Week Ahead - Risk Events & Opps: China Party Congress (long RMB/A-shares, short KRW), Ball is in your court-no, yours (long GBP/Ibex vol)
Sunday, October 15, 2017
Week Ahead Risk Events & Opportunities: Long China 'Party Congress Put' (RMB/A-shares), short KRW, Ball is in your court-no, yours (long GBP/Ibex vol)
This week’s themes/trade ideas:
China – Long ‘Party Congress Put’: The twice-a-decade weeklong meeting kicks off (Wed) with an opening address by Pres. XJP and ends next week (~Tue, 24 Oct) with the unveiling of the new Standing Committee. This is a political – not an economic – event. Don’t expect policy clarifications (or surprises) from what has already been communicated with respect to LT reforms. Any fleshing-out of reform priorities – to be discussed in detail in December’s Economic Working Conference – won’t be codified into official documents until the National People’s Congress (Mar-2018). So we continue to be believers in the ‘Party Congress Put’ this week. We like two of three trades we mentioned in a Twitter poll (3 Oct): Long RMB (the ‘stability’ trade) and Chinese equities (the ‘optimism’ trade). We are less enthusiastic about going long industrial metals since: 1/ They’ve rallied hard (copper +6% mtd) and 2/ Markets expect capacity cuts to intensify going into winter. We’re also cautious onshore Chinese bonds given probable reinforcement of medium-term financial de-leveraging goals (above-consensus money/loans data over the weekend may be treated as ‘good news is bad news’ for local rates). Finally, keep an eye on data this week: CPI/PPI (Mon) and Q3 GDP, Sep activity (Thu).
Trade idea – Long RMB vs SGD: This week especially, the Renminbi is likely to be anchored on the strong side of FX basket models. My preferred trade is short SGD-CNH (proxy for long RMB vs the CFETS basket), which would benefit from: 1/ PBOC’s strong bias during this politically-sensitive period and 2/ Possibility of USD retracement from last week’s weakness (RMB outperforms NEER-based SGD during periods of USD strengthening). This trade has legs now that last week’s Singapore MAS semiannual meeting is out of the way (no change to neutral bias) and with Trump’s visit to China around the corner in early Nov.
Trade idea – Short KRW vs USD: There is reasonable risk of a re-escalation in DPRK noise this week given KCNA new agency signal of missiles planned to be tested ‘around start of Party Congress’. After KRW’s outsized move last week to the lower end of the 1120-1150 range (Fri last: 1229), risk-reward is attractive. US-ROK-Japan talks are scheduled in Seoul (Wed-Fri) before a US-ROK military drill (Mon-Fri).
Ref: North Korea preparing to fire multiple short-range rockets ~18 Oct open of China Party Congress - Asia Business Daily (10 Oct)
Trade idea – Long China equities: Presuming that the feel-good-factor should be riding high during Party Congress, China equity should do well (or at least won’t crater). I’m neither a stock-picker nor a China equity specialist, but onshore laggards could outperform: Shenzhen has underperformed (3% ytd, PE 36x) vs Shcomp (9%, PE 17.8x). Both A-share indices were left in the dust by CSI 300 (18%, PE 16.7x), HSCEI (23%, PE 9.5x) and Hang Seng (29%, PE 14.1x). In ETF space, small caps (29% ytd, PE 16.3) lagged large caps (33%, 11x), MSCI China (51%, 13.9x) and consumers (59%, 20.7x). Note that property companies make up 18% of the small cap ETF.
Visual: How do you position for a 'Party Congress Put'?
Visual: SGD-CNH should drift lower on stable-to-strong RMB policy bias through early November
Visual: China equity and ETF performance (standardized so 1 Jan-17 = 100):
Visual: China Party Congress week economic data: Consensus vs prior
Ball is in your court (no, yours): During negotiations, when high-stakes, somewhat lose-lose decisions have to be made, policymakers have been seen ‘passing the buck’ – that is, to say you’ve done all you could and pass responsibility of the next move to the other side of the negotiating table. In the past week, we saw this at least twice – in UK-EU Brexit talks (both sides literally exchanged ‘the ball is in your court’ barbs) and is Spain-Catalonia where Puigdemont dared Madrid to engage in mediation, who then asked the Catalan President to clarify what exactly was said last week at Parliament. This tactic is not sustainable and – as we’ve come to see in Brexit talks – raise the risk of a ‘no deal’ scenario. We take advantage of heightened uncertainty by buying volatility via long straddles in both GBP and Ibex.
Trade idea (UK-EU) – Buy GBP volatility, Stay sidelined in strategic EUR-GBP view: We look to implement our first FX option strategy – a long straddle – to capitalize on increased GBP volatility. Whilst the consensus view – that the UK would suffer more than the EU if negotiations tread towards a ‘no deal’ scenario into/after this week’s EU Summit – still makes sense (this is the cornerstone of our patient/strategic short GBP-EUR bias), this is not the week to engage in this trade. Sure, signs that PM May is fighting Tory party dissonance on both flanks (from both Brexiteers and moderates) weakens her bargaining position (negative GBP), but EUR-GBP is close to its 3mth average and much can happen to shift this cross on either direction. On the GBP side, the next big move will rely on the next set of data (CPI Tue 430pm, labour market Wed 430pm, retails Thu 430pm) and whether they reinforce or soften the case for a BOE hike (2 Nov, 77% probability; watch BOE Carney/Tenreyo/Ramsden testimony before Treasury, Tue 415pm). On the EUR leg, despite Tory party disunity, sentiment seems to be turning against the EU – with many in our informal Twitter poll seeing ‘EU economic terrorism’ as increasingly a reason for the lack of progress in Brexit negotiations. As such, EUR could weaken vs GBP if there is a ‘change of heart’ from EU leaders during the summit (Thu-Fri), in particular if they permit chief negotiator Barnier to advance talks on future trade relations (currently outside of his mandate). EUR could be dragged further by adverse (ie more populist) results from elections in Austria and German Lower Saxony over the weekend.
Trade idea (Spain-Catalonia) – Buy Ibex volatility: This trade would benefit if Catalan secessionists advance (33% probability)– eg if: 1/ Puigdemont confirms (Mon, 4pm) that he did indeed declared independence or 2/ Madrid separately finds him in violation of the constitution and Puigdemont still does not reverse course and Catalans pour out into the streets in support. This trade succeeds to the topside if Madrid somehow adroitly/successfully re-asserts control and defuses the independence movement (33%). Mediation (33%) could be the risk to this trade.
Visual: Twitter poll - Ball is in who's court? Why is there lack of progress in Brexit talks?
Visual: EUR-GBP at crossroads
Weekend elections in Japan, Argentina and Czech: We monitor poll developments in these three jurisdictions.
Trade idea – Skew bullish JPY: In Japan, polls suggest Abe/LDP have been gaining momentum (bearish JPY) but any disappointment in the Nikkei-predicted poll (>290 seats) would see a retracement – magnitude depends on scale of disappointment. Kobe Steel scandal may adversely impact Abe momentum given the Koike/Party of Hope focus on good governance and still high number of undecided voters.
Trade idea – Stay long Argentina equities but be nimble: We have converted our strategic long on Argentina Merval equities to a tactical position. Although we think next Saturday’s elections will boost the Macri govt and macroeconomic policy continuity, Argentina is vulnerable to: 1/ Profit-taking and 2/ CFK ‘October surprise’. On the latter, we monitor local polls (Gnews alert), which show a less-than-comfortable lead by Macri’s candidate. Esteban Bullrich, formerly Macri’s education minister, received 33.9 percent of voter intention in the contest for Buenos Aires province, home to about 40 percent of voters, according to a poll by consultancy Management & Fit seen by Reuters. Fernandez earned 29.6 percent of voter intention. Another poll by Poliarquia Consultores published in La Nacion newspaper showed Bullrich earning 37.7 percent of voter intention, compared to 35.2 percent for second-place Fernandez.
Trade idea – Sell CZK-EUR: ANO party Andrej Babis is leading in the 20-21 Oct elections, although the police charged him last week for EU funds fraud, which Babis calls ‘politically motivated’. That Babis would begin as PM on the backfoot (Gnews alert) may expose Czech bonds to de-risking after significant inflows earlier this year (on CNB policy tightening).
US inflation: Significant knee-jerk reaction on the back of a measly 0.1ppt miss in CPI suggests markets are especially sensitive to inflation developments. This week's data on import prices and Fedspeak from several voting FOMC members, including Chair Yellen, could provide useful insights. Watch additional news on Fed chair selection. White House Chief of Staff John Kelly’s comment (12 Oct) not only extends the timing of Fed Chair selection possibly into November, but also raises the possibility of a dark horse candidate: "All of the people that have been in to interview have been really first round draft choices, and we have more to come". As we speculate last week (Fed Chair selection: Candidate Kashkari is underpriced – Tactically long gold, 9 Oct), a surprise Kashkari meeting would be positive gold and possibly SPX and USTs.
Trade idea – Range-trade UST 10s: We think UST 10 yields will trade in a wide 2.32-2.22% range (Fri close: 2.27%), near 14- and 50-dma levels. I am biased for higher UST 10 yields on eventual tax plan passage, but we are unlikely to see a breakthrough on that front this week. Geopolitical risks could keep UST 10s anchored.
FAANG stocks – Buy AAPL vs NFLX: Netflix reports this week (Mon), which could set the tone for the FAANGs complex. Given NFLX’ outsized outperformance (+61% ytd) vs AAPL (+35%), I’m inclined to hold an RV long on the latter before iPhone X sales kickoff. Risk to view: Qualcomm lawsuit vs Apple on iPhone sales ban in China.
Tue/17: New Zealand Q3 CPI (545am, prior 0% qoq/1.7% yoy), Australia RBA minutes, UK CPI (430pm, prior headline/core 2.9%/2.7% yoy), UK PPI, EZ CPI-fin, Germany ZEW (5pm, prior current situation 87.9/survey expectations 17.0), EZ ZEW survey, US import px (830pm), US IP (915pm), US TIC flows
EM: Singapore NODX, Colombia IP/retail, Nigeria CPI (prior 16%), Russia IP
Speakers: UK CE Hammond speaks (12am, Economic Club of NY), BOE Carney (415pm, UK Parliament Treasury Cmte, w/ newest MPC members Tenreyro/Ramsden), ECB Constancio speaks (4pm, Lisbon), EU ForeignMins hold prep talks pre-summit (4pm, Luxembourg), NAFTA fourth round presser (Canada Freeland, Mexico Guajardo, USTR Lighthizer)
Companies: Morgan Stanley/Goldman Sachs/J&J/IBM/CSX/UnitedHealth earnings
Wed/18: UK labour markets (430pm), Canada mfg sales, US housing starts (830pm)
EM: India RBI minutes, South Africa CPI (cons 4.9%, prior 4.8% yoy), Brazil activity, South Africa retail, Poland retail, Russia retail, Colombia trade
Speakers: Fed Harker (1am), BOC Wilkins (330am), China Party Congress commences (thru 24 Oct) w/ opening speech by XJP (9am), BOJ Sakurai (930am), ECB Draghi opening speech at ‘Structural Reforms in Euro Area’ conference (410pm, Frankfurt, with Praet/Coeure), Fed Dudley/Kaplan discuss regional economic devt (8pm)
Events: US-ROK-Japan security talks (18-20 Oct, Seoul, US special rep Yun arrives 18 Oct), US AG Sessions testifies at Senate Judiciary Cmte oversight hearing on Russia 2016 election meddling (questions may center on Comey, transgender workers; ex-AG Loretta Lynch scheduled to meet investigators)
Thu/19: Fed Beige Book (2am), Japan trade (750am), Australia employment (830am), Japan all-industry activity (1230pm), Switzerland trade, Sweden unemployment, UK retail headline/ex-af (prior 2.4%/2.8% yoy), US Philly Fed biz outlook, US IJC (830pm)
EM: China Q3 GDP/Sep retail/FAI/IP (cons 6.8%/10.2%/7.7%/6.4%, prior 6.9% yoy/10.1% yoy/7.8% ytd yoy/6% yoy), Korea BOK MPC (curr 7dr 1.25%), Poland NBP minutes, Israel BOI MPC (curr base 0.10%), Indonesia BI MPC (curr 7drr 4.25%), Philippines BOP, Egypt trade, China FX net settlement, Chile BCCh MPC (curr o/n target 2.50%)
Speakers: RBA Bullock, Obama (Virginia), Fed George (930pm)
Events: EU Summit (19-20 Oct, Brussels), EU leaders meet (930pm, Brussels, discuss illegal immigration/digital cos taxation/defense/Turkey), Robin Hood Conference (19-20 Oct, NYC, w/ JPM Dimon/Paul Tudor Jones/Michael Bloomberg, link), FT Asia Insurance Summit (HK, link), APEC finmins meet (Vietnam)
Other: Spain deadline for Puigdemont to rectify position if found (Mon) to be in violation of constitution (else disqualified from office) (4pm)