Behavioral Macro

Mark Dow's microblog, analyzing global macroeconomic and market issues, often through the prism of our cognitive shortcomings

Four charts tell a powerful story of where we are. They all say “It’s Structural this time”

Four charts tell a powerful story of where we are. They all say “It’s Structural this time”. Safe Haven Exodus.

Yes, I know a correction could happen at any time. I myself got caught out jumping off the train a little too early back in late December. But longer-term, if you do the impossible and look out over the news cycle, these four charts below tell us a structural shift in risk allocation is afoot. The Policy Bears, the Central Planning Truthers, are either getting tapped on the shoulder or rounded up to be executed. How fitting: Death by stocks.

I am not talking about short- and medium-term positions, the kinds that get picked up in sentiment surveys and overbought/oversold oscillators. I am referring to the structural hedges big, slower-to-move strategic investors have had on to protect against the next macro crash. These massive structural trades—and make no mistake, they are measured by the ‘yard’—appear to be in a fairly early phase of unwinding.

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Above is the yield spread between the 2yr and 10yr UST yields, charted on a weekly basis back 5yrs. Moving higher is referred to as curve steepening, and is associated positively with growth expectations and risk taking. If you think about where this spread was in 2011 and how much better we feel about today’s economy and financial landscape, this spread could easily get back to well north of 200bps.

Another structural Safe Haven position has been to be short EURCHF. In size. Long CHF and short EUR. The reasoning is clear. Europe bad, Switzerland safe. I don’t think Europe is anywhere near out of the woods, but between the LTRO and the OMT, they have “merely” a growth problem now—or, at least for the next year or two. Rightly or wrongly, people are assigning a higher probability to Europe muddling through, causing the macro monsters to unwind the flight-to-Zurich trade.

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A first cousin of the EURCHF position is short EURAUD. Again, the logic is clear. Europe has no growth prospects and risked imminent financial meltdown. AUD, on the other hand, lives where the growth is, with a commodity kicker/China play thrown in. It has also trended for a long time, suggesting that a lot of trend following CTAs and hedgies have been riding it. The chart here two, suggests this trade too is now in the early phases of getting unwound.

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Lastly, a more exotic version of these Safe Haven positions is Short TRYZAR. This, too is unwinding. This trade is trickier because there are idiosyncratic moving parts in both countries, especially South Africa. But it does reflect global normalization from crisis mode coupled with modest growth. It also suggests, as do the 2s10s steepener and long EURAUD, that commodities will not bounce back as forcefully as they have in the past few years on bouts of risk appetite.

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But I should finish by being clear about my views: Don’t confuse me with a growth bull. Both the developed and developing economies have “digestive” issues they need to grind through, and economic expectations have improved to the point that when fiscal drag in the US starts kicking harder there will be room for disappointment. But the incipient unwind of these positions is nonetheless a strong long-term positive. It tells us a broader investing audience is, in deed and not just in word, coming around to realizing the next financial calamity, the Lehman II, that lurking “Other shoe”, is just not on the horizon.

  1. markdow posted this
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