As I write this, some 30,000 ft above the Atlantic I can’t help but contemplate risk and loss. I’ve marked a few chapters of “Thinking Fast & Slow” by Kaheman and Twersky which I try to re-read at this time of the year to remind myself of my own evolutionary misdoings. The power of the kindle.
Loss aversion is one of the most important concepts in behavioral economics and thus trading psychology. “Losses loom greater than gains” is how Daniel Kahneman and Amos Twersky put it in their well known paper arguing that much of our financial behavior is driven by this concept. https://www.princeton.edu/~kahneman/docs/Publications/Anomalies_DK_JLK_RHT_1991.pdf
Recent studies show that loss aversion dictates far more of our actions than just financial decisions. Our choice in partner’s for example. We aren’t looking for the ideal partner rather we are looking for “deal breakers” in the search for a partner. Put differently, we aren’t looking for that prince/princess but rather the assurance that there is no frog/pig in there.
In trading terms, we don’t want to profit but rather we are looking not to lose. Think about that, we are programmed to avoid losses at the expense of massive potential gains. Trading is about asymmetric risk to reward gains. The average person has lost before they have even started.
We fear to lose and thus take actions that increase our chance of losing. In trading, in life, in relationships. The fear of possible regret drowns out opportunity of real gain.
Much of this current bull market has unfolded during the weakest economic recovery in history. Now that economic conditions are improving most seem to forget that the market is already pretty hot. Of the 17 trading days of 2018, the market closed at a new record high 12 times. The best start to the year since 1987. Technically, the steepening upward move is a text book case for a market blow off. Sadly there aren’t any text books that cover this kind of economic environment. Total market capitalization as a percentage of GDP has also reached all time highs. Even higher than the dotcom boom. Not a useful metric to measure directional change but it does illustrate how highly priced equities have become.
Previous week: 22 January 2018 – 26 January 2018
Bank of Japan monetary policy statement, outlook report, press conference—Tuesday 23 January 2017
No change in monetary policy as expected with uber-dove Kataoka dissenting. However, the details are massively crucial. The main take away from this meeting is this: THE BOJ SHIP IS ON CRUISE CONTROL. THERE IS NO NEED TO ROCK THE BOAT.
Outlook for Economic Activity and Prices (January 2018):
The key change in language with regards to inflation is as follows. The stance was changed from “inflation expectations have remained in a weakened phase.” to “inflation expectations have been more or less unchanged”
Outlook from January 2017
Outlook from October 2017
The members of the BOJ did not make much changes to their inflation forecasts. The central bank is still predicting that their 2% core inflation target (with the help of the consumption tax) will be attained in FY 2019. If the effects of the consumption tax was not included in their forecasts, the 2% core inflation target will not be reached in FY 2019. The only change in the inflation forecast would be a tightening of the range of FY 2018 from 1.1% to 1.6% in October 2017 to 1.3% to 1.6% in January 2018.
BOJ inflation dot plot: Even though core CPI forecasts were relatively unchanged from October 2017 to January 2018, there were a slight increase in downside risk for FY 2018 and FY 2019.
|Name||October 2017||January 2018|
|FY 2017||1 Upside, 4 Downside, 4 Balanced (Net -3)||0 Upside, 1 Downside, 8 Balanced (Net -1)|
|FY 2018||1 Upside, 2 Downside, 6 Balanced (Net -1)||0 Upside, 2 Downside, 7 Balanced (Net -2)|
|FY 2019||0 Upside, 6 Downside, 3 Balanced (Net -6)||0 Upside, 7 Downside, 2 Balanced (Net -7)|
BOJ January 2018 core CPI dot plot
BOJ October 2017 core CPI dot plot
BOJ Governor press conference:
Goldman Sachs made a great summary on the main points from the press conference. The main message from Governor Kuroda was that THE BOJ SHIP IS ON CRUISE CONTROL. THERE IS NO NEED TO ROCK THE BOAT.
- Dampened expectations for an early rate hike
- At the press conference following the MPM, Governor Kuroda emphasized that the BOJ would stick to its 2% inflation target, that there was no policy intent in the reduction in its JGB buying operations
- Too early to consider exiting unprecedented easing
- Governor Kuroda stated that Japan’s CPI inflation, excluding energy, was still only barely in positive territory, and that inflation is much lower than in the US and Europe. He went on to say that the BOJ had therefore not reached the stage at which it would consider an exit, and he reiterated the importance of persevering with current monetary policy. The BOJ’s monetary policy statement upgraded its view on inflation expectations, but Governor Kuroda said he felt no need to adjust yield curve control in tandem with it.
- No policy intent in BOJ’s reduced JGB buying operations
- First, the BOJ’s target under the yield curve control policy is interest rates not quantity (amount of JGB purchases), and therefore the figure of ¥80 tn in annual purchases is merely a guideline and not a binding target to be achieved.
- Second, policy decisions are made at the BOJ’s Monetary Policy Meetings, and there is no policy intent whatsoever in technical changes to daily JGB buying operations in response to market conditions.
- Kuroda appears keenly intent on suppressing excessive market expectations of an early rate hike to avoid inviting premature yen appreciation, which could dampen inflation in the future.
Steven Terner Mnuchin opened his mouth and words came out
“A weaker dollar is good for us as it relates to trade and opportunities.”
US Crude oil inventories—11.30 am 24 January 2017 Friday
US crude inventories decreased by -1.07 million barrels on the expectation of -2.32 million decrease. This represents 10 straight weeks of drawdowns in crude oil inventories. Baker Hughes US oil rig count increased by 12 from 747 to 759. Oil production was 9878k barrels per day for week ending 19/01/2018, an increase from 9750k barrels per day in the previous week. Oil production still remains at / near all time high. The rise in rig count seemed to be attributed to the strong correlation to the price of oil. The head on battle between US and OPEC continues. Frackers are churning out their rigs while OPEC is keeping a lid on production.
Image taken from Zerohedge:
Japan core CPI
Japan’s core CPI y/y rose by +0.9% in December, which is the same as that of November’s. Has the rally in core CPI ended or will it continue its upward trajectory?
ECB minimum bid rate, press conference—8.45am 25 January 2018 Thursday
No change as expected. “If the outlook becomes less favourable, or if financial conditions become inconsistent with further progress towards a sustained adjustment in the path of inflation, the Governing Council stands ready to increase the asset purchase programme (APP) in terms of size and/or duration.”
The press conference when taken in its totality is neutral, neither hawkish nor dovish, and hence somewhat surprised the consensus opinion. The consensus opinion was for a dovish statement.
Key sentences from press conference:
- Based on our regular economic and monetary analyses, we decided to keep the key ECB interest rates unchanged. We continue to expect them to remain at their present levels for an extended period of time, and well past the horizon of our net asset purchases.
- Regarding non-standard monetary policy measures, we confirm that our net asset purchases, at the new monthly pace of €30 billion, are intended to run until the end of September 2018, or beyond, if necessary, and in any case until the Governing Council sees a sustained adjustment in the path of inflation consistent with its inflation aim. If the outlook becomes less favourable, or if financial conditions become inconsistent with further progress towards a sustained adjustment in the path of inflation, we stand ready to increase the asset purchase programme (APP) in terms of size and/or duration.
- Incoming information confirms a robust pace of economic expansion, which accelerated more than expected in the second half of 2017. The strong cyclical momentum, the ongoing reduction of economic slack and increasing capacity utilisation strengthen further our confidence that inflation will converge towards our inflation aim of below, but close to, 2%.
- [T]he recent volatility in the exchange rate represents a source of uncertainty which requires monitoring with regard to its possible implications for the medium-term outlook for price stability.
- Euro area annual HICP inflation was 1.4% in December 2017, down from 1.5% in November. This reflected mainly developments in energy prices. Looking ahead, on the basis of current futures prices for oil, annual rates of headline inflation are likely to hover around current levels in the coming months. For their part, measures of underlying inflation remain subdued – in part owing to special factors – and have yet to show convincing signs of a sustained upward trend. Yet, looking forward, they are expected to rise gradually over the medium term, supported by our monetary policy measures, the continuing economic expansion, the corresponding absorption of economic slack and rising wage growth.
- Question: My second question would be about your discussion on reviewing the forward guidance. The account of the meeting from December mentions that there was a mention of a need to revisit the guidance early in the year. My question is, has this discussion already started? If so, what was the basic summary of that discussion?
Answer: The only discussion that took place was about the need to have a discussion. You see, my press conference went in – started going to the substance. But the actual discussion in the Governing Council was only scheduling the discussion which was to take place in the early part of this year. Well, now, that’s important to clarify.
So discussion hasn’t really started. We really went through the events since October to now and trying to basically assess whether something has changed. There hasn’t been much of a change other than a continuing strengthening of the economy more – to some extent even more – than expected. Now, we have as I said downside risks relating primarily to geopolitical and especially foreign exchange markets. By and large, the risks to growth are balanced. Now, can we declare victory? The answer is no, not yet. Price pressures are muted, underlying inflation still doesn’t show signs of any convincing upward movements. Price pressures along the pricing chain remain broadly stable and subdued. Recent data on wage growth confirms some lift-off] from its lows of 2016 second quarter, but it’s a lift-off so far mostly due to wage drift, not negotiated wages. We have to look better and see whether this picks up and is confirmed.
US Advanced GDP q/q—9.30pm 26 January 2018 Friday
Q4 US annualized GDP missed expectations. Its came in at 2.6% when expectations was for 3.0%. 1.2%, 3.1%, 3.2% 2.6% are the annualized growth rate for the four quarters in 2017. We can give Trump a pass for his weak first quarter growth. That quarter’s first 20 days was under Obama and Trump needed time to implement his economic plan. Credit is given where credit is due. Q2,3,4 have been stellar for Trump. No doubt about that.
Coming week: 29 January 2018 – 02 February 2018
US Crude oil inventories—11.30 am 24 January 2018 Wednesday
Another draw in inventories? My hunch tells me that the rebalancing is about to be completed and frackers are going to ramp up production bigly now that USOIL is above $60 a barrel, well in the profitable territory.
FOMC statement, Federal funds rate—3am 01 February 2018 Thursday
NO PRESS CONFERENCE, NO CHANGE IN MONETARY POLICY.
Non-farm employment change, unemployment rate, average hourly earnings m/m, labour force participation rate—Friday 02 February 2018 9.30pm
184K jobs expected to be created in January. Unemployment rate to remain at 4.1%. 0.3% month over month growth of hourly earnings expected.
Let the picture speak for itself.
Long EUR/USD (wait)
Having broken strong resistance at 1.20 – 1.21 decisively, patiently waiting for a retracement back down to support will be wise in getting an entry to go long this pair.
European Central Bank’s Quantitative Easing Programme:
Economists surveyed by Bloomberg are now more hawkish on the pace of removal of Quantitative Easing. This ought to be the case and this shrinks the divergence in monetary policy between the ECB and Fed that had been ongoing for the past years.
- Although the Eurozone’s inflation is not at 2.0% (last 1.4%), it has gone a long way from experiencing deflation in Q1 2016.
- Although Eurozone’s unemployment rate is still pretty high (last 8.7%), it has gone a long way from the high of 12.1% in Q1 2013 and is still falling at a steady clip.
- Eurozone’s annual growth rate has stay positive since Q3 2013 and increasing in pace (last 2.6%).
Long term long position in Gold
- 55 basis points. That is the difference between the yield of the 10 year and 2 year US Treasury bonds. Every time the yield curve inverts, it recession occurs soon after. Interest rate is also the opportunity cost of holding onto gold. The lower the opportunity cost, the more attractive gold gets.
- Russia and China continues to sell oil to North Korea which are in opposition to USA’s (Trump) stance of strangling the living daylight out of DPRK. When an animal is cornered with no way out, it has no other choice but to attack.
- The heart of the Israel – Palestine conflict is about Jerusalem. For decades, USA have played the mediator in this conflict. However, President Trump, the spokesperson representing the most powerful nation in the world, picked a side over the other by recognizing Jerusalem as Israel’s capital. Jerusalem is the line in the sand that cannot be crossed. Yet, it was. The two state solution is no more. It is now a one state solution and more Zionism. Escalation of conflict through a third intifada (Uprising) is highly likely