IIFT Daily Note with Peter Brown

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Daily Note – Vanity Fair

Vanity FairSummary

The World: Michael Lewis’ world view

China: PBOC’s targeted rate cut

Turkey: Industrial Production improves ahead of GDP data

United States: Correlation between USD & US Bond Yields should return

Good morning

This afternoon I am going to talk to my old mate Michael Lewis- he of Vanity Fair, Flashboys, Liar’s Poker and Moneyball fame- for the radio show I am doing for the next two weeks.

Michael is quite simply the best writer on finance in the world. There are many in the field, but he is the stand out player and as such, a joy to talk to. We’ll obviously discuss high-frequency trading and how it rigs our market, but I won’t just stop there. The entire “too big to fail” agenda, the role of investment banks in the US and the ever-rising levels of inequality will be on the table and of course Obama, given that he hung out with him for that brilliant Vanity Fair piece.

It should be interesting and this radio presenting, well all I can say is it’s better than a real job! Not least because another old mate Martin Lousteau, the former economy minister of Argentina, will be my Latino football correspondent from Rio where his outfit would want to be as good as the pre-tournament hype.

Speaking of hype, risky assets in Europe remain buoyant following the ECB actions last week and the robust US payrolls report on Friday. So markets go up when the economy is weak in Europe and getting stronger in America. Figure that out!

Equities remain close to their cyclical highs, while core fixed income markets continue to rally. Credit spreads are tighter and periphery yields are at record lows. Italian and Spanish 5 year yields are well below US 5 year yields. The EUR remains close to where it was prior to the ECB meeting, but that does not change our view that the EUR has entered a sustained downtrend.

China: China cuts rates

On 9 June after markets closed, The People’s Bank of China (PBOC) announced that it will cut the required reserve ratio (RRR) of particular banks by 0.5% from 16 June. The aim here is to support the development of rural areas and micro- and small-sized enterprises.

According to PBOC’s announcement, the targeted RRR cut will cover two-thirds of city commercial banks, 80% of non-county level rural commercial banks and up to 90% of non-county level rural cooperatives. In addition, in order to encourage consumption, the RRR for finance companies, financial leasing companies and auto financing companies will also be cut by 0.5%.

The target RRR cut could add about RMB 50bn of new financing for rural areas. This comes on top of the RMB 100bn financing that was released in late April after the last RRR cut.

The reason the central bank is trying to get the rural areas motoring is to stem the massive annual migration from the rural west of the country to the industrial eastern seaboard. This policy will continue.

As we pointed out a couple of weeks ago, the Large Cap China ETF (which we took some profits in yesterday) has outperformed the broader Shanghai Comp. Focusing only on the top 20 China stocks insulates you to some extent against broader economic worries. As we have pointed out again and again, we believe the crash, which is forecast for China, is not imminent.

Figure 1: China Large Cap ETF vs Shanghai Comp

Chart 1 10 June


Turkey: Industrial Production improves ahead of GDP data

Table 1 10 June


We haven’t talked Turkey for some time. Turkey is one of my favourite places to visit and every now and then, I take a punt in this fascinating but not too straightforward, country.


The place is holding up, but my friends down there tell me of some nasty political interference in business, which is not a good sign.


In April, Turkish industrial production was up +1.0% mom (+4.6%yoy) from a fall of 0.3%mom (+4.2%yoy) in March. As you can see from the chart below, industrial production has held up despite the large increase in the Central Bank base rate in January.


Figure 2: Turkish Industrial Production MoM % vs Central Bank Rate %

Chart 2 10 June


The improvement in the IP growth can potentially be linked to the recent rebound in confidence, but could also be the result of mere volatility in the series. The CBRT’s commitment to maintaining the overall tight monetary stance because it’s petrified of another currency rout, ain’t going to help growth in any way. Not too sure how to play Turkey right now, let me have a think and come back to you on it.


Figure 3: Turkish 10 Year Bond Yield vs Turkish Stock Market Performance

Chart 3 10 June


United States: Correlation between USD & US Bond Yields returning


It’s been a while, but it looks like USD is returning to interest rates as the primary driver of its price movement. As you can see from the chart below, higher bond yields have not led to higher USD until last month (post the ECB meeting).


Figure 4: United States 5 Year Note Yield vs USD Index

Chart 4 10 June


Historically (before QE changed everything), interest rate differentials were the primary driver of currency flows. Now, as QE comes to an end, rate differentials should reassert themselves. Therefore, our 5 year short should come good, driving up the dollar. But as Keynes observed, these markets can remain irrational long after you’ve remained solvent.  We took profit on our 10 Year Note yesterday afternoon, remaining short the 5 Year note.


Portfolio: Watching US data

Table 2 10 June

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