24 September 2012 Written by Training Traders
Market Comment Discord in Europe and indications of a slowing global recovery punctuated market sentiment to kick off an economic data filled week. Disagreement continues in Europe, today's reports highlighting differences between France and Germany about how to deal with bailed-out nations as the French prime minister publicly supported a re-evaluation of Greek aid restructuring efforts and a German governing coalition official called out Spain for its "prevarication" on a full EU bailout. France and Germany also disagreed on the timeframe for execution of the ramped-up role for the ECB in the regional joint banking sector supervision efforts. Further depressing investor sentiment was Germany's business confidence index, which showed IFO business confidence dropped to 101.4, coming worse than market forecasts. This was the fifth consecutive monthly decline, taking the index to the lowest level since February 2010. This indicator is a good test of market sentiment - the index is a closely-followed benchmark for German economic health. Current assessment and expectations sub-indexes also fell and also came below expectations. This week the market will digest a good amount of important economic data out of Germany, will receive some important releases from Spain, as well as from the US. In Germany: Wednesday Sep. 26th inflation data will be released. This is contentious for German politics given that requisite to saving the Euro is Germans enduring higher rates of inflation. On Thursday, Sep. 27th, unemployment will be released, a big test of what has been a up to this point a very resilient German labor market (SA 6.8% steady all of 2012, multi-year low). On Friday, Sep. 28th, retail sales for month of August will be released after July showed negative growth on both a monthly and yearly basis on this front. Meanwhile, on Monday Oct. 1st we get German manufacturing PMI, an indicator which has consistently came less than 50 since March of this year but has been trending higher since July, re-affirmation for which would be well-received by the market. On Friday Sep. 28th, Spain is due to release its much-awaited bank stress test results as well as its new proposals for economic reform and next year's budget. On the US front, on Thursday, Sep. 27th the market will get the final release of second quarter GDP, a figure which will be keenly watched and evaluated particularly in this political environment ahead of Nov. 6th elections and given the launch of the Fed's QE3. On Tuesday Sep. 25th consumer confidence survey will come out as per the Conference Board and that of the University of Michigan will come on Friday. Both are likely to show an upturn in sentiment in our view primarily driven by a quickening recovery in housing and an upturn in equity markets. Housing market data also comes this week with Case-Shiller home prices on Tuesday, new home sales Wednesday and pending home sales Thursday. Prices have been trend rising for the past five months and we expect this trend to continue through July's data.
Jacob Bunge at The Wall Street Journal reports that a trading blunder has cost BofA/Merrill nearly $10 million yesterday. The details are a bit technical and murky, but the gist is this: Yesterday was the day that the SPY ETF went ex-dividend, meaning it paid out a 78 cent dividend to owners, and thus would be expected to drop by 78 cents at the same time. There's an options strategy that involves selling a bunch of borrowed call options right before this drop, and then buying them back afterwords... it's essentially shorting a whole bunch of calls on this 78 cent drop. It's evidently a controversial tactic to trade around dividends. Apparently not all of the eligible options were properly exercised, thus causing a significant loss. Trade Alert, which was the original source on the blunder thought the loss could even be as high as $20 million. Here's part of the email that was sent around: SPY calls were candidates for early exercise ahead of today's 78cent ex-dividend event for the widely held SP500 ETF. Total dividend proceeds available to the long-call holders was nearly $170million. As expected, call volume in SPY on Thursday was several times the normal level as nearly 6million contracts traded in the 'dividend stripping' strategy employed by a small number of traders. The trade involves buying and selling massive blocks of calls among counterparties, with each exercising the newedge long positions to effectively divert the un-exercised portion of open interest to their accounts. Normally we see about 8% of the eligible calls go unassigned in SPY, which would have yielded about $13million in profits to the traders involved. But this morning's SPY open interest data shows an unusually large share, 24%, of the calls were not exercised , which works out to more than $35million for the traders who successfully implemented the trade. Sources on the floor are telling us that the unusually low exercise percentage in SPY yesterday was the result of a mistake or clearing error on the part of one of the pros involved in the dividend trade, suggesting this seemingly 'riskless' operational arbitrage was anything but safe, and one trader may be looking at a 20-something million dollar loss today. The details differ. WSJ is saying $10 million. Trade Alert thought it was more like $20 million associated with a single trader. Either way, something happened so that a "riskless" approach to arbitraging dividend day went awry. Read more: http://www.businessinsider.com/options-ex-dividend-trading-glitch-2012-9#ixzz27KIVuh21
In a post from yesterday on the relationship between global financial markets and central bank activity, we wrote something upon which we'd like to expand: On the surface, the Fed's QE, and the ECB version of bond buying (OMT) look the same, because they're both bond buying. But whereas the Fed isn't in the market to facilitate US fiscal policy, the ECB (whether it will admit it or not) is playing a quasi-fiscal role, facilitating borrowing and spending by weak countries (assuming the program ever gets off the ground). After the last couple weeks of CentralBankapalooza, this is a point that seems to be lost on people, as they discuss the latest round of monetary easing from the Fed, ECB, and the Bank of Japan. But to say that the ECB "eased" policy at its last meeting is actually a gigantic understatement. What Mario Draghi did is almost nothing like what Bernanke did. Sure, both are using the central banks' unlimited balance sheet to buy bonds, but whereas the Fed is buying up bonds in order to (in part) push money into riskier areas of the market, the ECB is hoping to buy up bonds to bring a bid back into the peripheral sovereign bond market. More broadly, as stated above, the Fed is trying to influence the market and the economy through fairly technical channels (reduce yields, hope money then goes into riskier areas), whereas the ECB is offering to backstop weak European governments, so that they can keep spending without fear of completely busto. Under the guise of ensuring the transmission of monetary policy, Mario Draghi is slowly upending the old system of government financing in Europe. Furthermore, it's precisely because the bond buying scheme is so revolutionary, that it's made even some mainstream ECB defenders blush. CNBC's ace ECB reporter Silvia Wadhwa thought it was beyond the pale that Draghi's plan requires sovereign governments to undergo certain actions in order to get help. She identified this as a threat to democracy. If Draghi's new plan (dubbed the OMT) gets off the ground, it's a very big deal in a way that QE can't compare. Europe's not out of the woods yet (heck, Spain hasn't even asked for a bailout yet... a necessary step in order to partake in the plan) but thinking about what happened just in terms of world central banks printed money is missing the point a little, at least on the European front. Read more: http://www.businessinsider.com/the-ecbs-breakthrough-2012-9#ixzz27KI6juLC
Global risk appetite strengthened today driven by US economic data, which provided further evidence of a strengthened recovery in the housing market. US housing starts 2.3% monthly gain to 750,000 pace in August driven by single family home construction, taking the year-over-year increase in starts to +29.1%. Building permits, an important leading indicator for housing's future performance, fell 1% month-over-month but rose 24.5% year-over-year, albeit a slowdown from July's +29.3% year-over-year rate of expansion. For both metrics it was construction of apartments that weighed down the numbers while building of single family homes that drove the numbers. Construction of single-family houses rose 5.5% in August to a 535,000 rate, best since April 2010. Permits for single-family homes rose 0.2% to a 512,000 annual pace, highest since March 2010. Meanwhile, existing home sales in August rose 7.8% month-over-month, +9.3% year-over-year, to a 4.82 million annual rate. Existing home sales is a crucial indicator in evaluating the health and future trajectory of the housing market as rising demand for existing homes and an evaporation of existing inventory is what will lead to a broader recovery. The median price leaped 9.5% year-over-year, the strongest year-over-year gain in six years to $187,400 from $171,200 in August 2011. It currently takes 6.4 months to sell current inventory; the National Association of Realtors considers six months "normal". Existing home sales troughed in July of 2010 at a sales rate of 3.39 million that month and peaked at 7.25 million in September of 2005. Today's housing data, in our view, provides more clear evidence of the ongoing and strengthening recovery in housing, which will be only expedited with Fed action and record low mortgage rates combined with still high (although off the record highs reached January of this year) affordability.
18 September 2012 Written by Training Traders
After all the doom and gloom news about the Eurozone crisis and its devastating effects on the global economy, it was somewhat refreshing to have an in-depth chat with one Middle East investor who stated “ in general the eurozone crisis hasn’t really affected our investment strategy” The Investment Director from the Bahamdan Group (one of the largest and most established family offices in Saudi Arabia) told me that as smart investors they have already made practical changes within their investment portfolio’s and strategies and that they are optimistic the crisis will recover within the next few years. They have to look long-term and so at the moment capital preservation is what is on most Middle East investors minds. When asked what his top 3 challenges were for investing in 2012, he replied;
- · We are global investors and have seen a lot of challenges in Turkey – particularly in terms of the Turkish Lira
- · Concerns over Europe – we are just waiting to see if the Euro will collapse or not?
- · Political instability in the Middle East that is still ongoing
18 September 2012 Written by Training Traders
The headline news last week was the US Federal Reserve’s announcement of a new round of quantitative easing in which the central bank plans to purchase $40 billion of mortgage-backed securities on a monthly basis (without a predetermined end date). The Fed also pushed back the timeframe on how long it will maintain its current zero-interest-rate policy, indicating that the current level of rates should be in effect through the middle of 2015. While the fact that the Fed announced new easing plans was not unexpected, the aggressiveness of the plan and its open-ended commitment came as a positive surprise to observers. Equity markets jumped on the news, with the Dow Jones Industrial Average climbing 2.2% to 13,593, the S&P 500 Index rising 1.9% to 1,465 and the Nasdaq Composite advancing 1.5% to 3,183 for the week. In contrast to market action following previous Fed easing announcements, last week also saw a significant selloff in bonds and an increase in inflationary expectations. Political (and other) risks bear watching The pending US “fiscal cliff” has been much in the news lately and its ultimate resolution is far from certain. We still hold out hope that there is a better-than-average chance that Congress can come to some sort of agreement during a last-minute lame duck session post the November elections to soften or delay some of the scheduled provisions. For this to happen, the Democrats would have to accept some sort of extension of the scheduled tax cuts and the Republicans would need to agree to delay some spending cuts. Should the parties not be able to come together on some sort of deal, the political environment could become more difficult in 2013. In addition to politics, investors are also retaining focus on US economic fundamentals. Data continues to be mixed, with housing and retail sales trending down a bit last week and industrial production looking a bit better. We are still maintaining our view that US growth should trend around the 2% level for the time being. Outside of the United States, we would note that concerns over the European debt crisis continue to percolate. The European Central Bank has committed to using its balance sheet to support the euro, but downside risks for the region remain. Growth is slow, the banking system is troubled and policymakers still need to chart a path forward for greater fiscal policy integration. Additionally, turmoil in the Middle East and elsewhere has been heating up. In addition to the violent protests occurring at US embassies, concerns are growing over Iran’s uranium enrichment programs. The possibility of a unilateral Israeli strike on Iran is a worrisome one and would have unforeseen effects on the global economy and financial markets. Signposts for a continuation of the bull market Although volatility has not gone away and downside risks have remained in the forefront over the past several months, stocks have continued to perform extremely well. On a year-to-date basis, stocks are up around 18% in the United States and even higher in other markets. With 20/20 hindsight, it appears that valuations were overly depressed at the beginning of the year and that confidence in policymakers to address Europe’s problems was too low. Additionally, it seems that many investors were positioned too defensively and had some catching up to do. Looking ahead, there are some signposts investors should be looking for to determine whether or not the current up-leg in risk assets can continue. First, we will need to see some indications that aggressive monetary policy is working. That is, we’ll need to see some improvements in economic growth statistics. We also would need to see the European Central Bank continue its policy support. There is still a great deal of room for policy error and the work of Europe’s politicians and policymakers is far from over. Additionally, we would look for clearer signs of a soft economic landing in China. These developments are all certainly possible and given that valuations are not extended, markets do have room to make further gains.
17 September 2012 Written by Training Traders
17 September 2012 Written by Training Traders
The global boom in commodity prices is over and Australia must improve productivity in order to remain competitive, Resources Minister Martin Ferguson said. “The easy earnings we get out of high prices are now gone,” Ferguson told Bloomberg Television in an interview from Canberra today.While Australia’s economy grew about 4 percent in the first half from the previous year on the strength of resource-industry investment and consumer spending, a plunge in the price ofiron ore and a high currency prompted mining companies including BHP Billiton Ltd. and Fortescue Metals Group Ltd. (FMG) to put off projects and cut employees in the past month. BHP, the world’s biggest mining company, last month decided to delay approval of an estimated $33 billion expansion of the Olympic Dam copper, uranium and gold mine in South Australia. Fortescue, Australia’s biggest iron ore producer after Rio Tinto Group and BHP (BHP), said this month it’s cutting its full-yearcapital spending forecast by 26 percent to $4.6 billion. “We have to accept that here on in it’s going to be a lot of hard work to actually expand capacity rather than rely on increases in prices,” Ferguson said.
Steel DemandIron ore prices fell to a three-year low this month amid stalling demand for steel in China. The commodity jumped 5.7 percent on Sept. 14 to $101.60, the highest since Aug. 22, after China approved plans to build roads, subways, railroads, sewage- treatment plants, ports and warehouses and the U.S. Federal Reserve announced monetary stimulus. Australia’s dollar rose 1.6 percent last week, the most since June, and bought $1.0537 at 11:01 a.m. in Sydney today. The high currency has increased production costs at the nation’s resource projects relative to U.S. dollar revenues. “We’re still competitive but the pressure is on us,” Ferguson said. “The pressure is on management, the pressure is on the workforce, the pressure is also on government at a state and federal level, for these resource companies that we build the necessary infrastructure, all aiming to improve productivity.” To contact the reporters on this story: Jason Scott in Canberra at firstname.lastname@example.org; Susan Li in Hong Kong at email@example.com
16 September 2012 Written by Training Traders
World heading towards co-ordinated policy intervention; US FOMC decision this week is key... but ECB and China gave the markets a shot last week; the rally is real, but political risks remain in Germany; commodities have out-performed since month-end. At last, markets are getting what they wanted: bad employment data from the US to force the hand of the US Federal Reserve, a clear statement of intent from the ECB that keeps everyone happy, and signs that the slow moving, but eminently powerful Chinese Communist Party is upping its stimulus game. Markets have moved up. Fixed income has rallied in Club Med with 5yr yields now in the range last seen in March and April, when the ECB’s long-term lending programme (LTRO) was still giving sentiment a boost pretty much everywhere. Equities and commodities have also gained across the board. Eastern European equities have rallied as the threat of cross-border capital flows disruption has diminished. Chinese and Russian equities have also gained; the latter as a high-beta play on global reflation. Korea has been upgraded. Commodities have been the biggest gainers in absolute return terms with soft commodities, industrial and precious metals up by anywhere between 5-20%. Silver has gained almost 20% month-to-date. EUR has also moved up to hug 1.2800, partly as policy moves have tended to signal a lower USD, and partly as short positions have been liquidated. EUR is now at its highest since mid-May. What has been especially invigorating for risk-taking portions of the market? It’s the combination of policy moves discussed here last week. US data is fine overall (note the decent non-manufacturing PMI number last week), but European and Asian (especially Chinese) has been poor and deteriorating. One central bank or fiscal authority moving in isolation isn’t going to achieve much. A combination or full house is what markets want. That is what they’ve got. US Federal Reserve chairman, Ben Bernanke, clearly set out his need to see deteriorating employment data before activating further monetary stimulus. That is, to a degree, what we got. Thursday’s ADP employment survey wasn’t weak. It came in well above expectations. But the overall tone of US labour market numbers hasn’t been good recently. And Bernanke can’t add stimulus measures after an election for fear of looking like he’s unwilling to act beforehand, when it’s most needed. In Europe, the ECB’s decision on Thursday to announce a bond-buying programme that satisfied most people’s needs was a masterstroke of politics, if not financial economics. Spain and Italy got an unlimited commitment to purchase their bonds of maturity 2-5 years, while German fears of fiscal profligacy were placated by conditionality. The latter locks in nations to IMF style restructuring programmes that can be terminated if funds aren’t used properly or if budget reduction targets aren’t met. And Spain and Italy got what they wanted because they will only become recipients of financial assistance from dedicated European bailout funds if they specifically ask for assistance – both claim they don’t need any assistance. The only strange thing about the plan was the announcement that the funds that have already been spent by the existing ECB assistance plan will remain senior in lien terms to new funding outlays(in the event of a bankruptcy the funds will be the first to be repaid). It has been suggested that the ECB knows a restructuring event is imminent in Portugal (the main beneficiary of ECB assistance to date). But in all, markets have liked what they got. In Asia, the Communist Party has complemented People’s Bank of China monetary stimulus measures by introducing infrastructure spending plans worth up to 3% of GDP. This makes sense in that the programmes aren’t roads to nowhere or further additions to China’s collection of ghost towns. It’s long-term infrastructure – metros, port facilities, water plants etc. These play two roles: first, they create jobs and second, they create the strong impression within a Communist Party with a passion for big ticket events that something solid is being done ahead of the hand-over of authority in the party at the end of this year. Naturally, commodities and foodstocks have gained. From a tactical perspective, we are advising clients that this rally is real, but that there are serious pitfalls if proper risk management isn’t employed. On September 12, the German courts sit to determine whether the European Stability Mechanism (ESM) is legal under German law. It’s not clear that the German legal system will decide that Germany’s constitution allows for large scale assistance of other nations, particularly those with a much lower retirement age than Germany’s. A no vote would put an abrupt stop to market euphoria as it would reduce the size of Europe’s bailout fund by at least one-third.