follow trends no matter what the cause. Technicians will trade no matter what the background and VaR models respect no macro. But we all like to think we know why things happen.

But, pedantry out of the way, if we  take it that the move is Brexit linked, does it tell us anything about tomorrow? The news was out on Sunday. The news was that Article 50 will be triggered. No surprise other than to those still at the ‘Denial' part of the Kubler-Ross curve of grieving. So no, it doesn't really.

Next is the assumption that a weak GBP is terrible, terrible news. Most G7 nations would give their eye-teeth for a currency devaluation. One of the main reasons for the economic stresses in Europe is that Germany is benefiting from an artificially low exchange rate. A weak pound can benefit the UK in the same way. We should also note that attention is always applied to the most spectacular GBP cross. GBP/USD may be at impressively long time lows, but EUR/GBP was toying with parity much more recently. USD strength over the last couple of days is exaggerating cable moves.

Here I may be opening myself up for abuse but I feel that May and Hammond are actually very smart people, especially compared to the last incumbents, and despite the sound-bite sniping that is aimed at them, will handle things in a sensible manner. The fact that they are not telling us their every move is to be expected. I am sure that there are multi-layers of diplomacy at work and, as one of the most important issues for all sides is ‘face saving’, staying quiet and avoiding a 'them and us' media sponsored battle is to be expected. Of course, everyone wants to know what will happen, but as with Christmas, we will probably have to wait for Christmas.

Last suggestion, which I’ve made before - Any comment on where a price is should be accompanied by a view as to why it matters.


Positions -
I am adding Long GBP/USD through today. It could be called an emotional trade but GBP is an emotional trade.
Long USD/JPY from friday, so call that long GBP/JPY
Long USD/TRY still.
Long Oil still.
Short BTP’s still post Draghi
Long Trump to win. Wild prices but back at 25% it still looks cheap as a hedge.

Yen Bomb

To parody Tom Jones -  "Yen bomb. Yen bomb. You're my yen bomb.  Everyone is long it just as it all goes wrong".

My friend Ryan Shea wrote a very good piece on the importance of the BoJ's actions soon after they were announced, but work commitments have prevented me from commenting upon them until now. His post is here https://amareos.com/blog/the-fix-is-in/ and should be read in its entirety but I’m going to pick out the nuggets that interested me most and thank him for permission to do so.

His first point is that the BoJ is about to lose all control of its balance sheet-

The reality is that once a central bank adopts a long-term interest rate target its balance sheet shifts from being exogenously determined (ie under the control of the central bank) to endogenously determined. This is because even an institution as powerful and far-reaching as a central bank cannot set both the price and quantity of an asset (Japanese government bonds in this case). If its commitment to targeting the 10-year JGB yield is to be maintained, it must necessarily lose control of its balance sheet[3] as it has no way of determining what excess market demand or supply of JGBs there will be at the target rate as this depends upon the preferences of the private sector over which it has no direct control (influence perhaps, but not direct control)[4],[5].
The amount of JGBs the BoJ finds itself having to purchase to ensure its yield target is achieved could, over time, be potentially significant given they also shifted their monetary policy goal – namely the CPI inflation target – up from 2% to “exceeding 2%… in a stable manner”

But he goes on to point out what he sees as the real reason for the action - facilitation of fiscal stimulus -

Nevertheless, the significance of the BoJ announcement is that they have made a change that is (always was in our opinion) a necessary prerequisite for the successful reflation of Japan’s moribund economy. It is a policy-making stepping stone, but a very important stepping stone.
As we made very clear in the previous post (and numerous others before) Japan’s fiscal position is dire; government debt is on an unsustainable trajectory and given the current level is nigh impossible to rectify via fiscal consolidation. Correcting this problem is not just an economic imperative but it has become a political imperative as well, as evidenced by the emergence of Abenomics. Japan needs sustained positive inflation- it really is that simple. It is just achieving this objective has been much more challenging than widely expected.
If the BoJ is unable to generate sustained positive inflation by calibrating monetary policy at super accommodative levels, then it will require the intervention of the fiscal authority, namely the Japanese government. The BoJ even hinted as much in their statement when they referred to “synergy effects” between monetary and fiscal policy.
Such thinking is hardly new or cutting edge. Indeed, as Tily (2012)[9] points out Keynes concluded as much in The General Theory of Employment, Interest and Money, published in 1936. To wit,
“Keynes’s support for fiscal policy did not follow primarily from any lower bound to this process but from a recognition that a low long-term rate of interest might not be sufficient for recovery. A low long-term rate of interest was necessary to prevent recession, but it might not be sufficient to effect recovery from recession.”

But here is the really interesting bit -

By agreeing to backstop the JGB market, the BoJ is, in effect, facilitating the Abe government’s ability to engage in reflationary fiscal stimulus by loosening its constraints. After all, with the BoJ guaranteeing the price of government bonds, the threat of increased bond issuance triggering a JGB “death-spiral” is completely eradicated[10]. It also removes a more realistic threat that a back-up in interest rates chokes off the recovery as and when it materialises
To those still sceptical about such a reflationary outcome, it is worth noting that a yield target not only facilitates, but is a pre-condition for, outright monetary financing (OMF – or helicopter money in the vernacular); a policy that is very effective because the government can just keep issuing bonds – at a price now guaranteed by the BoJ – to satisfy the demands of any stimulus programme[13].
It is for these reasons that the BoJ’s adoption of a yield target is so significant.

So whilst many appear to have shrugged the BoJ actions off as interesting but really not that impactful (targeting only one point in the curve, cranking up inflationary wishes etc), Shea points out that what they have done may not be money printing but it is laying the path to effective helicoptering of money into the economy via an accounting wheeze that opens up the fiscal/monetary backdoor. He has long been a proponent of the idea that the end game for this phase of central bank action is yield curve control, so I was straight on to him when the BoJ took the first step. His thesis is that it ultimately leads to capital controls.

Commentary on what will happen to JPY since the BoJ has been pretty much focused on the US to JP bond switches with many suggesting that the attractiveness of JGBs has gone up on a relative basis. I can go along with that view to an extent for two reasons -

1- If you have a bond thats price is effectively underwritten via the central bank targeting its price then your risk in investing in it drops dramatically and your incentive to buy it on a risk-weighted basis increases.

2- as my own thoughts would suggest that if you take a bond, and you pin its price at zero you have effectively turned that bond into cash. It behaves in just the same way as cash. Its capital value won't change and it pays zero interest. It is cash. The difference is that this bond can have a denomination of any size you like and it won't take a huge safe to store it in. You could fit a bond who a face value of Yen 12billion in your wallet. Now compare that to a Europe where with the demise of the €500 note you need a fairly big vault to stash away €100m. The BoJ has just issued the biggest denominated bank note in the world which could be hugely attractive to those stashing cash.

However, I agree with Shea as to the ultimate outcome, as these considerations will be outweighed in the end by an upcoming fiscal tsunami BoJ. As he points out -

It is patently obvious from the current level of crowd sentiment towards Japanese stocks and the JPY that this reflation theme does not yet feature on the radars of most investors. This suggests that once investors look beyond the lack of immediate monetary stimulus, and begin to comprehend more fully the longer-term ramifications of the BoJ announcement, there is potential for a very significant price move in both (unlike nominal JGBs).

And back to his theory that the curve pinning trade will be the end game for many central banks -

Regards the global implications that flow from this decision. As we have previously stated the BoJ is a monetary policy vanguard; it has had to be because of circumstance. This remains the case. With global debt levels now higher than they were at the onset of the Great Recession, Japan may be the first country to have entered the era of fiscal dominance(possibly by some margin) but it won’t be the last; currency markets will see to that.

If you didn't read his whole post linked at the beginning here it is again https://amareos.com/blog/the-fix-is-in/   and you can follw Ryan Shea at @BlackSwanEcon

And for disclosure - I am now long USD/JPY having waited for post BoJ JPY buying to fizzle.