- Investors Beware: Risk Is Underpriced! – Peter Rosenstreich
- Draghi Passes The Hot Potatoe – Arnaud Masset
- JPY Ignoring North Korea – Peter Rosenstreich
- Cryptocurrency Miners
FX Market – Investors Beware: Risk Is Underpriced!
Central banks are suppressing the true price of risk in rates, which in turn are distorting all other risk measures. For instance, while Greece 2-year yields were at 9.5% seven months ago, now they stand at 2.67%. That is on par with dysfunctional Argentina’s debt and only 60 basis points above that of AA-rated New Zealand’s! Ok, the view is that Greece will be backstopped by the ECB (bolstered by German Chancellor Merkel’s pro-EU election platform and French President Macron’s speech yesterday in favour of EU integration). Nonetheless, investors should be wary of Central Banks ‘miracle solution’ for managing debt and avoiding default: the unadulterated creation of raw capital.
Concern about this is surprisingly low. The VIX index of volatility is trading at a modest 12, despite lingering concerns of nuclear war with North Korea. Capital continues to flow out of the USD and into emerging markets. The trend is accelerating, as Chinese trade data suggest, with a 5.5% year on year jump in exports and whopping 13.3% year on year surge in imports. This is boosting currencies such as the INR, SGD and IDR. However, we continue to "make hay while the sun is shining" however we are sensitive to the markets artificial comfort level.
So if there is no any longer credit risk, any return is a good return. Which is why shares in the Swiss National Bank stock (yes, the SNB is a publicly traded company) continues to rally. Printing francs to buy Euros and equities is a great business model.
Economics – Draghi Passes The Hot Potatoe
In spite of huge market expectations, Mario Draghi gave little information during the conference that followed the last ECB meeting, playing for time once again. As broadly anticipated by market participants the European Central Bank did not change the level of any of its three key interest rates. However, investors were hoping that Draghi will come with a plan regarding the future of the central bank’s quantitative easing program. The ECB’s president chose to leave this announcement for the end of the year as he declared the QE will run as such until December or even beyond if necessary.
Investors were also expecting a reaction to the euro appreciation of the last few months as it creates some significant downside risk for growth and inflation. Once again they were quite disappointed as Draghi only declared that the "euro volatility represents a source of uncertainty." He didn’t appeared too worried about the recent euro strength and did not suggest it will interfere extensively on the central bank policy. Therefore investors will have to wait until the ECB next meeting in October or most likely in December to get answers to their questions regarding the EUR/USD spiked to $1.2059 during the press conference and continued to rally during the Asian session, consolidating at around $1.2050. The fact that Draghi appeared not too concerned about the euro strength was interpreted as a bullish signal by investors. They quickly forgot that he did not provide any hint about tapering, which is definitely not a sign of confidence in growth and inflation outlook but rather a hint that Draghi wants maximum flexibility.
With the ECB meeting behind us, investors will now focus on the next big event that is the FOMC meeting on September 20th. Although the Fed hiking cycle seems on pause for now, with investors not pricing any interest rate hike before next year, investors are impatiently awaiting the Fed to finally reveal the starting date of its balance sheet unwinding programme.
In the meantime, the US dollar may continue to lose ground as investors discount Trump’s reflation trade and an aggressive pace of tightening from the Federal Reserve. However, the huge amount of short dollar position suggests that the downside is rather limited, especially considering that Yellen could hardly disappoint expectations since there is none. The risk is therefore skewed to the upside ahead of the FOMC meeting.
Economics – JPY Ignoring North Korea
We remain perplexed by the steady appreciation of the JPY. Tensions around North Korea remains at a worryingly high level. South Korean Prime Minister Lee has suggested that North Korea might be planning a missile launch test on Saturday, which follows last week’s thermonuclear test. Judging from market volatility indicators there is minimal concern across markets. However, unnerved by the threat, South Korea took delivery and deployed of four THAAD anti-missile defense launchers. Clearly, South Korea has a different view of the situation. In the FX market, JPY shrugged off the news and led the week’s FX outperformers.
Traders seems to continue to see JPY as a "safe-haven" trade despite Japan being clearly in North Korea’s cross hairs. We are seeing slight JPY wobbles on geopolitical disturbances but the currency quickly recovers. Markets are blissfully unaware of the tails in these circumstances.
The yen has been trading on interest rate differential and markets are unwilling to release this driver in-spite of mounting risks. The BoJs strategy of yields curve control has been successful in yields pinned to a low level. All the while, US yields have been shifting lower, narrowing key interest rate differentials. Persistently low domestic yields should force Japanese investors to look abroad for opportunity, yet that is no longer happening. Domestically, there is increase probably that Prime Ministers Abe early resignation could derails the BoJ policy. Which could explain why we are not seeing aggressive rotation out of JGBs into foreign assets. However, Kuroda’s doves control the BoJ, so while no additional easing is likely, the BoJ is not going to move-off their yield curve control. Given the current logic, the JPY trend will be dependent on foreign central banks normalization strategy.
While the Fed interest rate path has decelerated, we anticipate a policy hike in December. In our view, the miscalculations of risk emulating form North Korea combined with higher US rates should provide plenty of upside to USDJPY.
Themes Trading – Cryptocurrency Miners
The world of cryptocurrency is exploding. The utility of alt-coins has been exhaustively debated, with the overall result positive on the outlook for virtual currencies. While it remains uncertain which coin or token will become the dominant currency, what is clear is that the ecosystem will continue to thrive.
Cryptocurrencies might only exist virtually, but real-world technology is the driving force behind them. Mining, the process by which new coins enter the system, is very IT-intensive. Implemented in massive data centers with significant server computing power, mining demands the most innovative processors, graphics cards and memory chips available. The staggering price of Bitcoin and Ethereum, alongside numerous other alt-coins (Dash, LiteCoin, etc.), has led to a ground war for computing power, with miners competing for the biggest and best technology. This new client segment has pushed established vendors and FinTechs to create products to satisfy demand. AMD’s Computing and Graphics segment, which includes its Ryzen processors and Vega graphics processors, saw revenues increase by 19% in Q2 2017, to $1.22 billion.
