david bloom, global head, foreign exchange strategy hsbc global markets
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David Bloom, Global Head, Foreign Exchange Strategy HSBC Global Markets FX winners and losers in a downturn April 2008. David Bloom, Global Head, Foreign Exchange Strategy HSBC Global Markets FX winners and losers in a downturn. How do we value currencies?. - PowerPoint PPT PresentationTRANSCRIPT
David Bloom,
Global Head, Foreign Exchange Strategy
HSBC Global Markets
FX winners and losers in a downturn
April 2008
David Bloom,
Global Head, Foreign Exchange Strategy
HSBC Global Markets
FX winners and losers in a downturn
2. How do we value currencies?
With equities we have different valuation techniques: dividend discount models, the PE, different multiples…
With bonds we have the real return, the risk premium, inflation expectations…
But for FX? It very much depends on the world we believe we are living in
We were living in a low volatility, low inflation world, so nominal interest rate differentials seemed to be the answer…and they were for a while
BUT not anymore
3.Yield differential has shifted against the USD……Many believe that is why the dollar is so weak
2.5
3.0
3.5
4.0
4.5
5.0
5.5
6.0
6.5
7.0
Oct-07 Nov -07 Dec-07 Jan-08 Feb-08 Mar-08 Apr-08
2.5
3.0
3.5
4.0
4.5
5.0
5.5
6.0
6.5
7.0
GBP 3m libor USD 3m libor CAD 3m libor EUR 3m libor %%
4.Fed sends in the cavalry, Lower rates, fiscal push and a weaker currencyWhatever it takes and the consequences be dammed
5. Nominal interest rates – yen should be weak
0
2
4
6
8
10
12
BRL ZAR NZD MXN AUD GBP NOK KRW SEK EUR CAD TWD CHF USD JPY
0
2
4
6
8
10
12
Major currencies ranked by current nominal interest rate %%
6. FX volatility is now back to 2003 levels so we get a rule change
5
7
9
11
13
15
17
19
21
23
Jan-96 Jul-97 Jan-99 Jul-00 Jan-02 Jul-03 Jan-05 Jul-06 Jan-08
5
7
9
11
13
15
17
19
21
23
1Y Global Hazard Indicator 1996-2008
7. The most important chart to understanding the changeAbnormal carry returns mid 2003-mid 2007
92
102
112
122
132
142
152
162
172
182
Jul-03 Jan-04 Jul-04 Jan-05 Jul-05 Jan-06 Jul-06 Jan-07
92
102
112
122
132
142
152
162
172
182
Total Return on Major Currency Carry Basket Jul 2003- Jun 2007
Annualised return = 14.66%
Annualised S.D.= 9.00%
Sharpe Ratio = 1.63
Carry drawdowns
8. Brutal rejection of the old world of low inflation and low volatility - Negative Carry returns
90
92
94
96
98
100
102
104
Jul-07 Aug-07 Sep-07 Oct-07 Nov -07 Dec-07 Jan-08 Feb-08 Mar-08 Apr-08
90
92
94
96
98
100
102
104
Total Return on G10 Carry Basket
Annualised Return -5.33%
Annualised S.D. 13.54%
Sharpe Ratio -0.39
9. 2004 until present back to the normal
95
100
105
110
115
120
125
130
135
Jan-04 Jul-04 Jan-05 Jul-05 Jan-06 Jul-06 Jan-07 Jul-07 Jan-08
95
100
105
110
115
120
125
130
135
Total Return on G10 Carry Basket 2004 - present
Average Annual Return 5.54%Annualised S.D. 8.36%
Sharpe Ratio 0.66
10. Paradigm shift from the nominal to the real
The return to higher FX volatility is negative for carry trades, and recent carry trade returns have been negative
However, this does not mean that relative yield has become a less important driver of currency performance
Yield rank remains a strong influence on short term currency performance as risk appetite ebbs and flows
However, perhaps we need to shift to a real concept
11. Wean yourself off carry – nominal yield
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104
Jul-07 Aug-07 Sep-07 Oct-07 Nov -07 Dec-07 Jan-08 Feb-08 Mar-08 Apr-08
90
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94
96
98
100
102
104
Total Return on G10 Carry Basket
Annualised Return -5.33%
Annualised S.D. 13.54%
Sharpe Ratio -0.39
12. The Rand gave a strong signal as the high beta currency
6.70
6.90
7.10
7.30
7.50
7.70
7.90
8.10
8.30
02-J
an 0
0:00
09-J
an 0
6:15
16-J
an 1
3:30
23-J
an 1
6:15
30-J
an 1
9:45
07-F
eb 0
1:00
14-F
eb 0
5:00
21-F
eb 0
7:30
28-F
eb 1
0:30
06-M
ar 1
2:00
13-M
ar 1
2:00
20-M
ar 1
3:00
27-M
ar 2
0:45
04-A
pr 0
2:45
6.70
6.90
7.10
7.30
7.50
7.70
7.90
8.10
8.30
USD-ZAR
News of power shortages
CPI Higher
Rates left unchanged
CPI Higher
CPI inline
13. Buying higher inflation, selling lower inflation would have worked until recently in both South Africa...
-2.00%
-1.50%
-1.00%
-0.50%
0.00%
0.50%
1.00%
1.50%
2.00%
2.50%
Jan-07 Mar-07 May -07 Jul-07 Sep-07 Nov -07 Jan-08
-2.00%
-1.50%
-1.00%
-0.50%
0.00%
0.50%
1.00%
1.50%
2.00%
2.50%
Return on Buy high Inflation, Sell low strategy
Strategy fails in last
three months
14. ...and in Turkey
-0.40%
-0.20%
0.00%
0.20%
0.40%
0.60%
0.80%
1.00%
1.20%
1.40%
1.60%
Jan-07 Feb-07 Mar-07 Apr-07 May-07 Jun-07 Jul-07 Aug-07 Sep-07 Oct-07 Nov-07 Dec-07 Jan-08 Feb-08
-0.40%
-0.20%
0.00%
0.20%
0.40%
0.60%
0.80%
1.00%
1.20%
1.40%
1.60%
Return on strategy Buy high inflation, Sell low
Strategy fails on last
two occasions
15. Last year’s real yields about 4% ...
0.0%
1.0%
2.0%
3.0%
4.0%
5.0%
6.0%
7.0%
8.0%
9.0%
10.0%
BRL TRY ZAR NZD MXN AUD GBP KRW TWD CAD USD SEK EUR NOK SGD CHF JPY
0.0%
1.0%
2.0%
3.0%
4.0%
5.0%
6.0%
7.0%
8.0%
9.0%
10.0%Real y ields as of Q1 07'
Average real yield
16. ...were more than 100bp higher than this year
-4.00%
-2.00%
0.00%
2.00%
4.00%
6.00%
8.00%
10.00%
TRY BRL NZD AUD MXN GBP NOK SEK ZAR CAD EUR KRW CHF TWD JPY USD SGD
-4.00%
-2.00%
0.00%
2.00%
4.00%
6.00%
8.00%
10.00%Relativ e real y ields as of February 08'
Average real yield
17. …Current account surpluses are shrinking as the US deficit improves our interest rate reward should be higher, not lower
-20.0%
-15.0%
-10.0%
-5.0%
0.0%
5.0%
10.0%
15.0%
20.0%
25.0%
30.0%
SGD CHF NOK SEK JPY TWD CAD BRL EUR KRW MXN USD GBP AUD TRY ZAR NZD
-20.0%
-15.0%
-10.0%
-5.0%
0.0%
5.0%
10.0%
15.0%
20.0%
25.0%
30.0%Current account % of GDP end 07'
Average current account % of GDP
18. BRL and TRY offer good reward, unlike ZAR and USD
y = -0.1602x + 0.0256
R2 = 0.368
-4%
-2%
0%
2%
4%
6%
8%
10%
-15% -10% -5% 0% 5% 10% 15% 20% 25% 30% 35%
ZAR
BRL
USD
TRY
AUD
GBP
Current Account (x-axis) versus real yield (y-axis)
19. Real yields
The illusion of nominal interest rates
Currency Current a/c Yield Inflation CPI headline
Real Yield
AUD -5.80% 7.25% 3.00% 4. 25%
GBP -5.70% 5.25% 2.50% 2.75%
NZD -9.00% 8.25% 3.20% 5.05%
ZAR -8.10% 11.00% 9.80% 1.20%
TRY -7.30% 15.25% 9.10% 6.15%
Source: HSBC, Bloomberg
20. Points worth noting The BRL stands out as offering very high real interest rates relative to its
current account position, which by the way is in surplus
The TRY has high real interest rates but has a weaker current account profile. This relationship highlights that the TRY is not as high beta compared to the ZAR.
The USD also offers a relatively a relatively poor trade-off between real yields and its current account. Although the USD’s negative real yields look unattractive, the Fed is trying to reflate its asset markets. In this context the potential portfolio flows will dominate the yield play to support the USD going forward.
The ZAR offers a relatively poor trade-off between real yields and its current account. This has deteriorated sharply over the past year. This is largely because real interest rates have fallen sharply in the past year from over 4.0% to 1.2%. To us, this helps explain why the ZAR is weakening versus other high yielding currencies.
21. NOK and SEK offer good risk-reward on a real yield versus current account basis
y = -0.1136x + 1.8194
R2 = 0.1488
-6
-4
-2
0
2
4
6
8
-15 -10 -5 0 5 10 15 20 25 30 35
NOKSEK
Currenct account position (x -ax is) v ersus real y ield (y -ax is)
EUR
GBP
TRY
USD
CHF
CAD
JPY
BRL
MXN
NZD
SKK
AUD
ZAR
CZK
PLNTWD
SGD
HUF
22. Real yields will matter when macro dominates
The machines are being switched off as the carry model under-performs
Macro ideas are hard to hold on to given the volatility, so forward looking strategies are hard to trade
Until we settle into a new world the traders hold court…
Traders go with the news flow
23.
The desire of policy makers matters
24. G10 Performance against the USD over the last three months – Is it random?
Performance against the USD ov er the last three months (%)
12.0
9.7
7.4
7.0
4.9
3.3
1.7
-0.5
-3.7
-4.0 -2.0 0.0 2.0 4.0 6.0 8.0 10.0 12.0 14.0
CHF
JPY
SEK
EUR
NOK
AUD
NZD
GBP
CAD
25. Policy makers desires
Central Bank – policy desire index – from strongest to weakest
Currency Policy from inflationary concerns to worries about growth
1. CHF Here the policy makers were warning about the weakness of the currency and seem happy with a stronger CHF 2. NOK Although left rate unchanged inflation has moved up from flat to 2.8% over the last three months 3. SEK CB raised rate on the 13 Feb despite market turmoil 4. EUR Still banging on about inflation and yet to use the word “brutal” in relation to currency strength 5. AUD RBA looked to have reached its peak and last statement was notably dovish 6. NZD RBNZ intervened last time the currency was around these levels. It seems content not to raise rates 7. JPY Japanese authorities are getting very worried about growth and talk of a rate cut is gaining momentum 8. CAD BoC has cut 100bp since November 2007 and is getting quite concerned about the strengthening CAD 9. GBP MPC already cut rates twice and is very worried about the growth outlook. It also sees the positive side of a weaker GBP 10. USD Fed cut rates 75bp on 18 March and wants looser policy everywhere and wherever it can get it
26. Desire brings performance
0
1
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CHF NOK SEK EUR AUD NZD JPY CAD GBP USD
0
1
2
3
4
5
6
7
8
9
10CB policy desire index
Three month performance ranking
Rank correlation index = 73%
27.
The move to a “policy desire” framework...
...because nominal rates have broken down...
...we are between worlds…
28.
Our other obsession is the pendulum that swings between
decoupling and contagion
29. Eurozone data suddenly matters
Recent USD reaction to US data surprises has been relatively mild
Some positive data surprises from outside the US have brought very negative reactions by the USD
The pendulum swings from contagion to decoupling
We know the US is in a bad way but will it infect others
The latest German Ifo survey was surprisingly strong and EUR-USD moved higher, this response to European data is very unusual and trigger broad USD weakness rather than independent EUR strength
30. EUR-USD reacting mainly to Eurozone data
1.540
1.545
1.550
1.555
1.560
1.565
1.570
1.575
00:0
0
03:0
0
06:0
0
09:0
0
12:0
0
15:0
0
18:0
0
21:0
0
00:0
0
03:0
0
06:0
0
09:0
0
12:0
0
1.540
1.545
1.550
1.555
1.560
1.565
1.570
1.575EUR-USD (5 minute interv als)
25 March 26 March
German Ifo
releaseUS consumer
confidence
release
US durables
release
31. Positive US surprises coincide with a lower EUR-USDJan 2003 to date
From Jan 2003 to Present Day
-0.03
-0.025
-0.02
-0.015
-0.01
-0.005
0
0.005
0.01
0.015
0.02
0.025
-6.00 -4.00 -2.00 0.00 2.00 4.00 6.00 8.00 10.00
Change in US Activity Surprise Index
Ch
ang
e in
EU
R-U
SD
32. The relationship between US activity surprises and EUR-USD is loosening – since 2007
From Jan 2007 to Present Day
-0.02
-0.015
-0.01
-0.005
0
0.005
0.01
0.015
-6.00 -4.00 -2.00 0.00 2.00 4.00 6.00 8.00
Change in US Activity Surprise Index
Ch
ang
e in
EU
R-U
SD
33. The relationship between Eurozone activity surprises and EUR-USD is increasing
From Jan 2007 to Present Day
-0.015
-0.01
-0.005
0
0.005
0.01
0.015
-4.00 -3.00 -2.00 -1.00 0.00 1.00 2.00 3.00 4.00 5.00
Change in Eurozone Activity Surprise Index
Ch
ang
e in
EU
R-U
SD
34. Conclusion
We have moved from a low volatility, low inflation world, a world of certainty to an uncertain world
Nominal interest rates no longer the prime driver of currencies
Real concepts will come back into play
Once the decoupling contagion debate is settled
For the meanwhile traders and news flow will dominate
35. In the G10 world GBP has major problems
It’s not so much the improvement in the US but the deterioration elsewhere
GBP has further room to be de-rated
The ‘hot money’ flow from abroad is at risk of re-trenching as UK negative developments increase, including:
– A deteriorating cyclical outlook for the UK economy
– Net M&A flows for the UK are no longer favouring GBP
– Harsh criticism of the current policy framework creates downside risk for GBP
36. Dollar decline saw the Cable bull market since 2003
1.30
1.40
1.50
1.60
1.70
1.80
1.90
2.00
2.10
Jan-99 Jan-00 Jan-01 Jan-02 Jan-03 Jan-04 Jan-05 Jan-06 Jan-07 Jan-08
1.30
1.40
1.50
1.60
1.70
1.80
1.90
2.00
2.10
GBP-USD
Rising since 2003
37. Dollar decline caused EUR-USD to rise
0.80
0.90
1.00
1.10
1.20
1.30
1.40
1.50
1.60
Jan-99 Jan-00 Jan-01 Jan-02 Jan-03 Jan-04 Jan-05 Jan-06 Jan-07 Jan-08
0.80
0.90
1.00
1.10
1.20
1.30
1.40
1.50
1.60
EUR-USD
Rising since 2003
38. …but EUR-GBP is reflecting independent sterling weakness
0.55
0.60
0.65
0.70
0.75
0.80
Jan-99 Jan-00 Jan-01 Jan-02 Jan-03 Jan-04 Jan-05 Jan-06 Jan-07 Jan-08
0.55
0.60
0.65
0.70
0.75
0.80
EUR-GBP Av erage 2003-present
Stability since 2003
39. UK gross liability position in ‘hot money’
0
500
1000
1500
2000
2500
3000
3500
4000
4500
80 81 82 83 84 85 86 87 88 89 90 91 92 93 94 95 96 97 98 99 00 01 02 03 04 05 06 07
0
500
1000
1500
2000
2500
3000
3500
4000
4500
UK ex ternal liabilities in 'hot money 'GBP bn GBP bn
40. UK policy framework – from friend to foe?
Perception of a safe, flexible and respected policy framework on a monetary and fiscal policy front
The UK was probably attracting money because of how London’s status as a major financial centre grew within this framework
We believe that any divisions within the MPC from now could show a divisive policy-setting framework and hurt GBP
If further problems beset either the BoE or policymakers in the UK, the situation could turn from mildly negative into something a lot more serious
41. UK C/A nearly as big as in the US
-7
-6
-5
-4
-3
-2
-1
0
1
1991 1993 1995 1997 1999 2001 2003 2005 2007
-7
-6
-5
-4
-3
-2
-1
0
1US UK
Currenct account balance - 4Q moving avaerage% GDP % GDP
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Each of the companies listed above (the “Participating Companies”) is a member of the HSBC Group of Companies, any member of which may trade for its own account as Principal, may have underwritten an issue within the last 36 months or, together with its Directors, officers and employees, may have a long or short position in securities or instruments or in any related instrument mentioned in the document. Brokerage or fees may be earned by the Participating Companies or persons associated with them in respect of any business transacted by them in all or any of the securities or instruments referred to in this document.
The information in this document is derived from sources the Participating Companies believe to be reliable but which have not been independently verified. The Participating Companies make no guarantee of its accuracy and completeness and are not responsible for errors of transmission of factual or analytical data, nor shall the Participating Companies be liable for damages arising out of any person’s reliance upon this information. All charts and graphs are from publicly available sources or proprietary data. The opinions in this document constitute the present judgement of the Participating Companies, which is subject to change without notice.
This document is neither an offer to sell, purchase or subscribe for any investment nor a solicitation of such an offer. This document is intended for distribution in the United States solely to “major US institutional investors” as defined in Rule 15a-6 of the US Securities Exchange Act of 1934 and may not be furnished to any other person in the United States. Each major US institutional investor that receives this document by such act agrees that it shall not distribute or provide a copy of the document to any other person. Such recipient should note that any transactions effected on their behalf will be undertaken through HSBC Securities (USA) Inc. in the United States. Note, however, that HSBC Securities (USA) Inc. is not distributing this report, has not contributed to or participated in its preparation, and does not take responsibility for its contents. In Singapore, this publication is distributed by The Hongkong and Shanghai Banking Corporation Limited, Singapore Branch for the general information of institutional investors or other persons specified in Sections 274 and 304 of the Securities and Futures Act (Chapter 289) (“SFA”) and accredited investors and other persons in accordance with the conditions specified in Sections 275 and 305 of the SFA. This publication is not a prospectus as defined in the SFA. It may not be further distributed in whole or in part for any purpose. The Hongkong and Shanghai Banking Corporation Limited Singapore Branch is regulated by the Monetary Authority of Singapore. HSBC México, S.A., Institución de Banca Múltiple, Grupo Financiero HSBC is authorized and regulated by Secretaría de Hacienda y Crédito Público and Comisión Nacional Bancaria y de Valores (CNBV). HSBC Bank (Panama) S.A. is regulated by Superintendencia de Bancos de Panama. Banco HSBC Honduras S.A. is regulated by Comisión Nacional de Bancos y Seguros (CNBS). Banco HSBC Salvadoreño, S.A. is regulated by Superintendencia del Sistema Financiero (SSF). HSBC Colombia S.A. is regulated by Superintendencia Financiera de Colombia. Banco HSBC Costa Rica S.A. is supervised by Superintendencia General de EntidadesFinancieras (SUGEF). Banistmo Nicaragua, S.A. is authorized and regulated by Superintendencia de Bancos y de Otras Instituciones Financieras (SIBOIF).
The document is intended to be distributed in its entirety. Unless governing law permits otherwise, you must contact a HSBC Group member in your home jurisdiction if you wish to use HSBC Group services in effecting a transaction in any investment mentioned in this document. HSBC Bank plc is registered in England No 14259, is authorised and regulated by the Financial Services Authority and is a member of the London Stock Exchange. (070905)
© Copyright. HSBC Bank plc 2007, ALL RIGHTS RESERVED. No part of this publication may be reproduced, stored in a retrieval system, or transmitted, on any form or by any means, electronic, mechanical, photocopying, recording, or otherwise, without the prior written permission of HSBC Bank plc. MICA (P) 316/06/2007
Issuer of report
HSBC Bank plc
8 Canada Square, London
E14 5HQ, United Kingdom
Telephone: +44 20 7991 8888
Fax: +44 20 7992 4880
Website: www.hsbcnet.com/research
* Legal entities as at 22 August 2007
'UAE' HSBC Bank Middle East Limited, Dubai; 'HK' The Hongkong and Shanghai Banking Corporation Limited, Hong Kong; 'TW' HSBC Securities (Taiwan) Corporation Limited; 'CA' HSBC Securities (Canada) Inc, Toronto; HSBC Bank, Paris branch; HSBC France; 'DE' HSBC Trinkaus & Burkhardt AG, Dusseldorf; 000 HSBC Bank (RR), Moscow; 'IN' HSBC Securities and Capital Markets (India) Private Limited, Mumbai; 'JP' HSBC Securities (Japan) Limited, Tokyo; 'EG' HSBC Securities Egypt S.A.E., Cairo; 'CN' HSBC Investment Bank Asia Limited, Beijing Representative Office; The Hongkong and Shanghai Banking Corporation Limited, Singapore branch; The Hongkong and Shanghai Banking Corporation Limited, Seoul Securities Branch; HSBC Securities (South Africa) (Pty) Ltd, Johannesburg; 'GR' HSBC Pantelakis Securities S.A., Athens; HSBC Bank plc, London, Madrid, Milan, Stockholm, Tel Aviv, 'US' HSBC Securities (USA) Inc, New York; HSBC Yatirim Menkul Degerler A.S., Istanbul; HSBC México, S.A., Institución de Banca Múltiple, Grupo Financiero HSBC, HSBC Bank Brasil S.A. - Banco Múltiplo.