Money moves faster than Politics

Having worked in both finance and politics, it’s always remarkable that each side thinks the other holds more information. The City fears deals done behind closed doors; and, come to think of it, that’s exactly what the politicians fear too. The reality, unfortunately for those conspiracy theorists amongst you, is that it’s often more haphazard than that.

Thus, the path for Brexit. Initially, there was too much doom, with the real economy pootling along unaffected. Now, there has become too much complacency, with Q4 upon us and reality biting. This is not a political argument for whether Brexit is a good idea; rather, a recognition that the balance of risks is becoming skewed. There will be an impact, and the world’s businesses will not be waiting 2 years, or even 6 months, to see the UK’s negotiating package. Money moves faster than Politics, and businesses need to make changes now if they are to capitalise in the years ahead. Note the latest KPMG survey of businesses with £100m-£1bn turnover: 86% are indeed confident about the future but 76% of them are also expecting to move some of their operations abroad. Meanwhile, the big US financial companies met Theresa May last week and it has now emerged they are threatening to relocate unless they get more clarity. They might well believe that our PM is being obstructive or unhelpful, but the truth is that we are in a Catch 22 situation. The banks and other businesses are looking to politicians for guidance; but the politicians are thrashing out their own internal negotiations before they can even begin to offer a roadmap. The two make decisions completely differently. Business is pro-active; it has to be. If you’re too slow, you’re eaten up. Politics, on the other hand, is non-linear and reactionary. Even if May’s government had a clear plan, it would do no good to launch it now, for fear of destabilising not only a multi-step, but also a multi-polar, negotiation.

Into the vacuum the market will eventually step, putting a risk premium onto UK assets. Money will genuinely flow out of the country. Money never sleeps.

Likewise, the US Presidential Election, which hots up with the first debate tonight. There are 3 debates but this one will no doubt set the tone. 100m are expected to watch. Will they both with parts 2 and 3? Hillary is being advised to ‘make Donald Trump angry‘. Blondemoney isn’t so sure. If she hectors and he huffs, then the net result could be that two already disliked candidates become even more disliked, turning off moderate voters and bringing out the extremes. That makes the vote even harder to predict.

So – bond vol at the year’s lows? VIX almost at the year’s lows? GBP/JPY at the year’s lows? Watch out for some political wobbles this week.

Hiatus

As we know, this year has been all about the vol of vol: wild swings from worry exploding into fear, versus exuberance exploding into mania. The surprise has probably been how much more of the year has been weighted onto the exuberance side of the scales. But as discussed, it’s not actually (yet?) that irrational. Actual and implied volatilities are low enough to encourage the ongoing bid into risky assets. Central bank action into Lower Forever provides the support, and relative political stability with an absence of black swans provides the continuation. If anything, it’s our panic-about-a-potential-panic that suggests we won’t have that panic. The Ghosts of Lehman Past haunt us into precautionary saving, but it’s precisely that behaviour which keeps the Ghost from our door. Basically, we are already ready for something bad to happen – just check out how cash balances have been rising in the BAML Fund Manager survey: image

That’s why there is still a wall of money available, and that’s why we continue to see a melt-up in equities, even as some very unquantifiable political risks are just around the corner (Trump Presidency / Italian election / Brexit negotiations, to name but 3). The big question until the end of the year is whether we choose to ignore these worries, or they manifest themselves. The Citi Macro Risk Index has sunk to its lows for the year – and into the zone of the mid 2000s, where macro was dead:

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If we remain below that 0.6000 level then you know it’s perfectly rational to continue to pile into carry-type strategies. Looking again at our favourite bellwether, the South African Rand, it is actually well within historical norms in terms of the payoff for its yield versus implied vol (bottom right hand chart below, which shows 3month implied yield vs 3month implied FX vol):

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As BM readers know, we are now expected to be in a hiatus, as we hand over from monetary policy into fiscal policy, and the market adjusts from central bank watching to politician watching. So the only thing that could up-end the exuberant joy is if the volatility side of the equation shifts. There are indeed few macro risks on the horizon in the next few weeks, but we don’t necessarily need a data point to shake things up. Blondemoney will be keeping an eye on yield curves. They have now flattened back again, which is a positive-for-risk type move:

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But it is a very not-positive-for-the-BOJ, who’s recent decision was entirely predicated on getting the yield curve steep enough to protect the banks. This is where it gets interesting with regard to their decision this week. They decided, as we know, that their Spanx-like “Yield Curve Control” means the 10yr JGB should yield zero. But oh no, check this out, it’s only become more negative since they said that:

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Which means, if we are to take them at their word, that they should in fact be SELLING bonds to drive this yield back to their zero percent target. Oh yes a monetary tightening. With USD/JPY nestling on its 100 support. If you are looking for an accident waiting to happen, keep an eye on this one. If you’re more optimistic, enjoy the hiatus!

Forget the Fed

So the Fed delivered as BM readers would have anticipated. That is, they are set up to go in December, but a) there’s the small matter of a US election to get through first and b) it’s irrelevant anyway as their expected interest rate “cycle” is becoming shallower by the minute. Where previously those devilish dots showed hikes for this year/next year/2018 of 2-3-3, now they show 1-2-3. Interest rate hikes are dropping out of their projections faster than Blondemoney’s cocktail consumption. Yes, a lot has been made of the 3 dissenters – but a lot has also been made about how those voters drop off the roster next year, which is actually just 2 central bank meetings away. Look – it’s all a sideshow. Monetary policy is dead, as we know, and we are now barrelling headlong into a period of about 6 weeks with very little data of note. Not that it matters anyway, because fiscal policy, and thus politics, are going to be the key driver from here. Aside from the moment in a few months when everyone realises the Bank of Japan trying to target 10 year yields at zero has just stored up massive pressures to be released elsewhere (probably into the currency). Remember what happened the last time a central bank tried to peg a key monetary variable – the SNB and the Swiss Franc? And what happened when the pressure got too much and it burst? And what an analogous situation might do for Japanese banks, stuffed to the gills with those 10yr bonds that they’re being encouraged to buy, safe in the knowledge there’s someone always to sell them to? But that’s not for now. No, that little joy awaits us down the track.

Today Blondemoney wants to talk about some real economies, doing some real stuff. And two central banks who genuinely have something to do.

Firstly, New Zealand. They left rates on hold, and pretty much copy/pasted their last statement about how “further policy easing will be required”. So much, so meh, thought the market. But here’s the thing. The New Zealand economy isn’t going all that disastrously of late. Famously, they are in the grips of a nice little migration boom, which usually should see an economy boom:

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And before you pooh pooh (never pooh-pooh a pooh-pooh as Melchett once said) “only” 10s of thousands of people arriving/leaving, remember that the UK had net migration of around 300,000. That’s with a population of 65 million. Significantly more than NZ.
We could talk also about the revival of dairy prices, good Q2 GDP data and the rest. But the main point is that NZ might not be as much on the lower-forever, we-are-boring-you-to-death track as you might think.

Secondly, the Norges Bank. They’ve had to take cuts out of their rate path today, primarily because they actually do have inflation, not least because their currency has been weak for quite some time. Good lord, at 0.50% base rates, they’re almost in the high yielders club. So, they are also in the path of shifting out of the mogodon rates low forever club.

In conclusion, then, forget monetary policy for the G4. But embrace it elsewhere.

Why are we listening to people who don’t know what they’re doing, Part #BOJ

So…. Did the Bank of Japan disappoint? Did they come up with something new and aggressive? Will it work?

None of these questions are relevant, because, quite frankly, they don’t know what they’re doing. It’s not their fault, really, because no-one knows anything right now. When this is what is happening to inflation globally, and you’re an inflation-targeting central bank, what do you do?

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This is not to say that the BOJ’s actions won’t have an impact. They will, just that it will take time to develop, and it may very well turn out to be not what the BOJ themselves wanted.

1) They’re doing this cool thing called Yield Curve Control!
Ok so what was all the QE for the past two decades about then? Lack of yield curve control? Complete disinterest in the yield curve?
No.
This jazzy new phrase is just cover for buying enough time to let themselves do whatever they need to. Snaps for being flexible, thumbs down for having any kind of actual process.

2) They’ve committed to overshooting the 2% inflation target!
Again, what was all the other monetary policy stimulus about? They’ve been trying to overshoot this target forever.
OK but this gives some credibility, doesn’t it? Forward guidance and all that?
Yes, in the parallel universe where the BOJ actually get to exit this “unconventional” and “temporary” monetary stimulus, that just keeps going on and on.
So, this commitment is irrelevant. You might as well tell your girlfriend that you’ll marry her, “one day”.

3) They’ve dropped a quantity target and gone with a price target!
Yes, they have allegedly ‘abandoned’ the 80trn monetary base target. Except that they also said it would stay ‘more or less’ around that level. But also that actually they are focused on keeping 10yr JGB yields around their current level of zero.
You can’t have it both ways. You can’t say you’ll keep it around a specific price, but the constrain how much you’re prepared to do. This is exactly what has led the ECB to drive yields into negative territory all over the strasse, and now run the risk of amending their constraints on what they can buy. If the market knows there is a constrained buyer, then it will adjust prices accordingly. The bonkers addition from the BOJ is not that they are targeting a yield floor, but a specific target. Think about what that means. It means that if 10year JGB yields fall BELOW Zero, then they need to jack them up again. That means two things:
a) They will be selling bonds, which is pretty crazy for an asset purchase programme
b) They will be selling bonds just as the market is driving them up – perhaps because of an anticipated recession, or some poor data, or lack of inflation.
Yes, that means they’ve just told us that they don’t CARE what the economy is doing. The price of 10 year money should be zero, goddammit!
All of this kind of behaviour rather undermines their alleged commitment to the inflation target.

“Whatever It Takes”? More like, “Whatever we came up with on the fly”.

We can be sure that it will distort the JGB market even more than it already has. Reducing vol in the bond market might actually make the FX market more volatile, ultimately, with the pressure building up needing a release somewhere.

We all know what happens when markets become more and more controlled: it just ratchets up the size of the explosion when it comes.

Now, Blondemoney isn’t a fan of helicopters (a Christian Grey moment plus cocktails, tell you another time), but if the BOJ had actually committed to helicopter money it would have made more sense. Instead, they have faffed around the edges, and ended up flattening a yield curve they wanted to steepen, in order to recapitalise the banks. And then everyone will look back at the flattening yield curve, the lack of vol in bond markets, and pile right back into carry. Will the Fed throw in a curveball tonight? A hike would flatten yield curves, as would a dovish ‘no hike’. In those worlds, carry remains King…

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The Day Today 21 September 2016

* BOJ adapt QQE for ‘yield curve control’, target zero on 10yr JGBs and abandon monetary base target (sort of)

* BOE Saunders 1st interview: expects growth to slow but not as much as consensus, and “There is substantial scope to expand asset purchases if needed, and … what you saw (at the August meeting) was that monetary policy including asset purchases did seem to have a substantial effect on asset prices”

* Bill Gross sees 50% chance of Fed hike tonight

* Roubini sees Dec hike as “fairly likely”; doesn’t see a bubble in markets now, just “frothiness”

* Goldman research shows wage inflation leads price inflation, not vice versa

* 5,476 UK firms hold EU passporting rights, 8,008 EU firms hold passporting rights to do business in the UK

* Canada forecasts 8% lower trade with UK

* New ECB report notes Trade elasticity is falling

* market prices 73% chance RBA on hold for reat of year

* Australia’s most internationally focused insurer wants to increase exposure to BBB bonds to 10%, it was zero three years ago