Can’t fade, won’t chase

I have previously been saying that it would appear that the global cycle is turning (growth wise). Or at least so the consensus has it. On the one hand, this should feel exciting. After all, we will be finally able to do the opposite of whatever it was that we have been doing during the cycle that is allegedly ending. On the other hand, however, it is obviously terribly difficult to catch the right moment to do so (some will tell you this is when you should use options but unlike some fat-tail loving people I actually find options pretty expensive, for the most part. But I digress).

Let me give you two examples.

Firstly, there are strong indications that the fixed income is in the bear market. And modus operandi in any bear market is to sell into any rallies. So, we should simply be short any bonds and/or paid in rates. And I am generally on board with this strategy, except it is so remarkably costly. Curves are exceptionally steep and going short bonds means that we have to be prepared for oftentimes monstrous roll-down working against us. You think US 10y ends the year at 3.40-3.50%? Well, I have bad news for you – this means you should actually buy them! This was completely different when yields were falling. Sure, there always were more or less significant pullbacks but the carry was always with you. I had a look at the attribution of 2013 P&L from J.P. Morgan’s GBI-EM Global Diversified index today. Turns out that if you put your money into EM debt last year and kept it, you would’ve lost 6.33% due to the change in price (i.e. yield going up) but you would’ve made 6.31% (sic!) in coupons. Almost flat in the annus horribilis for EM debt! On top of that of course you would’ve lost 9% on the FX but that’s beside the point.

Making money in the fixed income bear market is remarkably difficult: even if you get the broad macro story spot on, you really need to catch small moves and close the position quickly. You don’t want to chase the market after it’s sold off but you won’t fade the move either as it goes against the big trend.

The second example I wanted to give is the USD/EM story. Let’s assume for a second that the USD will appreciate from here on in. I don’t particularly subscribe to that view but clearly the first days of 2014 have challenged me quite a bit. The broad USD strengthening is usually consistent with poor performance of EMFX. And boy, there are plenty of reasons to be short some emerging currencies! For example, those of you who follow me on twitter (@barnejek) may have noticed I haven’t been particularly appreciative of the behaviour of the Central Bank of the Republic of Turkey. To quote one of my friends, from the macroeconomic point of view Turkey does appear to be an “unmitigated disaster”. The recent move in USD/TRY is not only consistent with the global USD strengthening but also completely in line with the fundamentals (and no, politics is just a side show). Unless the central bank starts hiking interest rates, I don’t see that trend changing anytime soon.

So basically even with short periods of global risk-on, fading the move in USD/TRY is out of the question (for me). But at the same time, we cannot neglect that the move in the lira over the last few weeks has been eye-watering and putting a new position on here is brave especially that it costs not insignificant carry. It’s ok if you’ve had it on because there’s a significant P&L cushion behind you but then I am of the opinion that it really doesn’t matter what a particular position has done – I think one needs to constantly reassess all positions and if you have something that you wouldn’t necessarily put on at any given point in time if you hadn’t had it, just close it! *2 minute interlude to re-read that last sentence to see what I actually had in mind*

But I didn’t mean to make this post about Turkey and how screwed up the balance of payments situation and short term external… (see? I wanted to do it again :-).

All in all, it is very unfortunate that genuine intellectual excitement of something possibly changing quite dramatically is coupled by immense frustration of not being able to put all the trades one would feel comfortable with. I can’t fade the moves, but won’t chase them either. Or was it vice versa…?

15 thoughts on “Can’t fade, won’t chase

  1. 1. Who’s the ‘consensus’ and what do they know?
    2. The fact you can’t ‘fade or chase’ (trade) is a factor of your own confirmation problem.
    3. ‘Difficult to make money in a fixed income bear market’ is laughable, horseshit and based on your personal failure to do so.
    4. If you think options are too expensive, you don’t know how to trade options.
    5. Fraudulent post with amateur interpretation of ‘your market’.

    • thank you for your comment:
      1. From what I saw that actually is the consensus. Check bbg for example.
      2. no, it’s a factor of aversion to drawdowns
      3. not really, it’s just the struggle against the carry is pretty difficult
      4. perhaps, although again, vol structure these days is not making it cheap
      5. not sure why fraudulent as i don’t charge anything for it. perhaps you used a word by mistake?
      many thanks again from your criticism and i keep on reading my stuff!

      • I agree with Josh this post is dangerous for any investor/trader who does not know how to filter total noise/fraudulence

      • i somehow have a feeling that you are the same person that wrote the initial post. maybe it’s the initials.
        btw, today’s price action pretty much vindicates what i said (perhaps accidentally)

      • Afraid not I’m John? Yesterdays price action does not confirm that it is difficult to make money in FI bear market – yesterday proposed a few easy trades in FI – forget the neg carry – adapt to the market environment, change your timeframe, use spot and hedge (no rko’s or rki’s needed). I agree with Kit somewhat that neg carry skew can make it harder for some (long term) but it is certainly not ‘difficult’ – if you find it difficult you’re probably better off trading something else or finding a new career. Disagree with Kit that we have borrowed gains from the future – thats a preposterous analogy.

      • that settles it then – i *am* going to find a new career as i am clearly no match for pros like you who thrive on back-trading. May I suggest a new nick for you? HarryHindsight should be fine.
        Just a quick one, if making money is “certainly” not difficult then why the hell do you waste time reading my obscure blog rather than relax on some tropical island, which you “certainly” can afford having unlocked the secret to easy money-making? just a thought…

      • Barney boy, I think you will find you brought up the hindsight factor by claiming you were right on yesterdays moves in FI!! I don’t consider myself a ‘pro’ trader – anyone that thinks their an expert when dealing with uncertainty are kidding themselves. Obviously I don’t see commenting on your blog a waste of time – interesting to see others points of view and fallacies – call me a free education service. As a so called ‘investor/trader’ yourself you should know that trading is not a get rich quick scheme by any means – when adverse to drawdown – its a slow process. To correct you I said it was certainly not ‘difficult’ to make money in a so called ‘FI bear market’ – it has clear direction. Good chat!

  2. Facing the same problem. Am trying to deal with it through a combination of the following – clearly they add different risk characteristics, but it’s a balance against the carry.

    1.Buy 1×1.more ratio put spreads. Eg 1x 10s 126 put vs sell 2 123s, and roll it. Looks not unlike a listed RKO, clearly sharp yield moves hurt and you want a grind, but gives back the leverage if you can sit through it, decays to you.

    2.bear flatteners or other curve trades…again adds a layer of complexity, but long edm4 vs edm5 covers a bit of the carry. Swap out for higher yielding long like sterling helps, although again basis. 4-8-12 Eurodollar fly also, bug means you have to be right on timing. FX rko’s or rki’s…

    Trading around the sold legs when wrong also helps, but timing is fading/chasing.


    • i agree with the flies in general. i think there’s huge adjustment there still to come.
      i generally am not a big fan of rkos in this environment though
      many thanks for your comment – very insightful!

      • out of interest, why not a fan of RKOs? I guess in EM the potential for a 1 day move getting you hit and difficulty in placing it doesn’t help – i’m a developed mkts guy, less of an issue there. also the payout profile looks great when they go on, as you move through and are right, can be tough to hold, they need peeling out of. spreads suck as well. same for flies – you are making a big bet on timing as well as direction – clearly naked puts/calls and flat price give the timing flexibility – having to wait to the last few days is tough. i use them as overlays – maybe 30% of a position exposure. Tend to then end up being too cute and playing around, should just leave.

        how about RKIs? a halfway house – if too right too quick, still make some money…?

      • I guess the problem I have is exactly what you mention – I am an EM guy and there *is* a problem of being “too right”.
        RKIs are probably better but for some reason less popular among EM investors (I am not sure why – maybe it’s their schizofrenic nature 🙂
        the barriers I use a lot are double no-touches – short vol with limited downside can be very appealing.
        thanks a lot for your comment!

  3. The basic premise – that when all the ‘best’ trades are negative carry, it’s harder to make money – is clear. Years of zero-rates and central bank bond-buying have fuelled a combination of rising prices in both bonds and equities, and steep yield curves oozing carry. We’ve borrowed investment gains from the future and at best, we’ll find the going harder. At worst, we’ll give some back.

    At this point, we’re supposed either to look after the gains of recent years; or get used to the idea that ‘investing’ is now ‘trading’ and trading is about timing as much as being ‘right’.

    It’s a great post and it’s heartening to read comments that show folks are still confident that their timing skills and trading acumen are in top-notch condition….

  4. Still planning on doing a post on Cross currency basis swaps and the EURUSD? That would be awesome if you could!

    great article here, I think being short vol (USDTRY, ZAR etc) for the 1st 3 month of 2014 could work quite well, before resuming its move higher.

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