Macro FX Trading Q1 2017 Commentary
|Instruments traded:||FX Spot|
|Investment Style:||Discretionary (non-systematic), Macro analysis, Technicals|
|Quarterly Return:||-1.58% (net of service fee but gross of any applicable performance fee)|
|Q1 2017 daily return volatility:||0.88%|
|Average Trades per week:||8.9 (since inception)|
FX and rates markets have been strongly influenced by politics in the West during the first months of 2017, against a backdrop of rising global PMIs, equity markets and other risk assets.
In Europe, markets awaited elections in Holland, France, Germany and possibly Italy later in the year. During January, the spread between German and French government bond yields steadily widened as Le Pen, in the French elections, surpassed 40 percent in 2nd round polls. This drove the market to start pricing the small but rising chance of a Le Pen victory, potentially posing an existential threat to the EU.
Alongside this, ECB QE purchases of German paper saw 2 year Schatz yields fall in February to record lows approaching -1 pct. Bund yields declined to approximately 20 basis points, capping any upside for the Euro. This has helped supress global rates, including those in the US and subsequently the USD, whilst lending a bid to the Yen as rate differentials remain capped. In March, hawkish ECB sources and board members suggested the early removal of stimulus via an early rate hike, and this resulted in European bond yields and the Euro rising.
In the UK, FX and rates markets, as well as the Bank of England, appear to be in limbo. FX has fluctuated, sometimes aggressively so, yet within the range incurred both before and after the triggering of article 50. Markets now await the conclusion of European elections, after which serious negotiations for Brexit can begin.
In the US there was a drip feed of policy intentions by the Trump administration during January via Executive Orders and presidential tweets. This saw the repeal of Obamacare and more isolationist policies being announced, ahead of awaited details on Tax Reform and Infrastructure Spending. Alongside European political risk, this suppressed US rates and the USD. The US Fed retained its hawkish language, cognisant of ongoing solid data and closing in on its dual inflation and employment mandate. The USD remained soft in Jan and Feb as it awaited policy confirmation and positive signals from the rates market. This swiftly changed in early March, as unanimous hawkish US Fed comments cemented expectations for a March hike, which subsequently transpired. The event itself was perceived as a doveish hike and led to aggressive short covering, leading to pronounced curve flattening in line with moves seen on previous US Fed hikes.
The Commodity currencies generally reflected the moves of western bond markets , being a barometer of the reflation story alongside the ups and downs of oil and industrial metals throughout the quarter.
During the quarter the Macro FX Trading strategy detracted, in which January incurred most of the downside, partially offset by gains in March. A drawdown period ended in late February 2017, having started late December 2016. The larger January drawdown was the result of underperforming long USD positions against EUR and JPY, despite strong US data and consistently hawkish US Fed-speak, which was expected to be supportive for the US Dollar. These positions were subsequently reduced and cut given uncertainty surrounding various Trump policies. The book gained from reinitiating long USD positions in early March, as chances of US Fed action, ratcheted. Upon the actual rate hike, the US rates curve flattened and core USD long positions were squared. Thereafter more opportunistic trading added to gains.
European bond yields and US yields have moved lower in tandem of late, thus the only real trend has been that of a higher JPY, as JGB yields remain pinned. Until further clarity develops in the political arena, positions will remain light and opportunistic. A key determinant of market moves is expected to be the US Fed and also the ECB’s touted reduction in the quantity of money and adjustment in the price of money.