With the US S&P 500 (SPX) up 1.5% for the year, the Eurostoxx (SX5E) up 9%, one could be forgiven for thinking this year to be quite an uneventful one. The reality is that it has been anything but that! Surprise announcements from the revaluation of the Swiss Franc in January to Chinese Renmibi devaluation in August coupled with Fed swinging between dovish and hawkish stances all year, this year has given the Macro players a run for their money. Throw in collapsing Commodity prices and you have a perfect recipe for an absolute cleanse of the market’s gastronomy; a forced detox if you may.
One thing is clear, there has been a clear divergence in Developed Markets outperforming Emerging Markets as the latter continues to rebalance from the excess capital flows seen over the years. This is evident in the extreme USD strength vs. Emerging Market currencies given their clear divergent monetary policy paths. The performance vs. Euro and Sterling have been a less of a forgone conclusion.
But a lot of the main themes such as long USD, short Commodities, Short Emerging Markets and their respective Currencies, and long Bonds for this year have played out. The question remains, how much more is there still to play for?
The November Bank of America Merrill Lynch Fund Manager Survey released last week confirms the extreme positioning in the USD and suggests it is the most vulnerable trade going into December. It is undeniable that fundamentally being long USD vs. most of G10 and Emerging Market currencies makes sense especially given the most recent Fed meeting suggesting first rate hike in December. The survey shows a heavy overweight positioning in Banks, Europe, USD vs. an extreme underweight in EM, Materials, Energy and Commodities. Not much margin for error. Hence going into the key 16th December’15 Fed meeting and 4th December’15 OPEC meeting, one needs to assess whether the risk reward here is compelling to still be positioned this way? December is a tricky time of year as funds unwind their portfolios and marked to market trends dictate year end prices.
The market constantly comments (or rather hopes) on Chinese stimuli providing the catalyst to call the bottom in Commodity prices. What the market fails to understand is that Chinese reforms are targeted towards consumer led initiatives, not infrastructure ones. China’s Fixed Asset Investment as a % of GDP is at double the average of the global median and it needs to rebalance slowly. So when the market talks about “Chinese stimuli”, it is important to put this in perspective to gauge which Commodities can benefit, as it is not the case of the rising tide lifts all as we witnessed back in 2004. December could be a classic case of travel and arrive. Liquidity driven trades can distort the bigger picture and push fundamentals aside.
Investors, given the potential curveballs in December, perhaps it’s a good time to practise those Christmas carols with a slight twist and wait this one out.
