torsdag den 3. januar 2008

Stagflation the name, day-by-day the game

Macro Strategy note #1
January 4th, 2008-01-04

(This come with chart - for those of you who want Word document with full article please forward request to:

Steen Jakobsen, Saxo Bank, Asset Management

Stagflation light is the name
Day-by-day the game

Happy New Year!

The market is off to predictable start with weaker US growth outlook which ironically leads to higher crude, gold and weaker US dollar.

Ironic because weaker US growth should do exactly the opposite to the prices but market are trading day by day on THEMES not on fundamentals.

The format for my blogs will change slightly this year, again, I will try to run through different assets and charts and take cue from that plus obviously the odd reference to excellent reads.

Interest rate outlook

We came into 2008 very long 119 call in 30 Y notes, playing on the fact that the December reading of retail sales, which got every single Investment house bullish on US growth was a one off, the true drivers of growth(or lack of it) potential being;

1. Credit crunch
2. Housing net net negative impact (General any excess in cycle terms takes 9-12 quarters to unwind; we are now approximately half way!

We took the profit over the last two days as there is major gap in expectations;

Yield spreads 2 y versus 10 y is trading at +109 bps

New recent high. The yield curve overall is steepning. This indicates one or two things; Growth expectations is higher or inflation expectorations higher. For now let's assume its 70% inflation and 30% growth (stock market analyst' is more like 55/45 inflation/growth in outlooks)

Inflation premium (the measure of difference btw zero TIPS and US Treasury) trades @ 213 bps.

This is in line with above.....but then.....

One year Fed outlook as measured by swaps rate indications are at -135 bps.

This means Fed funds should be 135 bps lower in one year from now. Down from -90 post the retails sales number and heading towards low of August and November.

Hang on! Inflation expectations in 2 y vs 10 y is higher, also higher in inflation premium in TIPS vs. Treasury, but lower growth.... so it seems market, at least the bond market, CLEARLY feels that Helicopter Ben is going to give us higher, much inflation.....

This is bad news as it indirectly indicates that we will have lower growth and higher inflation, what's the word for that again? Stag-flation light?

Impact is pretty clear. Its the worst scenario for stocks with expected return quarter over quarter of ZERO, commodities should do ok, but less than in 2007, and ironically bond, short will do best.......

Credit market

I see deal after deal being cancelled in private equity market indicating the LENDING market has dried up for even relatively small deals.

I also note that junk bond spreads, ALL of them, much higher than during crisis in August and this despite biggest injection of capital is my career!!!!!!

Foreign Exchange

There is NO reason why you would own JPY on fundamentals, but little does it matter right now;

- Bias is increasing towards STRONGER JPY not weaker. Amateurs play carry-game while the pro's knows better than to engage in yield carry in high volatility environment.

- Risk reversals (the relative price of buying PUT to CALL on JPY) 25 delta 1m now at -340 bps mid (low in August < -600 bps

US dollar overall is more driven by rate differentials than equity ratio's (The US dollar shifts correlations between relative interest rate differentials and relative stock market performances) so more weakness expected until market moves from the US is DECOUPLED to RE-Coupling occurs.

Europe in TOTAL denial on state of growth outlook. 2007 strong countries like Spain, Sweden, Switzerland all seeing waning retail sales - Real Estate sector in UK, Denmark and Spain is in free fall if it was not for the ever bullish realtors "fake" measurements of prices.

Finally stock markets. The enclosed chart shows correlation between NASDAQ and inverted junk bond spread. Theory being; as credit market worsens so should stock markets, the US Inc is NET borrowers of capital day in and day out.

Strategy bias;

Fixed Income:

ISM getting into 2003 lows and approaching 2000 recession like…!!!!
Gap in inflation expectations needs to be monitored. Ben "I got no clue" Bernanke has dropped so much money into market at a time of ALL time high Gold and Food prices...and high inflation expectations - its going to DOOM him..... Fed controls ZERO to 12 month and will be cutting aggressively, market controls the curve and will not follow 1-for-1, meaning steeper curve, and more built "insurance" through higher premium..... I’m net neutral into employment data. I expect POOR number, if and that's a big if they are honest reported!

Net: Neutral, with long bias in 2-5 y sector.

Foreign exchange:

Been long on and off EURGBP for long time. GBP sucks. Use ANY strength to sell GBP.

JPY: Respect Risk reversals. Looking to enter LONG JPY.

EUR: Rates differentials rules - but it is time for RE-COUPLING, i.e. Europe growth to be lowered relative to US, so EURUSD drop in the cards going in February

EMG: Still best value. EMG home bias less pronounced this I hear from Morgan Stanley, if so high yielder’s NZD, AUD should do well and KWD, Singapore should weaken.

Scandies: Used to be my game. NOK and SEK disappointed me. Think further weakness due.


Took profit on Agri-play last night. Still think DBA will double in 2008, but presently lower growth has not played role and market in denial. Early profit in the year always good.

Been long gold - still willing to go long again....

Crude - 100 $ why so difficult to break?

Overall; the last 20 US in crude is de facto US weakness, similar is the last 200 USD in Gold, so... when the cycle turns, expect MASSIVE correction.


Neutral - favour 60/40 odds on that break of long, long sideway action will be to downside due to graph attached.


Day by day plays for now - Find TODAYS theme - leverage and close before you go to bed. January not for real players, too much new RISK capital around.

May the trading Gods be with all of us in 2008.

Steen Jakobsen

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