Macro Edge #35
Originally posted on thepensivenugget.com
Markets have seemingly calmed down, with the US yield curve moving out of inversion, and commodities along with the USD off their highs.
But, traders and investors need to avoid falling into complacency.
Global conditions are fragile, and under increasing pressure with each passing day.
Not A Time To Be Complacent
- The US yield curve managed to steepen out of its inversion in both the 2s-10s and 5s-10s, but:
- The curve is still very flat, and the financial stress it signaled by inverting should not be ignored; inversions tend to happen months in advance of a recession
- Recession risk is now real, compounded by high levels of inflation in food and energy globally
- Commodities prices remain high even as they start to stabilize
- WTI continues to yo-yo around $100, a level too high for a world contending with high inflation and growing recession risks
- Wheat is still expensive, although it might be in the process of consolidating above $1000
- Base metals prices remain bullish, with Copper pushing the top end of its range, Aluminum still >$3000, and Iron ore continuing to rally
- Global USD funding conditions are critical to how far financial contagion spreads, and how deep the recession gets
- Demand for USDs remains stronger than it was at its low in the middle of last year, which implies that global USD funding conditions are getting tighter - not a good sign for the world economy, and NOT helped by war
- USDCNY is the canary in the coal mine, and can tell us when stress levels in USD funding markets increase
- Higher energy, raw materials, and food costs feed into higher inflation all around the world. This combined with the flat/inverted US yield curve and stronger USD isstagflationary at best, deflationary at worst
Trading Ideas — Performance
Trading Ideas — Commentary
- Purchased a straddle on gold, using GLD options, to take advantage of gold trading in a tight range in the first week of April
- At this point, biggest risk to the trade is if gold settles into a tight range again (which it has done quite often of late), with little volatility
- Did not put on an outright long position due to the uncertainty over which way gold would breakout of its range
- Entered into short positions in EURUSD (again) & GBPUSD
- EUR, GBP are best candidates to short vs the USD now as they are looking more bearish than AUD and CAD
- Need to wait for short term trend in AUD to realign with its medium term trend before taking a position
- Long USD positions were stopped out due to volatility
- Initial EURUSD short closed for a gain of 3.83%
- AUDUSD short was stopped out at 0.7285 for a loss of -2.03%
- USDCAD long closed out for a gain of 0.66%
- Long oil position did well (expressed via XLE in ETF Edge), and was also closed out due to volatility
- Exited straddle on TLT in anticipation of long yields turning lower, for a net gain of 18.4%
- Now looking and waiting for long yields to make a top, before going short US long yields (long 10y/30y USTs)
Trading Ideas
- Long USD:
- Well established trend, in place for >6 months in most major currency pairs
- If global economic growth does take a turn for the worse in the near future, global USD funding markets will tighten, driving the USD even higher. War in Ukraine is NOT helping
- US yield curve’s inversion (even as the Fed turns hawkish) has given us a clear warning sign
- USDCNY has started to turn higher, hinting at worsening conditions
- Serves as a broad hedge against other “risk” assets in your portfolio, like stocks. BUT:
- Don’t think of the USD trade as “only” a hedge
- It is entirely possible, and normal, for the USD to strengthen as equities rise. The 2nd half of 2021 provides a good example of this, where US equities rallied even as the Dollar broadly strengthened
- USD longs in general should do well, but of the G7 currencies, look to go long the USD vs:
- EUR
- CAD
- GBP
- AUD
- Long 10y or 30y US Treasuries:
- Yield curve inversion (2s10s in early April, 5s10s earlier) signals the coming end of the current economic growth cycle, which means that nominal yields will start to turn down soon
- Monthly & yearly trends in yields are bearish, and looking for an opportunity to short yields is in alignment with long term trends
- Trade can be expressed:
- Long TLT, or long TLT Calls
- Long US T Note/Bond Futures, or long Calls on Futures
- Long Gold:
- Gold has quite decisively broken out of resistance levels and looks strong technically
- The geopolitical backdrop is also supportive of higher gold prices
- Be wary of trading gold based on current high levels of inflation as it didn’t rally over the past few months on record breaking CPI data releases & headlines
USD pairs come off key levels… EUR
- EUR’s fall has been temporarily halted at 1.081 support, where it has caught strong bids
- The medium term trend is still bearish, with new lows likely, but it has to break below 1.081 first
USD pairs come off key levels… GBP
- GBP fell to test support at 1.30, where it bounced strongly, and now looks to be heading to test 1.317 resistance
- Sideways trading between these two levels is possible in the short term, with the broader trend still bearish
USD pairs come off key levels… AUD
- AUD continues to move lower, and is now trading around support in the 0.744 region, with support after that ~0.7315
- The trend remains bullish in the short term but bearish in the medium term
USD pairs come off key levels… CAD
- CAD managed to rally to test resistance in the 1.262–1.266 zone, but failed to breakout and turned down again
- Support at 1.245, and resistance at 1.266, look to be key levels in the short term
Except for CNY which is trading sideways
- The CNY traded sideways over the last week, but stubbornly remains closer to resistance at 6.385 than its March highs vs the USD ~6.3
- CNY’s future direction will be key in determining the direction of other risk assets
US long yields make new COVID era highs… US 10y
- US 10y yields managed to briefly break above resistance at 2.77%, but have since fallen back to the mid 2.60s
- Intermediate support lies ~2.6%, with major support a distance away ~2.06%
US long yields make new COVID era highs… US 30y
- US 30y yields also made new COVID era highs, rallying to major resistance between 2.85% - 3%
- A test of 3% looks increasingly likely, and critical support is far away at ~2.05%
As the US yield curve steepens but remains flat…
- The US yield curve steepened after inverting last week
- 5s-10s also managed to steepen out of their inversion (by ~5bps)
- It still remains very flat, and inversions, no matter how brief, are clear signs of stress in the system
US breakevens ease off a little but remain high…
- Breakevens are still near their highs but look to be coming down
- They have been quite volatile, probably mirroring oil prices
- Stagflation remains a distinct possibility, if not outright deflation
European yield curves remain steep vs the US…
- German and French curves are steep but moving sideways
- Italy’s is still making new (steeper) highs
- When this trend ends, it could mark the start of another global downturn, especially if CNY has weakened even more by then
Oil moves above $100 again, but looks to be consolidating…
- WTI fell close to support at $92 before rallying strongly
- Oil seems to be trading in a wide range between $92-$116
- 7 March looks increasingly like a top, but supply remains tight vs demand; a sharp drop in demand is needed for prices to really fall
As Copper remains firm near the upper end of its range…
- Copper is still trading close to the top of its range ~$4.79
- Given the geopolitical situation and flattening yield curves, Dr Copper probably isn’t rallying because of global growth
Iron Ore continues to rally…
- Iron ore continues to rally, and is still trading above its bullish channel
- A test of resistance at last July’s high ~1033 looks increasingly possible
Aluminium falls back to major support…
- Aluminium has fallen back to major support ~$3200, remaining in its period of consolidation
- Prices are still very high though, >$3000
- A break below $3200 could see a sell off to $2570
Gold is attempting another move higher…
- Gold broke out of its tight range ~$1900 and is now testing resistance at $1980
- A breakout here could see a rally to test March’s $2080 high
Wheat could be in the process of forming a range
- Wheat rallied over the past week but could be forming a range between $985-$1164
- High wheat & fertilizer prices, due to war related supply disruption, continue to threaten prolonged global inflation & possible social unrest
Comments