You know how it is

April 7, 2019 – Weekly Comment

Dan Milner: Well, you see how it is: fools get away with the impossible.

Lenore Brent: That’s because they’re the only ones who try it.

That’s a bit of dialogue from the 1951 film noir, His Kind of Woman starring Robert Mitchum and Jane Russell.  The plot is summarized as follows:  “In a desperate attempt to get out of debt, career gambler Dan Milner (Robert Mitchum) agrees to rendezvous with a mysterious contact at a distant Mexican resort in exchange for $50,000.

It sort of touches upon all the current flashpoints.  Desperate authorities trying to address unsustainable debts by doubling down.  Gambling on mysterious theories.  Closing down the Mexican border.   

We often use that little saying around the desk. “You know how it is…”  Like this: “You know how it is, the central banks supply additional liquidity and stocks make new highs.”  (Not so fast, financial shares). 

I was so desperate to come up with something to write about this weekend that I actually was going to lead off with the Live Hog/Live Cattle spread which I learned about from DK on Friday.  And while it’s interesting that Hog prices are converging toward that of Cattle as the African Swine Fever outbreak in China has driven up prices for the former. I couldn’t really do the topic justice except to note the logical reason for the move. But there are some spread divergences that perhaps have a larger macroeconomic theme.  For example, here’s a chart of Nasdaq and the KBW Bank Index over the past two years.  KBWB is comprised of large national US money centers, and regional banks and thrifts.  JPM, BAC and WFC are nearly 25% of the index.  Up until the March 2018 Fed hike, the performance of the two were similar, but the flattening curve weighed on KBWB. 

Nasdaq in black/ KBW Bank Index in gold

A lot of charts indicate the same thing, whether looking at SPX vs financials or SPX vs small caps.  Is this move into the safety of large caps a possible warning sign?  It’s worth mentioning that earnings season will be kicking off with some of the big banks reporting. On Friday, JPM and WFC release results, with the following Monday and Tuesday seeing reports from C, GS and BAC, MS.  But perhaps there’s nothing to be concerned about at all with respect to liquidity.  Consider the following:

“In 2018, a remarkable 83% of IPOs were of companies that did not turn a profit compared to 81% at the height of the mania in 2000.   This is a stupendous achievement considering that in the 1999-2000 IPO era, the craze for shares of money-losing companies was such an affront to the idea of an efficiently operating market that it quickly entered the history books as a once-in-a-lifetime event.”

I saw the above quote cited as being from The Elliott Wave Financial Forecast.  I didn’t research its accuracy, but with the IPO of Lyft, we’re back to fools doing the impossible:  selling the public a money losing enterprise pinned on the hopes of larger scale and better logistical applications leading to eventual profit.  I’m going to go out on a limb and say that Fed Ex is pretty good at transportation logistics.  And that’s down 29% from its 52 week high.  Or look at Expeditors Intl, also in transportation services.  EXPD has a market cap of about $14 billion and makes money.  Lyft has a market cap of $21 billion.

This is the environment we face as Trump tries to pack the Fed and juice the economy and stocks.  Fools getting away with the impossible?  Here’s a quote from new Fed nominee Herman Cain as he ran for president in 2011.  “A poet once said, ‘Life can be a challenge, life can seem impossible, but it’s never easy when there’s so much on the line.”  That poet was disco queen Donna Summer, the quote having been lifted from the song featured in the Pokeman movie of the year 2000.  Let’s get this Fed party started!  Maybe it’s all going to work out fine and lead to solid wage growth that lessens income inequality.  You know how it is.

On the other hand, I keep having the sense that a pervasive wave of deflation is again going to descend on the global economy as USD strengthens. What if the hyped trade deal with China resolves in China slowly weakening its currency?  In 2014 Japan unleashed yen depreciation as part of its three arrows.  In Q3 2014 $/yen was 102, and by the middle of 2015 it was over 125.   Eventually, China had to respond and devalued in August of 2015.  From mid 2014 to the end of 2015 crude oil went from over 100 to below 30.  The dollar index DXY went from 80 to over 100 by Q1 2015, and then bounced around between 93 and 105 for a year.  In the middle of 2016 most major bond markets made their low yields. In 2015 of course, we had the plunge in oil and emerging markets.  A deflationary wave that was partially spurred by USD strength.

Now DXY is 97.40 and appears likely to re-visit 100 as Europe wallows.  The quesiton is, how do we know when the “authorities” who are somberly trying to hold it all together pull the plug?  In early 2015, it was the Swiss National Bank that abruptly dropped the EURCHF peg.  Then China.  Right now, it’s the Hong Kong dollar that is having a peg tested.  Through the middle two quarters of 2018 and now again, HKD is pinning 7.85.  China has had CNY strengthen against USD since late last year.  Gold has attempted to get through 1350/1370 at least once a year since 2016, most recently in February at 1345, but can’t seem to confirm an inflationary impulse, now having fallen back to 1290. What if the China deal is sealed and HKD breaks through 7.85 shortly thereafter?

The administration is trying to jawbone a Fed ease.  Kudlow is out there uncomfortably pressuring the Fed to cut.  But before long, mark my words, it is going to be Mnuchin’s turn to talk down the dollar. This will occur shortly after the US/China deal is signed.  And he will do it despite the hypocrisy of having admonished China to keep their currency stable, which, by the way, has been done, especially against the price of gold.  Mnuchin will single out Japan and Europe as $/yen exceeds 115 and EUR breaks below 1.10, and will once again hint that a weaker USD is good for global trade.  Trump says the China deal could be completed in four weeks.  Just in time for the “sell in May and go away’ adage.        


EDH21, M21 and U21 are the highest points (lowest yields) on the euro$ curve, having all settled 9780.5, approximately 40 bps lower in yield than the current libor setting.  I suppose if we’re using the curve as a guidepost for when recession will strike, 2021 is the wager.  However, near term eases are being priced in Fed Funds, with FFF20 settling at 9777.0 which is 3/16% lower in yield than the current Fed Effective of 2.41%.  In terms of a timing forecast, the market is pegging either the Sept or Dec FOMC with the highest odds of an ease.  The May/July FF spread is only -2.5, giving a one-in-ten shot for an ease in June.  July/Aug settled -1.5, indicating little chance of an ease at the Aug 1 FOMC.  But Aug/October settled -5.5 and November/January at -6.0. (Oct/Nov also settled -1.5, with a meeting on Oct 30th). 

Tens and bonds both rose about 9 bps on the week with supply coming Tuesday thru Thursday of 3, 10 and 30 year paper totaling $78 billion.  Maturing amounts are very close to that amount, so the auctions should roll very easily. 

3/29/2019  4/5/2019  
UST 2Y 227.0 234.1 7.1
UST 5Y 223.8 231.2 7.4
UST 10Y 241.2 250.1 8.9
UST 30Y 282.0 290.9 8.9
GERM 2Y -60.3 -56.8 3.5
GERM 10Y -7.0 0.6 7.6
JPN 30Y 49.9 54.5 4.6
EURO$ Z9/Z0 -28.5 -27.0 1.5
EURO$ Z0/Z1 1.0 -1.0 -2.0
EUR 112.19 112.18 -0.01
CRUDE (1st cont) 60.14 63.08 2.94
SPX 2834.40 2892.74 58.34
VIX 13.71 12.82 -0.89
Posted on April 7, 2019 at 2:22 pm by alexmanzara · Permalink
In: Eurodollar Options

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