• Ashley Groves

Brazil cools off, Japan gets the flu and Sliced Turkey - 01/17/2020 - 3 Things

January 17th, 2020

Happy Friday!

We officially launched! You can read more about it here.

To celebrate we have decided to make a promise to our readers today.

There will be no mention of the “I” word. Despite the House of Representatives trying to do everything to get us to talk about it…

Everyone can breathe a sigh of relief, you are safe from it for the next 4 minutes.

Did You Know...

Google is now officially worth 1 Trillion USD! Google’s owner Alphabet joins an exclusive club as it’s 4th member. Can you name the other 3? (Answers below)


Cold Water Dumped On Brazil After 2019 Surge

No, we’re not talking about the Ice bucket challenge. Latam’s largest economy got a stark reminder to take analyst’s outlook with a pinch of salt, as the economy slumped on the back of disappointing results in retail, industry, services and industrial production, all missing Q4 estimates.

This didn’t hold optimism at bay for long with bankers touting that the Brazilian stock market is at the start of a long term cycle growth, which could last many years. This is partly due to the lowest rates of all time being set by The Banco Central do Brasil at 4.5%.

2020 is poised to be an interesting year for Brazil, with them being a large battleground and priority for the installation of the incoming 5G network given 210 million inhabitants, not expected to happen until after 2021. It is likely they will be forced to choose between the US and China as an ally, a choice they have avoided in the past and will not want to make moving forward given their reliance on both countries to some part.

The reduction in rates helps those that are looking to hedge BRL back to USD and other currencies, making it far more cost efficient. With a monthly volatility of 3.7%, those exposed to short term BRL, should be considering their stance.

Forward curve - rather convex. With 3 mo fwd points (the optimum tenor for USDBRL selling BRL), the annualized hedging cost has dropped to only 1.76%, down from over 4% in 2018.


Turkey - If it's not broken don't fix it, if it is… cut rates!!

You’re looking to boost growth and encourage lending, what do you do? Slash those rates!!

That's at least how The Central Bank of Turkey (TCMB) reacted after slashing rates for the 5th consecutive time by another 75bps to 11.25 percent during its first policy meeting of 2020. The decision is an attempt to come to the aid of its under pressure currency and let's all remember that Turkey borders Syria, Iraq and Iran, hardly what you would call a perfect neighborhood.

The cuts in context:

  • Interest rates in Turkey averaged 58.67 percent from 1990 until 2020.

  • This cut is in spite of solid public consumption growth and a revival of private consumption, further strengthened by a strong credit demand.

  • Last year's cuts were even more impressive, over 425 bps in July.

In all honesty, the cut doesn't look out of place - the inflation outlook continues to improve, industrial production is growing at 5.8% (previously 3.8% y/y). However, as domestic demand gains traction, the external sector will likely weigh on the economy as imports outweigh exports, as already indicated by the current account balance falling back into deficit in November.

Deposit rates:

Monthly vol = 3.8%

In spite of the repo cuts, 12 month forward points are still very high. The optimum tenor of 4M for a TRY seller still costs an annualized 8.85%.


Japan can't shake the Flu

The only thing that Japan’s Prime Minister Abe was wishing for Christmas was for a merciful end to 2019. However 2020 hasn't left much to be desired so far. This week Japan confirmed their first case of the new coronavirus strain has killed one person and has prompted travel alerts. The virus thought to have originated from Wuhan, China, where it has left two people dead and 40 sick.

The last thing Japan needs is a virus outbreak (especially with the Olympics fast approaching), however, all in all Japan is limping along after a tough 2019 where the external sector was weighed on by trade and political tensions directly with Korea, and the fallout of the conflict between the U.S. and China.

What happened to Japan in 2019

  • In Q4, economic activity fell; and the private sector PMI fell into contractionary territory way back in October and remained stuck there through December.

  • Exports fell every month of 2019

  • Wages dropped for seven of the first 10 months of the year

  • To add insult to injury, Typhoon Hagibis hit Japan in October.

In an attempt to boost the economy, the government recently announced a USD 120 billion spending package, around 20% of which will be spent from December to March 2020, and the rest from April 2020 to March 2021.

Looking forward to this year, economic growth is likely to slow even more as the sales tax hike constrains private consumption. Trade tensions will not abate, and impact the external sector. On the other hand, the economy should benefit from ultra-low interest rates and effects from the 2020 Olympics, it's not all doom and gloom.

Monthly vol = only 2.2%

The USDJPY forward curve is negative, benefitting JPY sellers, but only by miniscule amounts as hedging costs are essentially zero. The optimum fwd tenor of 01M carries -20 bps, or just .02%


In Other News

US reverse on its position regarding chinese manipulation of currency

US and China sign phase one trade deal

Is the Rand the world's cheapest major currency?

Iran tripping over there excuses after aircraft tragedy

China posts weakest GDP in nearly 29 years

The 1 Trillion Club

1. Saudi Aramco - $1.8 Trillion

2. Apple - $1.4 Trillion

3. Microsoft - $1.3 Trillion

4. Alphabet - $1 Trillion

Feature Article:

Improved FX Proxy Hedging Using Machine Learning

Managing FX risk generated in first world countries is readily effected with a deep and liquid set of hedging alternatives. However, investment funds doing business in emerging markets face a double challenge - emerging market currencies (e.g. BRL, MXN, CLP) are typically more volatile, and hedging instruments are often non-existent or prohibitively expensive.  READ MORE

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Currency Heat Map

Below is the heat map for this week, showing the relative volatility between currencies. The hotter the color, the higher the volatility.

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