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Duc's Daily Dozen

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So let's start with the easy stuff:



Now we move into the more esoteric:



From yesterday's article re. the long basis trade (there is also a short basis trade).

In the Repo market you have securities that are termed 'General Collateral'. These are securities that are trading at their Par. If they trade at a premium or discount, they are called 'Specials'.

Part of the difference is allocated to 'Term Premium'. Other factors are: Cost of Balance Sheet, Transaction costs, Margin, Minimum Spreads, volatility spreads.

An OTR Treasury might have fixed supply of $50B. Short selling it can create an additional $10B (or more) of short positions. The actual supply is now $60B (but still only $50B of actual Bills/Notes/Bonds).

Cheapest-To-Deliver (CTD) Treasuries are used to settle Futures trade positions. They cannot fail.

The term premium is calculated in part, using historical data. So with the 2yr Note (which is forming the Hedge Fund trades currently) the overnight Repo rates from the entire 2yr history of previous issues will be calculated to provide the term premium. This can be (usually is) incorporated into the Futures price (among other variables).

In the Repo market, the actual securities do not calculate a term premium. They are more concerned with the volatility rate and other factors listed.

Part of the Repo rate is the chance of a fail rate. The fail rate is calculated from the General Collateral rate, for eg. at 2%. If the Repo is trading at 1.75% that is a 25% bps discount or an implied fail rate of 8%.

Short squeezes.

The players in the Repo market can implement a short squeeze. Primary Dealers, Banks, Broker-Dealers, Hedge Funds. When Short interest is high, the conditions are right for a short squeeze. Taking our example, the OTR issue of $50B now has an additional short interest of $50B = total positions = $100B

Then owners of the security, hold back their supply.

Cut to the Money Market Funds. Huge gobs of cash are being put (traded) into the Repo market. They have been cash buyers (lower leverage or zero leverage) of Treasury (and other) issues. If they hold back supply either purposely or inadvertently, they can create a short squeeze to the highly leveraged players. Volatility is a big issue.

Just got the MOVE index added:



Unfortunately only limited data currently. That may improve.

When bond market volatility rises, the potential for short squeezes and fails in CTD's also rises.



jog on
duc
 
It is not a trading strategy; it is an indicator. To wit: “If Santa Claus should fail to call, bears may come to Broad and Wall.” Yesterday’s selloff was a great setup. Just what the Santa Claus Rally needed. The Street has been buzzing about the Santa Claus Rally for three months now. Most still get it wrong. It’s not the yearend rally, the Q4 rally that runs from Halloween through January. Yes, November, December and January are the best three months of the year, but they are not the Santa Claus Rally.

Santa Claus Rally was devised by Yale Hirsch in 1972 and published in the 1973 Stock Trader’s Almanac. The “Santa Claus Rally” is the last 5 trading days of the year plus the first 2 of New Year. This year it begins on the open on December 22 and lasts until the second trading day of 2024, January 3. Average S&P 500 gains over this seven trading-day range since 1969 are a respectable 1.3%.

It is not a trading strategy; it is an indicator. Failure to have a Santa Claus Rally tends to precede bear markets or times when stocks could be purchased at lower prices later in the year. Down SCRs were followed by flat years in 1994, 2005 and 2015, two nasty bear markets in 2000 and 2008 and a mild bear that ended in February 2016.

As Yale Hirsch’s now famous line states, “If Santa Claus should fail to call, bears may come to Broad and Wall.”


Which is only 1 of several charts indicating higher prices (net profit margins as sales prices exceed costs) from a number of industries.



Friday, December 22, 2023

Trading liquidity has evaporated with Christmas being just around the corner and Angola’s sudden parting ways with OPEC failed to swing oil prices in any direction. With Red Sea diversions becoming the new trend in international shipping, ICE Brent has remained around $80 per barrel whilst WTI moved up to $75 per barrel, marking the second straight week-on-week gain and fully rebounding to levels seen a month ago. Angola Leaves OPEC Amidst Quota Spat. The government of Angola will be leaving OPEC in a political blow to the oil group, saying that membership currently provides the African country with no gains and no longer serves its interests, following in the footsteps Ecuador and Qatar.

Arctic LNG 2 Gets Delayed. Russia’s LNG exporter Novatek (MCX:NVTK) has sent force majeure notifications to some of its clients – Shenergy Group, Zheijang Energy and Repsol – saying the 19.8 mtpa facility will not be able to meet its end-2023 startup date, amidst recently issued US sanctions.

US Oil Companies Unsure About Prospects. The Q4 survey of US oil and gas executives carried out by the Dallas Federal Reserve Bank shows that the corporate outlook fell sharply from 46.8 to -9 as higher interest rates continue to weigh on new activity.

EU Probes Chinese Biodiesel Supplies. The European Union announced it would begin an anti-dumping investigation into biodiesel imports from China, saying these come in at artificially low prices and are undercutting domestic production from the EU, the second Chinese dumping probe this year.

US Gulf Lease Sees Huge Interest. The long-delayed federal lease of drilling rights in the Gulf of Mexico raised 382 million this week, the highest tally for a federal auction since 2015, with Anadarko posting the lease’s highest bid of more than $25 million for a block in the Mississippi Canyon area.

White House Tightens Price Cap Rules. The US-led coalition imposing a price cap on Russian oil exports stiffened the compliance regime this week, requiring service providers to report every single instance of loading Russian crude, whilst also putting 4 trading companies on the OFAC list.

Regulator’s Denial Turns TMX Delays Real. The Canada Energy Regulator denied a variance request from the operator of the Trans Mountain expansion pipeline to install a smaller-diameter pipe in a 1.4-mile section of the pipe, leading to a postponement in TMX’s launch by at least 2 months.

UAE Oil Champion Ups Covestro Bid. ADNOC, the national oil company of the UAE, is readying to submit a $12.5 billion bid for the German chemicals major Covestro, improving its initial offer with guarantees of job security and some 8 billion in future investments.

French Refinery Halts Amidst Probing. France’s second-largest refinery in Donges, wielding a capacity of 219,000 b/d, has halted operations after regional authorities criticized the state of the refinery, saying TotalEnergies (NYSE:TTE) failed to carry out pipeline inspections and didn’t comply with regional safety guidelines.

Venezuela Signs Another Debt Deal. Venezuela’s national oil company PDVSA will supply the Isla refinery on the Caribbean island of Curacao with $100 million worth of crude as part of a wider debt repayment scheme with operator RdK, seeking to resume supply to the 335,000 b/d refinery.

Malaysia Bans Israel-Going Tankers. Denouncing Israel’s actions in Gaza as “brutality against Palestinians”, Malaysia banned all ships owned and flagged by Israel, as well as ships en route to Israel, from docking or loading at the country’s ports, imposing a permanent ban on ZIM Shipping.

China Tightens Screw on Rare Earth Tech. Having placed prohibitive restrictions on exports of rare earth minerals, Beijing added insult to injury by banning the export of technologies to extract and separate rare earth elements (REE), in a blow to the West as China refines 90% of all REEs.

UK North Sea Major Doubles in Size. The largest oil producer in the UK North Sea, Harbour Energy (LON:HBR) agreed to buy the non-Russian oil and gas assets of Wintershall Dea in a $11.2 billion share and cash deal that would make German chemicals major BASF own 46.5% of Harbour.



jog on
duc
 
When looking at the SCR table, the link between SCR performance and overall new year outcomes seems quite tenuous not to say non existent ?
I know we were in perma bull but still.
Have a great weekend
 

I hope Dr Fly is writing a novel of some type. Something to do with investment fuckery.
 
So the essential issue from the video yesterday (that I disagree with) is that interest rates do matter. A lot.

When you have this much debt (US) the only way to manage the debt is either (a) default or (b) inflate it away (slow motion default).

Interest rates are central to that issue. To inflate it away, you need negative real rates. Obviously the more negative the better.

If you have a positive real rate, oh dear.

Liquidity is crucial. Where is the liquidity coming from in the UST market currently?



Fed Reverse Repo Facility. The Fed set this up to DRAIN liquidity and thereby limit inflation.

Now as the Fed drains liquidity via QT and higher rates...this is 1 source of liquidity. The other major source is the Treasury and Yellen.

Hedge Funds have become involved:




The Repo market provides liquidity to the UST market. The liquidity is OVERNIGHT and needs to be renewed everyday. LOL. Hedge Funds leverage up for pennies risking dollars. Very reminiscent of Long Term Capital Management.

The liquidity sloshes everywhere, including the stock market.



Underpinning the 'Basis Trade' (where the pennies come from) as previously stated, is from 'Term Premium' available in the Futures, but not in the Repo market. The Repo market prices off of SOFR (previously LIBOR). Look at the spike in SOFR in 2020. What happens to a Hedge Fund leveraged x50 if SOFR spikes? They evaporate.

Liquidity, so vaunted as 'growing' currently, evaporates. At least until the Fed steps in and provides the liquidity. Which of course they will.

The whole point is that the Fed are pretending to be 'tight' but in reality they are still 'loose' as without the Fed/Treasury there would be no liquidity at all.

The crucial link is the USD. The Fed/Treasury can only hold this together while the USD is weak. A strong USD causes Japan, China, etc to sell Treasuries removing liquidity. Interest rates RISE.

Liquidity is shorthand for interest rates. High interest rates drive USD demand (liquidity shortage).

jog on
duc
 
Markets back open:

Louis Gave, Gavekal: «The Fed Will Cut Interest Rates for Political Reasons»

Louis-Vincent Gave, co-founder and CEO of Gavekal Research, talks about the most important developments in the global economy and reveals where he would invest his money with a view to 2024.
themarket.ch


This is pretty heavy reading:

Gold remains your best defence:



Secular bulls require falling interest rates.


Valuations do matter at some point.



Which is why a weak USD is so important. Happened in '85 (Plaza Accord). Has happened again (San Francisco Accord with Xi).

The Basis Trade:



Which amounts to what?

Pretty much YCC.

If you lose control of yield, ie. your UST yields rise quickly, due to panic selling from wherever (Japan), then you can as a Hedge Fund go to the Fed's Reverse Repo and exchange your problematic UST for cash and essentially save yourself, rather than being forced into a fire sale.

This is YCC by another name. This is INFLATIONARY. Of course it is.

An outright default cannot be allowed. It must be and will only be (massive) inflation on a secular basis to reduce the debt.

Stocks are a hedge to a certain point. No-one really knows what or where that point is. Resource stocks are obvious choices, until their costs to extract blow out beyond control. But what about the Mag. 7?

So I took a position today:



I hate FB. Hardly an investment thesis. But there you go.

jog on
duc
 
Still on holiday, so a bonus post:

What is ahead in 2024?



Need to be refinanced at what rate?

USD



Needs to be lower still. A rally higher in the making?



Where we are today:



Stocks ready for a pull-back?



If USD rallies, stocks will pullback for sure.

UST will rally higher:

Treasuries are not supposed to be this volatile:



They are trading like stocks. LOL.

Oil is also potentially on the move higher:



Not what you want to see if your are a Central Banker.

jog on
duc
 
USD still weak:




The Fed, under Powell, intend to (a) lower the FFR and (b) continue QT.

If liquidity is an issue, which it is, then lower rates generally lowers demand for UST and pushes the risk curve out. Who then will buy the UST issuance from the Treasury as deficit spending blows out? Not the Fed because they are in QT?

We have this 'basis trade' that is supposedly increasing liquidity in the Repo market. Until we have a SOFR blow-out. Then that basis trade becomes a massive source of fire sales reducing liquidity, just when it is needed most.

The new regulations and central clearing (not due till 2025) has only solved some of the issues. Primary Dealer balance sheets simply cannot absorb the issuance. So if not the Fed, who?

Will the lower rates come in time for the corporate refinancing due in January and the rest of the year?

jog on
duc
 

@ducati916, thank you for sharing your concerns, and I understand your worries about the Fed's recent actions. While their actions may have some impact on the cost of borrowing for corporations, it's important to keep in mind that these measures are not intended to disrupt the normal functioning of the financial markets.

I'm confident that with time, the economy will recover and this will all be a distant memory. The Fed has a long history of successfully navigating challenging economic situations, and I believe that they have the tools and expertise necessary to address the current challenges.

Skate.
 
Skate said:
@ducati916, thank you for sharing your concerns, and I understand your worries about the Fed's recent actions. While their actions may have some impact on the cost of borrowing for corporations,
Click to expand...

Skate said:
1. it's important to keep in mind that these measures are not intended to disrupt the normal functioning of the financial markets.
Click to expand...

Skate said:
2. I'm confident that with time, the economy will recover and this will all be a distant memory.
Click to expand...

Skate said:
3. The Fed has a long history of successfully navigating challenging economic situations, and I believe that they have the tools and expertise necessary to address the current challenges.

Skate.
Click to expand...

Mr Skate,

1. True. The Fed is not purposely trying to disrupt the markets. The Fed is actively providing liquidity and bailing out banks that found themselves embarrassed and then bankrupt. BTFP and numerous other strategies are being employed currently.

2. Unlikely. The US has entered fiscal dominance.

3. The Fed can do very little in fiscal dominance except fully monetise the tsunami of debt.



There is nothing that can be done except inflate for England.

Currently they are shuffling the chairs on the Titanic.

jog on
duc
 

@ducati916, I normally resist making comments when I have little knowledge of the subject but today, I wanted to share "my perspective" on the Fed's actions and the challenges they face.

I do understand and accept your perspective on the challenges posed. I still remain optimistic that the U.S. economy can recover and grow over time. While at the same time, I acknowledge that the Fed's ability to address the current challenges is limited but they still have a significant role to play in supporting the economy through monetary policy.

I understand the concern about shuffling the chairs on the Titanic, but the global economy is a complex system with many moving parts. I'm sure the Fed, along with other policymakers and regulators, are working hard to address the current challenges and create the conditions for a sustainable recovery. It won't be a simple task, but I believe they can navigate these challenges and create a brighter future for all. I appreciate your insights and perspectives and in saying all that "I do concede" that you know much more than I do on this topic.

Skate.
 
Last edited:
ducati916 said:
2. Unlikely. The US has entered fiscal dominance.
Click to expand...
but for how long ??

weeks , months , years even decades ??

unlike the 'Cold War ' era both Soviets and Chinese had been crushed by WW2

both seem to be recovering ( at least as well as the West ) AND making new friends to trade with ( outside of the US Dollar )

but it is the US addiction to debt , that has done the most damage
 
Skate said:
1. I do understand and accept your perspective on the challenges posed. I still remain optimistic that the U.S. economy can recover and grow over time.
Click to expand...




1. Yes the US can grow over time. One aspect already in motion is the reshoring of their manufacturing base. This will take time. In the short term it will be inflationary. Bad for us, good for US government.

2. Monetary policy is currently a shell game. The Fed on paper is tight: (a) QT. (b) FFR. The Treasury, which should not be in the monetary policy game is loose via some creative short term machinations via Yellen: (a) spend down TGA, (b) issue short term bills as opposed to long term bonds and colluding with the Fed on Reverse Repo's and the Repo market. The major move however has been made in conjunction with China and Xi at San Francisco, where with China's help, the USD was weakened. The result is a lot of very short term liquidity. Of course at the last Fed meeting, Powell has caved in and 'paused'.

3. Is a complex system more or less prone to systemic (unseen risks) shocks than a simple system?

4. What makes you sure? The growth rate in debt exceeds GDP growth. When that occurs there is only a single outcome: default. Now default can be outright default, highly unlikely, 1% or inflation a slow motion default, 99%. So we have the Fed 'talking' about fighting inflation, while policy (the Fed is supposed to be independent) requires the Fed to be highly inflationary (which with the pause is starting to show) to keep the government nominally solvent.

The can that has been kicked down the road for decades is reaching its endpoint, in part, because the BRICS are no longer willing to support US profligacy and have their economies crucified. The shift to gold as a settlement asset and away from the UST is the nail in the coffin.



Which is why the Treasury market is a basket case of volatility currently. Sovereign holders, who held to maturity (more or less) have been replaced by US banks, who are now massively underwater, which gave way to Hedge Funds, who are playing a basis trade. LOL.

It is the Treasury market that really matters. Each time it has collapsed, the stock market has s**t its pants. True the Fed has bailed it out (just) but without help from the sovereigns, that is a losing game now.

Ultimately the Fed will be coerced by the Treasury to outright monetisation of the debt. That could occur in 2024. The USD will weaken precipitously and inflation will jack-knife higher.

The difficulty with stocks will be differentiating a nominal return from a real return. Stocks can be an inflation hedge. They just are not the best inflation hedge.

Gold remains the proven hedge. BTC is potentially an option:



Banks do not do well with negative real rates, which is the medicine required.



jog on
duc
 

Dr Fly is certainly entertaining.
 
My 10 predictions for 2024

1. Current net flows into Mag. 7 will create downdraft into wider market in a liquidity event. So great have the returns been, attracting ever more capital into the Mag. 7, that they are now a source of overall market risk in a liquidity event. You sell what you can.

2. Fiscal dominance overwhelms the UST market, creating financing risk for corporates who have a lot of debt to rollover at far higher interest rates (unless the Fed cuts 300bps by Feb.)

3. Gold will break through $3000, creating a bailout requirement in COMEX/LBMA

4. Basis trade blows-up (again).

5. Recession in Q2 2024, creating pressure in UE which drives an increase in deficits, up to 18% of US GDP. This feeds into the fiscal dominance variable.

6. Inflation reignites when the Fed moves to outright monetization of fiscal deficits.

7. Treasury loses control of USD which spikes higher driving UST rates higher via NIIP selling.

8. US shale output continues to decrease, driving POO higher and inflation. Add into that issues from Russia and OPEC re. oil supplies/pricing.

9. Commodity prices trend higher due to massive supply constraints (CAPEX, war, global polarisation, BRICS)

10. Significant increase in sustained volatility.

jog on
duc
 

Yes please. I'll take double of #3, 8, 9,10.

Oh no. Fly is a good swing trader as well? I'm considering using Fly as my benchmark for 2024 but if he's just as good swing trading then I might be in trouble keeping up with him.

Bring on 2024!
 
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