You are using an out of date browser. It may not display this or other websites correctly.
You should upgrade or use an alternative browser.
You should upgrade or use an alternative browser.
Global Macro Trading Journal
- Thread starter Daal
- Start date
Some people asked me why short EUR, my hunch was that the panic there would lead to capital outflows. But now I can articulate a bit better
Lets say Greece drops out of EUR, depositors and people who hold financial assets(Lets call them DC Devalued Citizens) will face an overnight loss of something like 60% in their wealth. Non-devalued citizens(ND) will begin to wonder about their own wealth
ND with assets in countries with high spreads over bunds will begin to fear for their own wealth, the correlation between fears and people moving out of their assets from those countries will rise. They will do the following things most of the time
-Buy EUR denominated debt or deposit it in 'safer' countries
-Buy USD
-Buy real assets
But my bet is that when an actual departure from the EUR occurs the level of panic in the high spread countries will be so high that German yields will be driven to absurdly low levels(They are already quite absurdly low). Their real interest rates will collapse for many years out the curve. Low real interest rates will so bad relative to the US which will drive flows to the USD. Effectively the people there will be enacting a rate cut, that is usually bad for the currency
But there are another effects, when a country leaves they are also defaulting in loans by paying in a devalued currency so the banks of other countries who hold those debts will face losses. This means that the pool of 'safe' countries that ND can invest their EUR wealth will decrease(As they have to bail out their banks and people fear that the banks are not safe, perhaps France will be in this category) when the amount of countries where there is a risk(even if the risk is small) will increase. This will only encourage the capital flows to go towards the USD and Real Assets(Will also compress the yields in the remaining safe countries even further)
When the first country leaves and people see the loss for the DC, having money in EUR will be like being in a mine field where you don't know where the mines are. There is a haven(Germany) but if everyone piles up on the same place its valuation looks worse and worse. This would be excellent for USD and gold
Lets say Greece drops out of EUR, depositors and people who hold financial assets(Lets call them DC Devalued Citizens) will face an overnight loss of something like 60% in their wealth. Non-devalued citizens(ND) will begin to wonder about their own wealth
ND with assets in countries with high spreads over bunds will begin to fear for their own wealth, the correlation between fears and people moving out of their assets from those countries will rise. They will do the following things most of the time
-Buy EUR denominated debt or deposit it in 'safer' countries
-Buy USD
-Buy real assets
But my bet is that when an actual departure from the EUR occurs the level of panic in the high spread countries will be so high that German yields will be driven to absurdly low levels(They are already quite absurdly low). Their real interest rates will collapse for many years out the curve. Low real interest rates will so bad relative to the US which will drive flows to the USD. Effectively the people there will be enacting a rate cut, that is usually bad for the currency
But there are another effects, when a country leaves they are also defaulting in loans by paying in a devalued currency so the banks of other countries who hold those debts will face losses. This means that the pool of 'safe' countries that ND can invest their EUR wealth will decrease(As they have to bail out their banks and people fear that the banks are not safe, perhaps France will be in this category) when the amount of countries where there is a risk(even if the risk is small) will increase. This will only encourage the capital flows to go towards the USD and Real Assets(Will also compress the yields in the remaining safe countries even further)
When the first country leaves and people see the loss for the DC, having money in EUR will be like being in a mine field where you don't know where the mines are. There is a haven(Germany) but if everyone piles up on the same place its valuation looks worse and worse. This would be excellent for USD and gold
To me this mine field analogy is the real killer. IME people totally hate to lay odds in bets, everyone wants to bet getting 6-1 on their money not offer 6 for everyone 1 that is bet. Having EUR on a country that can devalue will be effectively laying odds on your wealth. You can lose a lot to make a little. This is also why there are excess returns in stocks that have uncertainties in them, they are sold to levels bellow their fair value because people hate a small gain if there is a significant chance of a large loss
This analogy does not apply to extremes, people will lay 100-1 if the chance of the large loss is really small, they will pick pennies in front of a truck sometimes. But the fact that they just saw a devaluation will change things, because now they will be afraid and will increase the probabilities in their minds of the large loss
This analogy does not apply to extremes, people will lay 100-1 if the chance of the large loss is really small, they will pick pennies in front of a truck sometimes. But the fact that they just saw a devaluation will change things, because now they will be afraid and will increase the probabilities in their minds of the large loss
BTW, I believe even the market agrees with my view. Back when Greece was threatening a EUR referendum and full default the EUR dropped 500bps. Its a matter of what the probability is, the market thinks its small so they keep the currency at the current level. I believe its much higher so I'm short
It seems that are 2 interesting ways to play this trade
-Buy black swan type long-term puts on EUR
-Short right after a country leaves, the currency will probably be down a lot that day, if feels un-natural to 'chase' the trade. But just imagine the people with huge EUR portfolios who now might want to liquidate. For them as a whole its going to take many days if not much longer
And of course, buy the stock market of the countries that leave with both hands after the deval
-Buy black swan type long-term puts on EUR
-Short right after a country leaves, the currency will probably be down a lot that day, if feels un-natural to 'chase' the trade. But just imagine the people with huge EUR portfolios who now might want to liquidate. For them as a whole its going to take many days if not much longer
And of course, buy the stock market of the countries that leave with both hands after the deval
Quote from Daal:
The political 'will' to keep things together just need a low enough GDP in order to be broken
The political will to keep the ECB fully independent and with a narrow inflation mandate needs just a high enough unemployment rate to be broken.
The EU elite will widen the ECB mandate and lower its independence before they let any state exit the Euro.
End result - to save the Euro, and the integrity of the EU, the ECB president will be made to fall on his sword and replaced with a Bernanke Mk II from southern Europe with a mandate to fight unemployment and assure prosperity, not just a 2% inflation target. That's my working hypothesis on how this plays out.
This view also raises a question of, since I'm long EURCHF and short EURUSD(And looking to add if I don't see strong counter arguments to the thesis), whether is better to go long USDCHF(Since that is the position I would have on basically)
There should be a interest income savings in that pair(it costs more to borrow EUR than to borrow CHF). But at the same time if my view is that outflows will be strong, a lot of it will go towards CHF and their debt instruments. In that scenario SNB will have to print a lot of money, at some point they could balk. I might be able to predict when they will balk(inflation is turning, money supply growth getting to uncomfortable levels) and get out at no loss since the ceiling will still be there
So yes, long USDCHF might be superior. I'd be laying off my risk to the SNB UNTIL they are ready to throw up, then I have to get out. I'd appreciate feedback here because it looks like this trade could have substantial upside and small downside
There should be a interest income savings in that pair(it costs more to borrow EUR than to borrow CHF). But at the same time if my view is that outflows will be strong, a lot of it will go towards CHF and their debt instruments. In that scenario SNB will have to print a lot of money, at some point they could balk. I might be able to predict when they will balk(inflation is turning, money supply growth getting to uncomfortable levels) and get out at no loss since the ceiling will still be there
So yes, long USDCHF might be superior. I'd be laying off my risk to the SNB UNTIL they are ready to throw up, then I have to get out. I'd appreciate feedback here because it looks like this trade could have substantial upside and small downside
Quote from Ghost of Cutten:
The political will to keep the ECB fully independent and with a narrow inflation mandate needs just a high enough unemployment rate to be broken.
The EU elite will widen the ECB mandate and lower its independence before they let any state exit the Euro.
End result - to save the Euro, and the integrity of the EU, the ECB president will be made to fall on his sword and replaced with a Bernanke Mk II from southern Europe with a mandate to fight unemployment and assure prosperity, not just a 2% inflation target. That's my working hypothesis on how this plays out.
This would work but it would be bad for EUR too, since it would mean they would all deval as QE would go rampant. I'm not sure this is a baseline though, Germany even RAISED interest rates in 1931, their pain threshold seems quite a bit high SPECIALLY now given that they got a good economy.
If there is some kind of revolt and its everyone against Germany they might do it but one has to look a the NGDP of the trouble contries, its off by a lot and is likely to go down some more. The amount of monetary stimulus needed to get a country of this kind of spiral is LARGE specially on the expectations side, if not done right NGDP will just stay weak japanified for a long-time
Thats a risk to my trade, if things just stay semi-bad(not bad enough for reforms) for a long-time. But using the CHF as funding the downside is cut by a lot. EUR is MUCH more likely to rise 10% than CHF is(I don't have the numbers but I'd be shocked if the options market disagrees with this)