Category Archives: analysis

02.01.17
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Oil, Gold, USD, GBP, Yen COT report breakdowns & interpretation #fx #oott

 

We are seeing a 5Y extreme net bullish positioning from non commercial speculators. I would want to see bids at $40-46 forced out first, however. This means that a drop of about $13 is available. We have a slight Wyckoff bottoming pattern. I remain bullish above $36 long term on oil (WTI).

Gold

Looking at PA and the reduction in longs over Q4 2016 indicates that we aren’t in for a bull run any time soon. Wyckoffian schematics indicate a move to $1,050. Currently hitting a rounded resistance retest of a key low volume break below support, I would continue shorting gold with a stop above $1,260, target of $1,050 for a 3:1 risk to reward trade.

USD

Dollar longs have remained stable over the past few months. Open interest had increased due to the Trump USD rally. Trump’s team has said the dollar is too high very recently. External to this, USD LIBOR rising could be causing investors to shy away from USD denominated assets over the next few months as dollar hedging costs become too great relative to potential yields. I’d expect the dollar to stay within current ranges of 96-104 for the foreseeable future, however longer term I still remain bearish. What could change this is a) NAFTA terms being reassessed b) changing geopolitical situations c) Trump does something even more mental that has longer term economic implications.

Sterling

Sterling shorts have been covered since November. This is most interesting to me due to the perceived general public fear over a GBP crash when Article 50 is triggered. This could suggest that in reality, sterling would be in for a rally if you want to look at recent sentiment regarding the pound. We’ve had a pretty large spike in bearish volume at lows back before Christmas. A spike in volume at relative lows or highs can sometimes indicate a reversal, but I wouldn’t put too much credence into that. The ‘fat finger’ low at 1.1945 has not been taken, however I am basing my stucture off of the lows at 1.21 and 1.20. A hold above 1.20 I will remain bullish, however I expect a ranging market where sellers will be absorbed over the next few months.

Yen

Similar PA to gold here (understandably). Non-comms are net short Yen. How long they’ll maintain this for is another question if we start experiencing risk offish behaviour in other assets. Yen on a longer term picture is more interesting –

Below 0.80 and we could see 0.70. If 0.80 holds, however, Yen bid is on, even if this is totally detrimental to the BoJ’s aims.

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01.06.17
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Why Are Economists Wrong?

Andy Haldane has recently come out to apologise about the forecasts the Bank of England and experts had made in the wake of the EU Referendum. After having missed the occurrence of the 2008 financial crisis and totally misjudged the Brexit vote, is the Bank in disrepute?

Claims made by leading economic thinkers include statements of ‘fact’ (when it comes to experts providing opinion, the average Joe Public will take this as fact) such as:

“Britain’s shock vote to leave the EU has unleashed a wave of economic and political uncertainty that likely will drive the UK into recession,” Samuel Tombs, Pantheon Macroeconomics.

David Owen, the chief European economist at Jefferies International, said a technical recession – two consecutive quarters of contraction – may now be a given, followed by a period of very slow growth. He also said the UK’s long-term economic potential, known as trend growth, would be lower, “which has to impact the valuation of assets, particularly equities”.

(Guardian, 24th June 2016)

George Osbourne tweeted:

…as a result of Mark Carney’s presser which can be seen here, where they also expected a 20pc fall in the pound, which, by the way, was totally not unexpected – you can read about this in an article I wrote a month or two ago. In actuality, post referendum, we are experiencing very good economic conditions. Business confidence is up in Q4 2016 vs Q3 2016, inflation is at the highest level in 2 years (yet Andy Haldane is now arguing that inflation is going to hurt British consumers, after being a dove for a long time – talk about flip flopping), one of the biggest industries, construction, is seeing a boom, even in the face of higher material costs for builders, and finally, UK Q4 growth was better than expected.

This isn’t meant to be a total critique specifically of the post referendum expectations from the Bank and many expert economists, but a critique of forecasting of many events by economists, as well as their decision making along the line.

Consistently through history, economists have misjudged or mis-forecasted events, from the Great Depression, to Reagan’s ‘Trickle-down economics’, which many still feel holds weight today, to the predicting the financial crisis of 2008.

In 1999, The Economist wrote to the UK’s leading academic practitioners of the dismal science to find out whether it would be in our national economic interest to join the euro by 2004. Of the 165 who replied, 65 per cent said that it would. Even more depressingly, 73 per cent of those who actually specialised in the economics of the EU and of monetary union thought we should join – the experts among the experts were the most wrong.

(The Telegraph, August 2016)

I believe that it is because although economists use varying models, these models are consistently going to be outdated where human behaviours change according to environmental, technological, financial and resource bases advances and evolution. Models used 70/80 years ago are still being used today. A model that worked in a post war world doesn’t necessarily work today. It could lead you to ask why have interest rates consistently been on a decline for 30 years? Why are real wages decreasing long term? Evidently something is wrong with our economic system and I believe that a key reason for this is the lack of credible forecasting from our central banks and government economists, as well as other variables such as increasing inequality, which I think can also be attributed to certain post war mechanisms (hint, baby boomer created mechanisms).

In trading, you can argue that an analyst can have a totally different view of the market to a trader. The issue is that one is well, analysing, and one is actually putting their balls on the line and aiding price discovery – and everything is based on price discovery or supply and demand equilibrium. What is the punishment for Andy Haldane saying that there is the ‘potential’ for a post referendum recession apart from having to make an apology? Not much apart from a red face and an article critiquing him by an MT4 FX trader. A trader would lose or gain. There is something on the line but this leads me onto something that I feel economists totally forget about markets.

Pricing in is the notion that the market discounts everything. The price you view now is the price of all information known in the market. For example, one could look at the dollar rally we experienced from late summer to the December rate hike and consider the high of 118.5 as that being the market including all information based on the belief that a hike would have occurred, since we are now trading 200-250 ticks off of that price. The dollar tends to fall after US rate hikes anyway for about 6 months after. Slight tangent there, but the point is that economists tend to miss this a lot. Traders do not. A 15% fall in GBP was predicted by the IMF a year before Brexit. Traders knew this – they’d been shorting cable from $2.00 highs. They were just waiting for a catalyst to be able to capitalise on that fall – and in my opinion, it would have occurred anyway over time.

It’s the same with the Trump vote. There were heavy predictions of a stock market crash… we are hitting all time highs on Dow and SP500, and we can see the same phenomenon among economists working. In both cases, we saw economists over-estimate the effect of negative events and totally underestimate the effects of anything positive that could be taken from these two political decisions. To be honest, I was guilty of this on Trump. I thought he would win, but I did not expect there to be such strong risk on behaviour in bonds and equities. Conversely, we saw the opposite occur with the 2008 financial crisis. There were probably mutterings of ‘it’s housing, how can that go wrong’? Well in this case, the negatives were discounted totally. Part of this was due to ratings agencies providing smoke and mirrors to the actual situation, and part of this was due to the belief that if anything did go wrong, it would be so staggeringly bad that it just… couldn’t happen.

We also have the issue of data being provided sometimes 3 months too late (inflation forecasts for example). Economies are sensitive ecosystems. Supply and demand shocks can occur and change things very quickly during those periods. However, this is where I feel a more market analyst based approach has to be taken by economists rather than simply always adhering to macroeconomic models – humans aren’t rational beings all the time in relation to economics shocks, and the data lags don’t always reflect this. For example, I found it strange that the BoE cut rates by 25 BP back in August. You could say it was because they were trying to be accomodative, but then you have Andy Haldane coming out with statements that there are inflation risks, when we all know that monetary policy takes 12 months to take effect (however I think that just shows the Bank’s lack of forecasting ability and we go back in circles again).

One thing that I think that certain economists are really understating is the effect that China blowing up will have. Balls on the line, January 2018 that credit bubble will go boom (I can edit this if it happens in Feb).

 

 

11.25.16
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Why The Fall In GBP Was Inevitable… And Why It Is Good.

When Sunderland voted in June, we saw a 6% fall in the price of GBPUSD. The reasoning was that Sunderland surely wouldn’t have voted to leave since they were a Labour stronghold.

Why was this inevitable? Essentially it’s due to something called the Balassa-Samuelson Theorem.

Countries with high productivity growth also experience high wage growth, which leads to higher real exchange rates. The Balassa-Samuelson effect suggests that an increase in wages in the tradable goods sector of an emerging economy will also lead to higher wages in the non-tradable (service) sector of the economy. The accompanying increase in inflation makes inflation rates higher in faster growing economies than it is in slow growing, developed economies.

Definition taken from: http://www.investopedia.com/terms/b/balassasamuelson-effect.asp

Over the years, UK productivity has slowed a huge amount relative to wage growth. This means that workers consume more than they can produce and this causes a decrease in the current account surplus (and eventually changes to a deficit, as we have now).

Let’s look at the relationship between US living standards (which can be a proxy for productivity if you look at GDP per capita). At the end of the 19th century, UK living standards were 13% higher than that of the US, however by 2013, the living standards were 39% lower! US productivity has outpaced UK productivity, therefore, by 57% throughout the 20th Century:

Yet the real rate has stayed relatively stable, and in the last decade, GBPUSD has actually increased in real terms:

If the Balassa-Samuelson Theorem holds true (which it does when looking at the chart), then GBPUSD has been overvalued for a long time, based on the productivity discrepancy between the US and the UK.

Why does having a lower sterling benefit? Well, you have a re-distributive effect where UK exports become more attractive. We currently have a current account deficit of £5.22bn. It widened heavily in September due to firms still purchasing amid uncertainty at a higher exchange rate price. Economic effects have time lags – monetary policy for example has approximately 6-12 months before it has much effect to the everyday person. Greater exports lead to greater tax receipts for the UK and an increase in the price level when looking at the aggregate demand relationship (C+I+G+(Nx) = Aggregate Demand, where C is consumption, I is investment, G is government spending and Nx is net exports) and a shift upward in aggregate demand equates to economic growth. Obviously short term price shocks will affect the pocket of the everyday person as the market is out of equilibrium and because the time lags are still at play.

Adjusting for cyclical factors in the income balance, the IMF’s External Balance Assessment (EBA) models estimate that sterling is moderately overvalued in 2015. The 2015 CA balance is projected at -4.1 percent of GDP. If cyclical factors are removed, the EBA model estimates that the trade balance would improve by 0.3 percent of GDP. Based on the analysis above, staff estimates that the income balance will also improve by another 1 percent of GDP as cyclical conditions outside the UK improve. The underlying CA balance is therefore estimated at -2.8 percent of GDP. The EBA-estimated CA norm for the UK of -0.3 percent of GDP thus suggests a CA gap of 2.5 percent of GDP. Applying an elasticity of -0.23 (for the relationship between the current account and exchange rate) yields exchange rate overvaluation of 11 percent. The EBA REER index and levels regression estimate sterling overvaluation of 12 and 10 percent, respectively. Taking an average of these approaches and allowing for uncertainty suggests sterling overvaluation in 2015 of about 5–15 percent.

https://www.imf.org/external/pubs/ft/scr/2016/cr1658.pdf

In simpler terms, the IMF have examined exchange rates relative to sterling alongside UK international investment positions and have noted that due to external factors alongside reduced net income from foreign direct investment, the current account deficit had widened in 2015. When the deficit widens, the exchange rate depreciates as stated above. This is why it was inevitable that sterling fell. Now, look back at the chart and note the percentage decrease in GBPUSD and look at the prediction made by the IMF…

I think what we take from this is that it is not the fall that has shocked the everyday person, but the velocity of the fall and how sterling hasn’t been given time to re-balance endogenous variables and find equilibrium. I do think that we should now expect a lower pound for the foreseeable future, however I can see an anchoring bias occurring where we have experienced rate upward of GBPUSD $1.45 for so long that people will always consider a rate lower as ‘bad’ without understanding that a high pound relative to the current account deficit that we have is even worse.

Follow me on Twitter: @DavidBelleFX

11.24.16
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Could Oil Make A Break For $90 In 2017?

http://www.financemagnates.com/forex/bloggers/opec-push-oil-back-90-charts-say/

An article I had published in Finance Magnates.

Essentially I believe 3 things for 2017 –

  • USD weakness due to CCY swaps becoming too expensive to fund treasury & US equity buying from foreign investors.
  • OPEC meeting at the end of the month could drive oil prices up.
  • Chart technicals indicate oil bullishness.