When silence is nerves, not calm, Part 2

Relatively calm markets overnight with tighter ranges suggest that the storm might be passing. Various reports suggested that liquidity yesterday in the FX markets was as poor as last August – and yet we saw no similar price action. Last year, post SNB, Blondemoney sensed a similar eerie calm, and it’s instructive to compare the two for some insight into the next steps.

1. USD/ZAR has become so exponential it might go quantum

USDZAR 12 Jan

This pair has been an excellent bellwether for just how much market liquidity is deviating from fundamentals, and it certainly implies right now that we remain in a heightened sense of fear, even as ranges shrink.

2. USD/JPY has calmed down, but 115.67 is the big level for this pair to get entirely dislocated

USDJPY 12 jan 16

3. Last year we looked at Gold but that has ebbed away in the past year…. Instead it’s worthwhile to look at the main China trade, which continues to be the spread between onshore and offshore, which has now snapped back to flat, thanks to the squeeze of funding a short CNH position:

CNY CNH spread 12 Jan

In a world of silence, only those with a position will scream. Everyone else will just sit tight on the sidelines.

Last year we were moving from Denial into Anger in our Five Stages of Grief for the happy-go-lucky-liquidity-rally. It now looks as if we have moved onto Bargaining, where we make a deal with this new world order that we now face. We will not plunge headlong into overly risky assets in search of yield; instead we will just restrict them to 10% of our portfolio and try to be more diverse. This article from Bloomberg contains some excellent quotes of this psychology:

“You need to have a portfolio that is as diversified as you can make it, with not too much risk in any one position,” Insight Investment’s Lambert said.
“That is why emerging-market currencies need to be risk managed differently,” said Richard Benson, a money manager at currency hedge fund Millennium Global Investments Ltd. in London. “I avoid having positions in the highly illiquid currencies.”

We’ve still got some time to go before we reach the Acceptance of the new volatile world in which we live. More worryingly, we have to get through Depression first.

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