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🔥 Hot or 🚫 Not
🔥 What's looking fiery?: The Fed's Treasury holdings relative to the amount that foreigners hold.
They're buying up a tonne.
Now, although the trend for foreigners holding US government debt over the last twelve years has been down, the Fed has been ridiculously active in the market over the past year.
FOMC: the Federal Open Market Committee met yesterday and the outcome of their meeting will be released today.
We did a quick roundup this morning of what to expect 👇
The key point: we reckon they'll be saying much of the same, in that they want to let inflation run higher, they're not worried about it being sustained, and bond yields aren't a cause for concern.
🚫 Europe is having a nightmare: more lockdowns stemming from a poor vaccine response are wreaking havoc in Europe.
German doctors have asked for a partial lockdown in Europe's most important country after the risks of more cases have been rising.
Just last night, French PM Emmanuel Macron also said the time to consider further measures for the Greater Paris Region.
Third wave: the EU is facing another bout of COVID infections, just as we come into the summer months.
Whilst the UK and US are trending down, the EU is seeing a strong uptick in COVID risk.
German might?: Germany is well known to be a large manufacturer, but the country has just seen its largest decline in industrial production since September...
If this worsens further after a very meagre recovery in December, then there could be an indication of where growth is headed for 2021.
Join us for the FOMC this evening!
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❓ Your questions, answered.
Q: Where would you start if you were new to the macro scene and have only ever traded technicals?
This is a question that has appeared I think three times in the replies to the email, so it's a popular one!
The first thing I'd say is that you should always try to maintain a view.
What this does is allows you to do is to have a certain feeling towards the progress of data, sentiment and asset pricing.
Why might this be important?
Without a view, then you are unable to take a position; by accepting information that might confirm your view or indeed contest it, you allow yourself flexibility as to whether you reject or accept said viewpoint over time.
For example, I am of the opinion that inflation will not rear its ugly head for an extended period of time, however I am aware that if certain indicators do point to a more prolonged inflationary outlook then I can change my view.
Have a view that is strongly held but loosely believed, since markets can deceive you.
But how do you ascertain a specific viewpoint?
My only answer to that is read everything.
If you don't understand a word in a Bloomberg article, research it until you do.
Repeat for everything that you don't get.
There are always thing that are cropping up that I don't get, which is why I probably spend 80% of my time trying to understand things, and 20% on actually actioning anything.
One of the best ways to try to understand is to ask as well, that's why the Macrodesiac Discord (see above) is so useful.
There are genuine experts in there that are willing to answer you at pretty much any hour of the trading day.
We also understand that many come from the 'technicals first' perspective, and whilst OK to do so, it can be anxiety inducing.
We prefer to try and understand what might be creating market movements, which is why we created the Macrodesiac Premium in the first place - break high brow topics into easy to understand language, and to be accessible so questions can be answered, like we're doing now 😄
I'd also say that you need a process to try to fit your view into an actionable framework.
We tend to start with what the dollar is doing, and work out whether we're in a certain 'regime' based off of this.
We look at what is happening to credit globally, whether emerging markets are performing well or not, which can give us some basis as to where we need to go next...
With the questions we are trying to answer being...
'How can I express this idea, in the cheapest way possible, in a way which many aren't talking about or have spotted yet, with the least risk required?'
It's not easy, but it sure is intriguing and most importantly, takes you to looking at things that you simply wouldn't look at if you were just trading off charts.
So to answer your question simply, you start by being inquisitive and being genuinely interested in the world around you.
Q: I really enjoy reading your mail everyday. I am fairly new to markets so this might not be appropriate for most, but I don’t quite understand how profit taking at week and month ends work - what to expect when this happens and what times of day or week is high risk in this regards, for eg. Maybe have a swing on AUDJPY but then it pulls back deep unexpectedly, and the only reason I can find on feeds etc is “profit taking”? Also, what to expect on the quad witching days and what/why they are there? How do you manage risk with regards to them?
When people say there's 'profit taking' going on, they're probably just looking to fit a narrative to the price action.
No one really knows what's happening at any point in a market.
How could you?
There's millions of participants with different aims and goals, so the crux of what is happening is that there is just a supply or demand imbalance, with some prices leading to a greater supply/demand imbalance than at others.
If people do indeed still look as 'psychological levels' as key points on the chart then perhaps this could lead to some profit taking, but I have a funny feeling that they do not do this much anymore.
Now there might indeed be profit taking at the end of week or end of month, but this could be due to people not wanting to hold weekend risk more than anything, and of course can work both ways.
If a market is heavily shorted, you might see some positions be covered and the same for if it's bid up nicely.
But again, I feel it's a bit of a meme more than anything.
At the end of month, something different might occur.
'Month-end rebalancing' is something that funds might have to do, specifically pension funds.
I don't think there's a reliable indicator out there to know what might happen though.
In FX, there's a bit of a misnomer as to what happens with rebalancing, since hedging is far more dynamic, although there can be a change in FX flows due to rebalancing at the end of the month at 4PM GMT, but from recent history, none of the predictions about this FX rebalancing have really come true.
Have a read of this paper to understand more about dynamic hedging.
Now onto your point about Quad Witching...
This is a date on which stock index futures, stock index options, stock options, and single stock futures expire simultaneously.
While stock options contracts and index options expire on the third Friday of every month, all four asset classes expire simultaneously on the third Friday of March, June, September, and December.
But this doesn't necessarily mean that there will be any greater volatility, although there might be more arbitrage opportunities.
I think if you are concerned about Quad Witching, then perhaps close out for the day to alleviate any anxiety and mistakes being made.
Q: I would like to hear your thoughts on the bull case for silver, not for its monetary function but rather as it's role as an industrial metal strategic for the EVs green revolution.
Let me first link you this great write up and infographic from Visual Capitalist.
My thoughts on silver definitely tend away from the monetary element and more towards its actual use.
Long are the days where we look to bimetallism as an alternate monetary regime (if you've read Shiller's Narrative Economics, you'll know what I'm on about; if you haven't then it's a must read).
I'd argue that many precious metals are in for a pretty hefty bullrun over the next decade or two - and the narrative is not to come from a hedge against inflation or central banks collapsing, as goldbugs would like you to think.
Instead, it is from the being a required use in technological advancement as you say.
But I think a bigger factor could come from the increased use of solar power.
We can see that solar power added capacity has been on a large increase over the last 10 years, and the trend is set to continue in the US...
Having said this, there is a big converse case here...
Firms are innovating to require less and less silver content in solar panels, and the same will be occurring in other electrical components where silver isn't needed.
CRU Group estimated that each solar cell used an average 111 milligrams of silver per cell in 2019, decreasing from 521 milligrams per cell in 2009.
I think it would be wise to balance these two issues out against each other.
Will the increased use of solar panels outweigh the innovation of using less silver per panel?
And the same with the electric vehicle revolution...
What do you reckon?
Q: One question I have is how are bonds, interest rates, yields and different stock sectors connected and influenced by each other?
This is a very relevant question to right now, and I guess always will be a very relevant question...
I think we should get down to basics here.
A bond is a form of debt essentially.
A company or government would issue a bond, an investor would buy it and receive a coupon payment periodically until the bond matures (for example, you would buy a 3 month to 30 year government bond and receive payment over that time period).
The higher the bond yield, the cheaper the bond price and vice versa.
Now, central banks set interest rates, and also commit to asset purchase programmes as well.
Falling interest rates, as well as the central bank buying the bonds, leads to bond prices rising and a dampened yield on said bond.
It's a pretty simple equation.
What gets more complex is when you factor in all the information that might make a bond price rise or fall, and subsequently, its yield change too.
Inflation risk is probably the primary reason as to why bonds would sell off, and therefore have a rising yield.
If the market perceives there to be an expectation of inflation (as we are seeing now), then it starts to price in a rate rise - whether or not inflation will actually come or not is another story, but markets work on a forward looking basis.
Which sectors tend to do well in a rising rate environment?
Let's take a look at a couple.
In red is the US 10 year yield.
Yellow is QQQ (the Nasdaq).
Blue is XLE, the energy ETF.
Purple is SPY (SP500) and orange is XLF (the financials ETF).
As the US 10 year yield has been rising, we've seen the Nasdaq, which is primarily made up of growth stocks, fall off from its highs.
This is because higher yields discount their cashflows more - because their earnings and cash flow are very forward looking, it suppresses their multiples, making them less attractive.
See Tesla as an example of this...
Financials (XLF) on the other hand, tend to make more money in a higher rate environment because they profit from net interest margin, which is the difference between the interest income generated and the amount of interest paid out to their lenders (for example, deposits), relative to the amount of their (interest-earning) assets.
For energy stocks, rising energy prices are linked with inflation, and inflation is what rising yields indicate.
SPY has maintained itself higher than QQQ because it is less concentrated in growth stocks.
When you base the US 10 year yield around how it might change investor sensitivity to prices of riskier assets, and consider it the risk free rate of return, it can start to make sense more (although, a lot of the time, the market still doesn't make sense, and we are just trying to produce our best guess).
This is a very brief overview, but I hope it gave some answer to your question.
We'll continue this tomorrow guys, and remember to join us in the Discord, as well as to receive all the premium good stuff (things to really make you smarter about markets, in an easy to understand way), by joining now 👇