Dr Woo

December 1, 2019 – Weekly comment

This week we start out with some notes on Dr Copper, a commodity previously said to have a PhD in economics because it was such a ubiquitous manufacturing input and therefore its price indicated turning points in the economy. At this point, I’m not sure if its price has any predictive power, since such a large slice of activity these days is in service, information, and money flows.  However, there’s an interesting note on ZeroHedge about the likely $300 million dollar bond default of Tewoo Group, a state-owned enterprise in China’s Tianjin province.  The news here isn’t unexpected; its bonds have already been hammered amidst rating downgrades.  The news is that China is allowing restructurings without a bailout, and the company is apparently asking investors to accept losses of 64% on its bonds.  Back in April, Tewoo Group was facing a liquidity crunch.  Just for background, “The group ranked first among Tianjin Top Hundred Enterprises and is the first company in Tianjin to be listed among the Fortune Global 500.”  By way of comparison, Tewoo is said to have annual revenues of $66 billion, which is just about the same as Archers Daniels Midland in the US ($64B in 2018).  Tianjin is the third to fifth largest municipality in China depending on measurement.  Can you imagine if a city like Chicago in the US was staring down bankruptcy due to gross financial mismanagement?  : – /   

Anyway, let’s get back to Tewoo.  But not before another tangent… whenever I see ‘woo’ it reminds me of a story about Don Wilson, a former euro$ option pit trader who built the financial powerhouse DRW.  In the early days, Eurodollars traded in Singapore on the SIMEX floor during night hours in the US.  Of course, Wilson was a large trader.  His account number was DRW 00, which would be written on the tickets.  So naturally, in that part of the world he was then known as Dr. Woo.  Misinformation in markets?  “Dr Woo is a large seller.”  To continue,

Tewoo applied for a bank loan extension on 3 April 19. Subsequently on 8 April, the group announced the sale of its copper stocks to ease its tight financial liquidity condition. On 9 April, Fitch Ratings placed Tewoo Group on negative watch, and downgraded the company’s rating from ‘BBB’ to ‘BBB-’ on 18 April. Finally on 29 April, Fitch again downgraded Tewoo’s credit rating, this time by six notches to ‘B-’.

In late March to early April copper was trading around $2.90/2.95. By the beginning of June it fell to 2.63 and remains around that level now.  For a longer term perspective, the current price (HGH0) is 2.6615, having been as low as 2.00 at the end of 2015 and into 2016 as emerging markets and oil were in a wash-out, and as high as 3.30 in the middle of 2018 when all assets were buoyed by the stimulus of the US tax package.  In the big picture, this price action probably isn’t all that informative.     

But perhaps Tewoo and Tianjin are rather important in a larger sense.  In 2007/08, the US exported a global financial crisis, courtesy of the US mortgage market and transformation of questionable cash flows into tailored financial products.  China has slowly been letting the veil of a guaranteed backstop slip for SOEs.  This weekend, PBOC chief Yi is assuring that the central bank will not devalue, nor engage in quantitative easing. (BBG) “China’s monetary policy should remain prudent with room for adjustment as a prolonged downturn in the global economy is likely.”  From South China Morning Post, quoting Yi, “We should not let the money held by the Chinese people become worthless… Maintaining positive interest rates and an upwards inclined yield curve is generally conducive to the economic entities, and in line with the Chinese people’s saving culture, thus beneficial to the sustainable development of the economy.”

With respect to a prolonged global slump, note that S Korea’s exports fell for the 12th consecutive month, falling 14.3% year-over-year in November.  And, as a reflection of China’s weakness, consider the Australian dollar which has fallen to 0.675 from over 1.00 as recently as 2013, and is within shouting distance of the 2008 crisis low.  So even though the Tewoo numbers aren’t all that large, the story may be emblematic of troubles ahead.

Aussie dollar 2001 to present


Let’s review a few interest rate straddle markets. 

The following table shows prices from 8/30/2019 (with days until expiry as of Sunday 9/1/2019)

Contract Settle strddle strike  strddle pr dte
EDH20 9845.0 9850.0 43.5 197
EDH21 9883.5 9887.5 69.5 561
EDH22 9883.0 9887.5 86.5 925
2EH2 9883.0 9887.5 46.0 194

On Friday 11/29/2019 prices are as below (days until expiry as of Sunday, 12/1/2019)

EDM20 9838.0 9837.5 24.5 197
EDM21 9854.5 9850.0 60.0 561
EDM22 9848.5 9850.0 83.0 925
2EM2 9848.5 9850.0 41.5 194

At the end of August, EDH0/EDH1 was -38.5, as easing was expected to continue.  Currently, in the same relative time slot, EDM0/EDM1 is -16.5 as forward easing expectations have declined substantially.  Near straddles have, perhaps unsurprisingly, compressed.  With 197 days to go, the EDH0 atm straddle was 43.5, but EDM0 is now only 24.5.  However, there is still a bid for longer dated vol.  With 925 days to go the EDH22 atm straddle was 86.5 at the end of August and now, with 925 dte, EDM22 is 83.0.  Of course, relative to strike price changes, even the long dated straddles have come in quite a bit, as 86.5 is a much bigger percentage of the 1.125% strike than 83 is relative to a 1.50% strike.  In any case, near term premium has come in due to the Fed conveying a message of stability.   However, the global economic picture could change significantly after the US election.  In a way, this argues for owning premium in 2021.  At the end of August, the red/green March (EDH21/EDH22) atm straddle spread was 17 bps.  But the same relative straddle spread now i(EDM21/EDM22) is 23 bps. 

The Fed seems to have contained the repo problem.  However, if the PBOC is correct about a continued global downturn, it’s still possible to see a rate cut here, if not in December then perhaps as early as January.  February Fed Funds reflect little chance of an ease at the Jan 29 FOMC, settling at 98.465 on Friday, and April FF, which also capture the March FOMC settled at just 98.505.       

There’s a good deal of news this week, culminating in the employment report on Friday.  On Monday, we get ISM Mfg, which is expected to show a small improvement to 49.2 from 48.3.  On Wednesday, ISM Services expected steady at 54.5, from 54.7.  Factory Orders and Durables also out on Wednesday.  I think it’s likely that we will see a bit more of a price concession in long treasuries going into the employment report as liquidity and USD strength continue to underpin US equity prices. 

11/22/2019 11/29/2019 chg
UST 2Y 161.2 160.2 -1.0
UST 5Y 161.5 161.8 0.3
UST 10Y 177.1 177.6 0.5
UST 30Y 222.2 220.3 -1.9
GERM 2Y -63.6 -62.6 1.0
GERM 10Y -35.9 -35.3 0.6
JPN 30Y 42.1 40.7 -1.4
EURO$ Z9/Z0 -40.3 -37.8 2.5
EURO$ Z0/Z1 -5.0 -4.5 0.5
EUR 110.23 110.19 -0.04
CRUDE (1st cont) 57.77 55.17 -2.60
SPX 3110.29 3140.98 30.69
VIX 12.34 12.62 0.28




Posted on December 1, 2019 at 4:34 pm by alexmanzara · Permalink
In: Eurodollar Options

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