- Quant (h)Edge
- Posts
- Zeroing In On The Office
Zeroing In On The Office
Respite for bonds; new heights for (European) stocks; delight for coins; spotlight on Trump
While doing some text analytics on Trump’s tweets, I found out that the three words he has used the most are ‘Trump’, ‘Great’ and ‘President’, in that order (data going back to 2009 so no sample bias).
🌐 Economic Releases
Like a Patronus conjured at the perfect moment, timely UK data was just the tonic needed to push back against Reeves’s tormentors. UK’s Inflation unexpectedly cooled (2.5% v 2.6% prev.) and its GDP, despite slightly missing the mark, was nonetheless positive (0.1% v 0.2% prev.). Prime Minister Starmer assured us that Reeves would be around ‘for a long time’ while Reeves insisted she would push the government to do everything it could to grow the economy. Still, gilts trade at a premium to US yields despite both rates retreating from their respective highs on the back of softer core US CPI (3.2% v 3.5% prev.). So bond vigilantes may still be lurking somewhere in the waters, waiting for the first drop of a fiscal problem. By the way, the market’s first reaction to lower UK inflation data was Sterling appreciation—the exact opposite of what the textbooks say should happen.
The widely awaited US CPI figures validated the Fed’s recent actions and current stance—disinflation continues. The yearly number was slap-dash as expected so the market took its cue from the softer core CPI data. Yields lurched lower; dollars were sold; equities rallied; crypto soared.
But softer US retail sales data, unusual for January due to holiday shopping in December, wanted to stop the music. The market quickly forgot about it. US industrial production was impressive (0.9% v 0.2% prev.). It isn’t that long ago we were very concerned about US manufacturing. The Empire State Manufacturing Index (-12.6 v .2 prev.) and the Philly Fed Manufacturing Index (22.3 v -16.2 prev.) contradicted each other.
Australian payrolls blew us away (56.3k v 28.2k prev.) but the unemployment rate made us furrow our brows (4% v 3.9% prev.).
Chinese GDP would have thoroughly impressed us, if it could have been believable (5.4% v 5% expected). Remember last week’s story about Xi going after an economist who said that no one knows the true GDP figure in China, and the consensus is that they are massaging the figures to entice investors.
German monthly inflation ticked higher (0.5% v 0.4% prev.) and its annual GDP lower (0.2% v 0.3% prev.) causing the market to price in more cuts than are necessary.
EU industrial production for November was revised higher to 0.2%.
💵 Central Banks
If you listen to what central bankers have said recently, you will end up believing that markets are severely underpricing rate cuts. Nearly all Fed speakers repeated some version of ‘inflation is going to 2%’ while the markets think we are on the verge of reflation. Waller said he expects cuts in the first half. He believes that if inflation data continues to come in as it is, we will see cuts sooner than the market is pricing. He is looking at the data—better data means more cuts—and the neutral rate, currently around 3% going by SEP figures. He is the only Fed speaker to acknowledge that there could be a rate cut in March. Like Waller, Goolsbee also mentioned that the neutral rate is lower than where we are now. However, Williams said that views on the neutral rate are not a big issue when setting monetary policy and that higher government debt may have lifted neutral rate estimates.
Waller also said that he doesn’t think tariffs will have a big effect on inflation; he thinks they will have short-lived effects on prices. And if all this sounds too rosy for you, Waller himself admits that he is more optimistic than other Fed members. Kashkari also commented on tariffs saying that they don’t cause inflation. But he said that tit-for-tat retaliation is more complicated. Schmid said the Fed would only react to tariffs if they disrupt either of its mandates.
Like Waller, Goolsbee also mentioned that the neutral rate is lower than where we are now. He said he is less worried (after last week’s jobs report) that unemployment could turn into something worse. Barkin said he was encouraged by the December unemployment rate and said that it seems the job market has stabilized.
The view that inflation was cooling and should be expected to continue doing so was also expressed by ECB members. Rehn said that by midsummer, rates should be less restrictive and that it made sense to continue cutting rates. To him, the December uptick was expected. Vujcic said that they were unlikely to accelerate cutting since cutting faster would deviate from their projections. Lane expects a decline in services to be the catalyst towards 2% and Holzmann said that they hope to reach 2% by year-end. de Guindos noted that geopolitical tensions could affect energy prices and therefore inflation. He is particularly concerned about global trade frictions.
BOE’s Taylor said that policy rate is still far above neutral and that his base case is 100bps by year end.
BOJ speakers, Ueda and his deputy Himino, both acknowledged the positive discussions on wage increases with branch managers last week. But they tried to be cryptic about a coming hike. Ueda said they would increase rates if economic conditions and prices continue improving. Himino, the more verbose of the two, said that pay raises weren’t the only thing to consider; US policies by the new administration were also a factor. He then went on to say that they would be scrutinizing the schedule and balance of new US administration’s policies in Trump’s inaugural speech, but there was no direct link between his address and the January rate hike decision. He further tried to be cryptic by saying that it was ‘crucially difficult’ to determine guiding policy and its timing and that they would discuss whether to hike next week.
You can read all the central bank’s comments from this week in this pdf.
|
💱 Currencies
The Yen was the best-performing currency this week. Last week, I mentioned a few reasons I thought the BOJ would hike in the coming meeting: The government wants the BOJ to hike, and the Yen was at intervention territory while the MOF preferred not to yentervene due to previous failed attempts, therefore, preferring a hike. This week, the Yen began its ascent after Ueda said that he is seeking a potential rate hike at the upcoming policy meeting, Finance Minister Kato said he had reached an agreement with the BOJ (but monetary policy was still up to the BOJ), and currency diplomat Kanda said it’s desirable for FX to move in line with fundamentals (this is a common thing they say to start talking the Yen up), that sudden divergences need correcting, and that he would move to counter speculative activity.
AUDUSD benefited from the good jobs report and GBP crosses were slightly lower.
📉 Stocks
It was a risk-on type of week with fresh all-time highs in the DAX and FTSE. VIX dropped but every index apart from the NIKKEI rose. DJIA was the best-performing US index due to bank earnings, especially G-Sachs.
The good news about the equity rally is that it was accompanied by an uptick in market breadth. Investors are finally moving away from big tech and into other sectors. Thurday’s 0.2% decline in the S&P 500 was the first time the advance-decline line was above 250 coupled with a drop since July 11, and as someone observed on X, this marked the start of a drawdown in big tech’s stocks.
The market cap of the largest stock in the market – Apple (AAPL) – is more than 700x larger than the 75th percentile stock, the greatest extreme since 1932. Similarly, the market cap weighting of the top 10 stocks in the S&P 500 has soared above 36%, the highest reading since 1925. Growing fears of concentration risk saw investors pour a record $14.4 billion into the Invesco S&P 500 Equal Weight ETF (RSP) – a fund that invests equally across each constituent of the S&P 500 – over the second half of 2024. — Porter & Co.
This move away from big tech came a few days after Biden issued new rules on how AI chips can be shared with foreign countries.
The rules put various limitations on the number of A.I. chips that companies can send to different countries, essentially dividing the world into three categories. The United States and 18 of its closest partners — including Britain, Canada, Germany, Japan, South Korea and Taiwan — are exempted from any restrictions and can buy A.I. chips freely.
Countries that are already subject to U.S. arms embargoes, like China and Russia, will continue to face a previously existing ban on A.I. chip purchases.
All other nations — most of the world — will be subject to caps restricting the number of A.I. chips that can be imported, though countries and companies are able to increase that number by entering into special agreements with the U.S. government. The rules could rankle some foreign governments: Even countries that are close trading partners or military allies of the United States, such as Mexico, Switzerland, Poland, or Israel, will face restrictions on their ability to purchase larger amounts of American A.I. products.
There was a backlash from Nvidia, Oracle and even the China Semiconductor association.
This sweeping overreach would impose bureaucratic control over how America’s leading semiconductors, computers, systems, and even software are designed and marketed globally. And by attempting to rig market outcomes and stifle competition — the lifeblood of innovation — the Biden Administration’s new rule threatens to squander America’s hard-won technological advantage. — Nvidia
The rotation out of tech can also be seen in this week’s sector performance. XLK was outperformed by 7 out of 11 sectors. Energy-led—it is expected to outperform other sectors in 2025 due to AI’s energy needs. XLF performed well due to positive bank earnings.
💰 Bond Markets
Yields came down after the lower-than-expected core CPI, and 2025 cuts were back on the table. If you recall the chart I showed you guys of the highest treasury ownership. Apollo put out this chart that shows that private investors are picking up Treasury purchases as foreign countries reduce their demand. These are mainly hedge funds, asset managers, etc.
Some new theories about the rise in yields were expressed. FT’s Alphaville pointed out that structural issues in the form of an oversupply of short-term yields, could be a culprit.
Some observers have characterised this as a “secret” monetary policy tool — “quantitative easing by other means”. Treasury secretary Janet Yellen has denied this claim. Incoming Treasury secretary Scott Bessent is said to favour issuing more long-duration debt. It’s possible the market is anticipating Bessent’s approach and selling long bonds. — FTAV
But I don’t think Yellen is to blame for U.S.’s fiscal procedures. I think the oversupply in short-term treasuries is meant to meet higher demand for them as investors shirk duration risk. This is also happening to corporate bonds right now.
Weston Nakamura also pointed to some market flows that could be interpreted as fire sales by the big three Japanese insurance companies to cover insurance claims from the LA fires. I don’t agree with this view and wrote a rebuttal.
Further evidence that insurance companies are not a systemic risker is that evidence of this is that reinsurers’ Fitch ratings haven’t been affected by the fires.
₿ Crypto
Last week it was so over, now we are so back! Here’s the inverse of last week’s meme.
Bitcoin is back above 100k, Altcoins rallied, and Trump dropped a meme coin that gained 4500% in under 24 hours and minted new millionaires. The crypto rally was fueled by news that Trump could freeze existing lawsuits against several important crypto immediately after inauguration. Some of them include:
One about whether XRP futures are securities
Bitnomial asserts that XRP is not a security in the first place, based principally on Judge Torres' recent decision in SEC v. Ripple Labs holding that XRP is not in and of itself a security or when traded in blind transactions on secondary platforms. More fundamentally, Bitnomial argues that it "cannot possibly comply with the [Securities Exchange Act of 1934's] requirements to list XRP Futures," which require the issuer of the underlying security to register it. "XRP, which is the underlying security in the SEC's view, is not registered." Nor could Bitnomial itself register XRP because Bitnomial is not the issuer of XRP. — Reuters
and one about whether ETH transactions can be overlooked by the SEC.
In Consensys Software, Inc. v. SEC, filed in April 2024, Consensys Software Inc., sued the SEC to stop the agency from asserting jurisdiction over Ethereum (ETH) transactions. — Reuters
Ripple (XRP) gained over 30% this week on this news and its CEO took to X to rant about SEC’s Gary Gensler.
Even though the new SEC chair is very bullish on crypto, I think crypto enthusiasts have the wrong idea about what kind of regulations he will put in place. He wrote a paper when he chaired Token Alliance that shows that while he is against the regulation by enforcement approach of Gary Gensler’s SEC, he wants clear definitions and frameworks to distinguish tokens as securities, commodities or utilities and wants regulation that weeds out ‘bad actors’. To me, that seems like he wants to get rid of meme coins and only keep crypto that has some form of value i.e. clearly falls in the sub-types of currencies, commodities, utilities or securities.
Here’s that report
Another factor that added wind to crypto’s sails was speculation that he (Trump) wants to issue beneficial policies on day 1. One such policy addresses debanking:
A source involved in Trump’s transition team communications said the executive orders might address debanking, a matter Melania Trump raised in her 2024 memoir, as well as the repeal of a policy requiring banks to count the digital assets they hold as liabilities on their balance sheet.
The latter policy, the repeal of SAB121, has been campaigned for by MicroStrategy CEO Michael Saylor, one of the leading figures in the field. He has suggested that repealing SAB121, in addition to the advent of spot ETFs and fair value accounting, could send Bitcoin’s market capitalization to $100 trillion.
"The Trump team has made it very clear that this is a priority," an anonymous source told the Washington Post.
Another policy is the creation of a bitcoin reserve:
If the U.S. does create its own bitcoin strategic reserve, economists have said it could trigger a crypto “arms race.” — MSN
and a crypto council:
Trump’s first crypto executive order is expected to establish a presidential crypto council, made up of around 20 industry leaders—likely all founders and CEOs, one source said. The order is also likely to instruct the SEC to ditch a rule known as SAB 121 that discourages American banks from holding crypto, two sources said. Congress passed a repeal of SAB 121 last spring, but President Joe Biden vetoed the legislation, leaving the rule in place. —Decypt
⛽ Commodities
Commodities did fairly well. Oats outperformed the rest gaining 10%. Cocoa rallied due to the supply-side factors I mentioned last week. Crude oil continued its ascent but dropped later in the week. NatGas see-sawed to end lower. Early in the week, there was news that Ukraine was targeting Russia’s last remaining pipeline to Europe and NatGas rallied 7%, but it was also reported that some EU countries were giving Russian LNG tankers dry-dock services which enabled them to continue to move LNG to Europe despite sanctions. Politico also broke a story about how the EU is still consuming Russian NatGas even after the pipeline through Ukraine was shut down due to previous long-term contracts. The gas is passingly mainly through a port in Serbia.
Gold went up in a straight line until Thursday when it stalled. Oil spent most of Q4 between 65 and 72 and it is tempting to think the new range is 75-80. It also closed the week on a huge pin reversal suggesting a pullback to 75.
🤝 Macroeconomics
🇬🇧 UK
Starmer’s big plan to boost UK’s growth is to… deploy AI.
The most obvious argument against this theory is that it could lead to job losses, especially in the public sector. If not, then AI can lead to lower wages. You can expect backlash from labor unions. But even beyond this, there are no clear reasons why AI could promote growth. Sure he mentioned significant investments, but it isn’t clear how these translate to economic growth in the UK. The companies he mentioned with HQs in London are US companies and will return their profits to the US. It is not clear how detecting potholes faster, better lesson planning and reduced paperwork will boost growth.
To me, the speech sounded like the kind of far-fetched idea a politician would come up with when he had no real plan. If Britain wants growth they have to be serious about it, and FT’s Ganesh argues that Britain are not a pro-growth country because when forced to pick between growth and something else, they always pick the something else. — FT
🇺🇸 US
Paul Krugman noted something in his Substack that I hadn’t realized: the incoming Trump administration has no economic plan. There’s not a single policy we know for sure will be implemented—just broad ambitions. Something about tariffs, crypto, deregulation, and mass deportation, but no specifics. That’s why every week we hear rumors about ‘talks’, or that they are ‘thinking’ about some such thing or another. Last week it was universal tariffs, this week scaled tariffs. He notes that this is because Trump’s aides are afraid of upsetting him with their suggestions.
Which brings me back to my starting point: the incoming administration doesn’t seem to have any economic plan. But the ultimate reason for that absence is fear: everyone is afraid to say anything that might be taken as an implicit contradiction or criticism of Trump’s rantings. — Paul Krugman
Another problem for Trump’s aides is how close Elon is to him.
His free-ranging access to Trump has miffed some of the president-elect’s aides and allies, who argue that he was getting involved in matters he had little understanding of and speaking too much in meetings. — WSJ
We are also very uncertain about what the Fed will do this year. Even Fed speakers don’t have good estimates about when they expect to cut or how long they expect to hold. There’s a wider range of possibilities this year.
On Friday, Yellen wrote a letter saying they were approaching the debt limit and emergency measures had been triggered. It’s a good thing Republicans have house majority this time around even though some factions may want commitment about spending cuts before they vote.
🇨🇦 Canada
Financialjuice reported that Canada has prepared retaliatory tariffs on CAD$150 bn worth of US goods. A lot of people think that because the US is a major oil and gas producer, then the US doesn’t need anything from Canada. Trump even said so himself, but this isn’t true; the US still needs Canada’s oil.
While it’s true that America is producing a lot of crude oil, most of it is “light sweet” crude. But our refineries – that make gasoline – were designed and built to process heavier crudes, much of which we import from Canada. So, if you think we’re going to enrich ourselves by impoverishing Canada with a 25% tariff, you’re a moron: all of those costs will be passed along to you, the consumer. —Porter and Co.
I had mentioned two weeks ago that I think Canada’s elections will lean right. Noah Smith of Noahpinion shares the same view.
Nor is immigration Canada’s only cultural sore point. There’s the country’s vastly expanded use of euthanasia, with all of the attendant moral hazard. There’s a big fight over trans issues. In general, Canada is suffering a similar backlash against “wokeness” to what is occurring in the U.S. and the UK, with perhaps a slightly greater lag. - Noahpinion
The interesting thing about Noah’s post is that he shows that oil prices are to blame for Canada’s stagflation. You can read it here.
This week, former BOE and BOC’s Mark Carney announced he is running for Liberal party leader, and by extension, Prime Minister. He is up against Pierre Poilevre who is vastly more popular.
🇯🇵 Japan
Another sign that the BOJ may hike this week is that Nikkei wrote some pieces that all but said they would hike. They wrote about Ueda’s hawkish tone a week before the meeting (link).
They also wrote that most of the BOJ members want to hike (link)
The Nikkei is considered the BOJ’s mouthpiece in the same way WSJ’s Nick Timiraos is, and you typically get an article like this the day before.
Plus there was additional inflationary data this week since they claim to be data-dependent, too.
Japan's annual wholesale inflation held steady at 3.8% in December on stubbornly high food costs, data showed on Thursday, highlighting persistent price pressures that may prod the central bank to raise interest rates next week. - Reuters
🇨🇭 Switzerland
This may sound like a dumb idea to those who know economics and markets better, but I have been thinking that Swiss could become the de-facto safe haven currency when the BOJ raises rates. If you look at economic data, Switzerland is better than Japan: higher GDP, lower inflation, higher current acct/GDP (meaning higher ability to repay their debt).
If BOJ hikes by 25bps, then both countries will have equal rates, but Japan’s 10-year yield is 1.21% and Switzerland’s is 0.35%. Doesn’t this make CHF a better candidate in the event of a flight-to-safety? Please let me know your thoughts in the comments. Anyway, I’ll do more work on this.
🇨🇳 China
There are concerns about how weak China is to defend against tariffs this time around. They are in a deflationary environment and their currency is already very weak, meaning that they cannot devalue it this time around to defend their exports from lower demand due to tariffs.
China devalued the yuan by about 13% to hit back at Trump tariffs: A weaker yuan made China’s exports cheaper. The strategy at times further enraged Trump—whose administration in 2019 labeled China a currency manipulator—but it helped buttress the Chinese economy. — WSJ
Xi Jinping wants a strong currency so the bias is not to devalue. Economic advisors to Xi are split into two camps, according to WSJ.
One camp, primarily encompassing market-oriented officials and government economists, believes the PBOC should adopt a more hands-off approach, which would mean letting markets push the yuan lower. That way, they argue, the central bank can free itself from defending the yuan and focus on spurring growth via monetary policies such as interest-rate cuts.
The other camp, encompassing those tasked with maintaining financial stability, sees that approach as way too risky. They worry that currency depreciation, however gradual and orderly authorities intend it to be, would drive capital out of China when its banking system already is seeking greater liquidity support.
👁️ Media Stories
Trump’s announcement about wanting to buy Greenland seemed to come out of nowhere but this excellent article explains what’s been going on there between US and China. It reads like a spy novel.
🕵🏾♂️On my Radar
Trump’s policies
Canadian political developments
Yen rate hike possibility
📁 Docket
Guiseppe Paliologo aka ‘Gappy’ is the quant’s quant. He recently released a list of things he’s saved to Pocket since Oct 2013. It’s a good repo of interesting quant papers and other stuff.
🎶 Music
Hindenburg’s CEO disbanded the company and signed off with this bitchin’ mix.
🔖 Theoretical Stuff
How countries go broke — Ray Dalio
Thank you for reading!
Feedback and criticism welcomed.
Reply