The Euro Revisited

Back in December when we wrote our post “Is It Finally Time To Sort The Euro” we got a lot of flack for saying that the US Dollar was bottoming out and that the Euro was going to drop.  We received e-mails telling us about all of the problems with the US and why the Dollar is going down forever.  Our basic answer has been that while the US has tons, and by tons we mean trillions upon trillions, of problems the US Dollar is not going the way of toilet paper anytime soon.

While we knew of many of the problems in the EU when we wrote our post we had no idea how bad and how fast they would manifest themselves.  As you can see in the chart below since our post the Euro has broken down, consolidated at the 200-day moving average, and then broke down some more. (Click on cart to enlarge)

EUR/USD Daily Chart


So what do we see going forward?  In our earlier post we showed a chart of the EUR/USD purchasing power parity that showed the Euro as being 35% overvalued relative to the US Dollar.  As you can see in the chart below the Euro has narrowed the valuation gap considerably but is still 22% overvalued to the USD.  We would not be surprised to see the EUR/USD hit the 2008 lows around 1.25 before finding strong support.  (Click on chart to enlarge)



Happy Trading,

Disclaimer-In The Macro Trader newsletter we are short the EUR/USD

Gold and TIPS Diverging

Since the Match 2009 bottom many correlations have held extremely well.  We covered one in a previous post titled “US Dollar Correlation Breaking Down” and other ones here.  We can now add one more broken correlation to the mix.  TIPS and GOLD have been trading very much inline with each other over the last nine months or so.  The primary reason for the correlation is that since they are both seen as inflation hedges they should trade together.

As you can see in the chart below gold and TIPS have trade very much in line for most of the last nine months.  Over the past two weeks however the two instruments have diverged with TIPS going higher and gold going lower. 



So the big questions are why are these diverging and how can we make money from it.  You irst have to decide if you think inflation is going up or down and if you think TIPS and Gold are good inflation hedges.  If gold is a good hedge and you think that inflation is going to increase then you would want to be a buyer of gold.  If you think that inflation is set to decrease or that inflation expectations are overdone then you would likely want to short TIPS.  The other main way to trade this is to bet on a convergence and a return to correlation.  To take advantage of this you could buy gold and short TIPS.

Happy Trading,

Disclaimer-No positions in the securities mentioned.

Macro Trading Using Relative Strength

Since the start of our newsletter we have been using a relative strength table that looked at Fidelity Select Sector Funds to show what industry groups are leading and which groups are lagging. The relative strength calculation is similar to the style used by Bill Oneil and IBD but is slightly shorter term in nature. We used the Fido Funds due the their price history and breadth of different groups. Now that there are not only enough different industry group ETF’s, but also the needed price history we have revamped the model to use ETF’s instead.

We publish one list for United States industry groups and one that is focused on global ETF’s with several country and a few sector specific ETF’s. These tables are valuable in a few ways. One is that we have developed a trading model based upon them that uses the rankings along with buy, sell, and money management rules. Over time this model has beaten the market with far less risk. The other way that these tables are useful is that they show you what is strong and what is weak.

While this concept is not rocket science we are consistently surprised how little attention it is given by other traders. By using relative strength we can see what is really working and where investors are going. Many times the supposed “hot sector” is not really that hot. By looking at the tables we can see what is really working and what is not. For instance looking at the Global RS Ranking table below you can see the leaders and the laggards. While it is no surprise that Brazil is at the top when was the last time you saw someone on CNBC telling you to buy Indonesia or Turkey? Yeah we missed that segment as well. (click on table twice to enlarge)

Global RS Rankings


Right now this table is confirming to us that for the most part developed nations are weak and should be sold and that emerging markets are strong and should be bought. No, this is not the first or the only tool that told us this same thing but it is one way in which we can systematically be long the best areas of the world and short the worst areas of the world. It also gives us a road map of where investors are putting their money and where they are withdrawing it.

Another point worth noting is that while we are starting to run this as a “standalone system,” the system represents only a part of our portfolio. In our trading and our newsletter model portfolio we use several different methods in order to build a less correlated portfolio trading across asset classes.

Happy Trading,

Disclaimer-We are long EWZ-Brazil, EWT-Taiwan, and EWM-Malaysia

If you’re getting value out of our posts, you can do us a favor by linking to us and mentioning The Macro Trader to friends and co-workers. Here’s the link information for this article:
Title: Macro Trading Using Relative Stength

Macro Trading vs SP500 1997-September 2009

A lot is made of relative returns and how one strategy or fund does against the SP500.  While not the best benchmark for something like Global Macro it is nonetheless the benchmark that everyone is most familiar with and that is used the most on CNBC and in magazines.  So how does global macro stack up to the SP500?

The chart below shows how $1000 invested in the SP500 and the Barclays Global Macro Index would have done for YTD for 2009.  As you can see the SP500 while getting off to a rocky start is now leading the macro index by 9.68% so far.  While the performance of the SP500 has been impressive the other side of the story is that to get the 18.04% return in the SP500 you first had to go through a -19.56% drawdown in January and February to get it.  Contrast that to the Global Macro Index where you had a -2.06% drawdown and a 6.63% return YTD.  Yeah you are outperforming with the SP500 but the volatility has been huge. (click on chart to enlarge)

Barclays Global Macro Index vs SP500 2009 YTD


Of course nine months is not usually the best representation of a strategy.  Going from 1997 to the end of September 2009, how has the SP500 done in absolute and relative terms?  Since 1997 the SP500 has given a total return of 42.70% and a CAGR of 3.07%.  The Global Macro Index on the other hand has delivered a total return of 237.91% in the same time and a CAGR of 10.92%.  Looking at the chart below you can see that while the SP500 has periods of serious out performance, over time it has lagged in a big way. (click on chart to enlarge)

Barclays Global Macro Index vs SP500 1997-September 2009


Not only has the SP500 lagged in total return but when looking at the risk taken to achieve the anemic 42.7% you really have to step back and rethink a long only equity approach.  In fact if you have been in a SP500 index fund since 1997 we excuse you to go bang your head against the wall for a few minutes.  Once you are back look at the chart below of the drawdowns that you had to endure to get that awesome 42.7% total return.  Yes, you see two drawdowns over -45% each.  In 2002 we were down -46.28% and in early 2009 we were down -52.56%.  All this for a return that was not much better then sitting in T-Bills. (click on chart to enlarge)

SP500 Drawdown 1997-September 2009


Looking at the same chart for the Global Macro Index below we can see that the drawdowns are far lower and shorter in duration.  In fact the worst drawdown that we have seen so far is -6.42% in October 2008 and right now we are at new equity highs while the SP500 is still -31.78% below its highs.(click on chart to enlarge)

Barclays Global Macro Index Drawdown 1997-September 2009


Does this mean that everyone should go out and invest all their money in global macro and buy our weekly global macro newsletter?  No, on the first and yes on the latter.   All kidding aside what this does show is the fallacy of long only equity investing.  While being 100% invested in equities is great when they are moving higher you get absolutely crushed when things come crashing down.  In global macro you are not beholden to the possibility of equity risk premia but instead are able to look for the best risk to reward opportunities out there in any asset class.  This includes stocks, bonds, commodities, currencies, and more.  This flexibility to go where the best opportunities are enables the global macro investor to outperform not in any given year but in a full market cycle.

Happy Trading,

Disclaimer-We are a global macro research company and are therefore a bit biased in our investment views.

If you’re getting value out of our posts, you can do us a favor by linking to us and mentioning The Macro Trader to friends and co-workers. Here’s the link information for this article:
Title: macro trading vs SP500 1997-September 2009

Give Me Fuel Give Me Fire

Gimme fuel, gimme fire, gimme that which I desire,

Can’t fight the need for speed,

I’m loose, I’m clean, I’m burning lean and mean, and mean.

Ignite the open trail,

Excite, exhale, comin on, hot from hell, yeah hot from hell.

-Metallica “Fuel for Fire”

Where has all of the money gone? We know that the world should be running out of green ink any day now due to the Treasury printing money 24/7, but with all of this money coming into the economy we would have expected runaway inflation.  Up to now we have seen, for the first time in decades, steady deflation.  In fact as you can see in the chart below, since 3/1/09 YoY CPI has been negative. (click on chart to enlarge)

CPI 12-Month % Change


One reason why we have not seen any inflation is due to the personal savings rate going up and private sector leverage going down.  For baby boomers and really anyone who has been investing for the last 15 years, things are looking bad.  From 1995 to now, investors using a 70/30 stock bond mix, rebalanced monthly and adjusted for inflation, have seen a CAGR of only 3.89%.  Add to that the debt loads that most people have, and it makes sense that the personal savings rate has shot higher and from all estimates looks to be going higher still. (click on chart to enlarge)

Personal Savings Rate


So the question remains where has all the money gone?  Looking at the  WSBASE which defined by the St Louis Fed as the sum of currency in circulation, reserve balances with the Federal Reserve Banks, and service-related adjustments to compensate for float-it is obvious that overall money supply has absolutely exploded to the upside. (click on chart to enlarge)



So where has all of this money gone if not into the general economy? In a relationship first pointed out by Andy Kessler, the WSBASE has tracked tradeable assets like the SP500 and corporate bonds since the March bottom.  If you look at the two charts below you can see that movement in the WSBASE has led the SP500 and Dow Jones Corporate Bond Index by about a month. (click on charts to enlarge)

SP500 and WSBASE




When no one else wanted to own assets the Fed stepped in and became the buyer of corporate assets and has been the fuel that has driven this market higher.  In a vacuum this is not a bad thing, but we are not in a vacuum.  With the government putting all of the money into tradeable assets and not into the real economy, we end up with a market that could go down in flames at any moment.  What happens if the Fed backs away and stops buying?  If they stop buying, we run the risk of everything falling again and taking us right back to where we were.

The Fed in their infinite wisdom and bubble loving culture, continues to trade one bubble for another.  This time however, it appears as thought the bubble has not only been engineered by the Fed, but they have been the driving force behind it all.  As opposed to the housing bubble–where the Fed lowered rates and left them low but allowed people to build the bubble with their stupid home buying–this time the Fed lowered the rates, borrowed the money, and is spending the money.  Unfortunately for us when the bubble pops “the money” is really our money, and we come out on the losing end….again.

Happy Trading,

Disclaimer-In our weekly newsletter The Macro Trader we are long SPY, LQD, HYG, DBV, and UDN

If you’re getting value out of our posts, you can do us a favor by linking to us and mentioning The Macro Trader to friends and co-workers. Here’s the link information for this article:
Title: Give Me Fuel Give Me Fire