Drums of war in Iran-State Capitalism and Socialism with Chinese characteristics

Issued by Labis Michalopoulos, CFA

12 minutes read report, 8 pages

To help speed reading blue is used for new arguments, forecasts are underlined and found at the beginning of each page, hyperlinks are marked.

How the forecasts did:

Equities are crashing, the bond yields are getting lower, the US-China trade war escalates (nice recap here) and Geopolitical risk is rising.

Adding up all the latest diplomatic meetings, equities sell off and rising gold prices with the absence of inflationary pressures, I would stay on the sidelines trying to price in a propable war in Iran.

It has been a poor week for the presented forecasts. The long EURJPY trade is 55pips in the red, the long AUDUSD trade stayed remains 38pips in the red, the short USDCAD trade is 10pips in the green, the long USDindex trade is 0.22$ in the green, the long EURUSD trade is 0 pips in the green and the GBPUSD trade has not oppened.

Major events of last week:

• Geopolitics: (a) Saudi Arabia united 20 Arab nations, including Qatar, against Iran at the emergency Arab League and Gulf Cooperation Council summit. Countries denounced Tehran’s “threat to maritime security” in the Persian Gulf. (b) A consturctive 20 minute talk over Taiwan and North Korea, between US Defence Secretary Patrick Shanahan and Chinese Defence Minister Wei Fenghe took place in Singapore. (c) Νοrth Korea executed its nuclear negotiators.
• USA-China: An interesting debate between Trish Regan, the anchor woman of the Fox, and Liu Xin, the Chinese CCTV anchor woman. China intends to comply with multilateral rules which is a polite way to say that they do intend to comply with bilateral US requests. China does not intend to abandon their developing nation status. The West regards Chinese economy as being “State Capitalism”. Chinese believe that they are having a “Socialist Economy with Chinese characteristics”. Meanwhile, Huawei filed a case in US courts against the recent federal ban, rare earths (China produced about 78% of rare earths in 2018 and owns about 40% of global resources) are included in the trade drama, as China is considering limiting rare earth exports towards the US, US soybeans purchases are on hold
• USA-Japan: Nothing concrete came out of the President Trump visit to Japan.
• Turkey: A phone call between Trump and Erdogan was enough to sent TRY higher.
• Cryptos: The market cap increased for the 6^th week in a row. $272.2bn, +7.93% w/w, -67% from last year’s $821bn peak.

Major events of next week / upcoming issues to consider:

• Monetary Meeting of the RBA (Australian Central Bank) on Wednesday and the ECB (European Central Bank) on Thursday.
• Upcoming Trump’s visit to the UK during the next week. Mike Pompeo, the US secretary of state, and John Bolton, his national security adviser will join him.
• Upcoming G-20 meeting at the end of June
• Switzerland would need to decide on immigration, its contribution to the EU budget, and the rulling power of the European Court of Justice within June
• The Norwegian Central Bank is expected to increase rates on June 20.

JPY

Exit the long EURJPY at 121.49

Strengths of JPY:

• improving macro readings: GDP (yet, it is expected to decrease in 2019), inflation, unemployment, trade balance, M2, average cash earnings, capital spending, household spending, insdustrial production, industries activity (but remains negative for 4^th month in a row), economy watchers sentiment, consumer sentiment, bank lending

Weaknesses of JPY:

• Domestic demand was expected to pick up due to increased government spending and the current monetary policy. Yet, recent data suggest the opposite. On top, economy needs to overcome the upcoming consumption tax hike, scheduled to be imposed on October.
• downward revision of expected GDP from OPEC.
• deteriorating macro readings: retail sales, current account, manufacturing PMI (crossed bellow 50), Services PMI, machine tool orders, consumer confidence, PPI(prices sold to corporations), housing starts

Watch / New Releases:

• capital spending, manufacturing PMI, monetary base, cash earning, household spending

• next Monetary Meeting of the Bank of Japan on 20 June.

AUD

Kee the long AUDUSD positions until 0.6968, short at 0.7083 (same as last week)

A sell the fact (i.e. long AUD as RBA cuts rates) reasoning is behind the forecast.

Strengths:

• Newly elected government.
• RBA kept rate unchanged while the Central Bank of New Zealand proceeded with a rate cut.
• improving macro readings: current account, M1, service PMI, Manufacturing PMI, AIG manufacturing index, construction work done (but is still in a negative territory), household consumption, consumer’s sentiment, wage price index

Weaknesses:

• the manufacturing PMI of China dropped bellow the 50 threshold again.
• Housing market and Prices not rising, credit not increasing
• GDP latest reading was unexpectedly lower, unemployment increased and inflation fell.
• Westpac, one of the top four Australian banks, is expecting two rate cuts, in August and November 2019. A trate cut is expected on Tuesday.
• deteriorating macro readings: GDP, inflation gauge, unemployment, job advertisements, inflation expectations, retail sales, trade balance, home loans, private sector credit, home sales, building approvals, AIG construction index, company operating profits, decreasing capital expenditure, private capital expediture, business confidence

Watch / New Releases:

• operating profits, retail sales, current account, GDP, trade balance

• Tuesday’s monetary meeting of the RBA. A rate cut is anticipated

CAD

Additioanal short USDCAD trades at 1.3528 and 1.3580

Strengths of CAD:

• tariffs for the Canadian steel and aluminum imported to the USA have been lifted. Canada has ratified the CUSMA deal that succeded NAFTA.
• housing market is expected to pick up in 2H19, following the stabilization in Toronto and Vancouver. BOC continues to be optimistic about a 2H19 rebound.
• improving macro readings: GDP, unemployment, inflation at the BOC’s target, Ivey PMI, retail sales, wholesale sales, manufacturing sales, employment change, trade balance, housing starts, building permits, corporate profits

Weakness of CAD:

• despite the rising tensions in the Persian Gulf and the Iranian production that is out of the market, oil prices fell. New insights wil only come on June 13, at the next OPEC’s report.
• fiscal policy expected to have a -0.2% net effect in GDP growth.
• weak government until the upcoming elections on October. This could be traslated to no rate hike until the elections.
• deteriorating macro readings: current acount, wholesale sales, labor productivity, capacity utilization, Manufacturing PMI (bellow 50), Ivey PMI, input prices of raw materials RMPI, foreign securities purchases, manufacturing sales

Watch / New Releases:

• Manufacturing PMI, labor productivity, trade balance, Ivey PMI, unemployment, capacity utilization rate

• Next Monetary meeting of the Bank of Canada on July 10.

USD

Exit the short USindex trades, go long at at 97.37$ and 97.10$

Strengths of USD – Risk off points:

• GDP q/q growth at 3.2%, way higher than the expected 2.1~2.8% range, resilient job market. OPEC made an upward revision for GDP growth and expects 2.6% and inflation metrics are picking up.
• Geopolitical risk, especially in Iran, is rising.
• Improving macro readings: inflation expectations, core PCE, personal spending, unemployment, consumer confidence, optimism, unit labor cost, manufacturing Index, housing starts, building permits, vehicles sales

Weaknesses of USD –Risk on points:

• the first rate cut of this business cycle can happen as early as at the October’s meeting.
• the yields of the short term government bonds, continue decreasing less than the yields of the longer term bonds.
• Deteriorating macro readings: GDP, inflation, trade balance, current account, PPI,capacity utilization rate, retail sales, factory orders, durable goods orders, industrial production, business inventories, wholesale inventories rising, manufacturing PMI, services PMI, Non-manufacturing PMI, consumer credit, consumer sentiment, construction spending, existing home sales, new home sales, home prices

Watch / New Releases:

• Manufacturing PMI, construction spending, factory orders, service PMI, trade balance, average hourly earnings, unemployment, wholesale inventories, consumer credit

• Next Monetary Meeting of the FED on 19 June.

EUR

Exit the long EURUSD trades, short EURUSD at 1.1237

Strengths of EURUSD:

• tariffs on autos have been postponed. Nevertheless, the trade relations between the USA and the EU are the next hot issue for 2H19.
• improving macro readings: GDP, inflation, unemployment, M3, private loans, German GDP, German Trade balance, German factory orders, wage growth, consumer confidence, industrial production, business climate, investor confidence

Weaknesses of EURUSD:

• Italian government yields are getting higher following the results of EU elections. The opposite picture is formed in Greece, confirming the scenario of one of our readers and EU Parliament Candidate who was stating, since January, that once the Greek general elections are scheduled, government yields will fall and Greek equities will rally.
• negative yields are back to stay.
• deteriorating macro readings: retail sales, current account, trade balance, PPI, German industrial production, German Manufacturing PMI (way bellow 50 and falling), German retail sales, German consumer climate, European industrial production, EU Manufacturing PMI, sevice PMI, economic sentiment, German economic sentiment

Watch / New Releases:

• inflation, unemployment, manufacturing PMI, services PMI, retail sales, GDP,

• Thursday’s monetary meeting of the ECB.

GBP

No forecast for GBPUSD

Nigel Farage gathered 30.75% of the votes, higher than my 29% threshold that would allow the opening of long trades on GBP.

Strengths:

• GBPUSD is testing techical significant levels and a rebound is possible at 1.2532 and 1.2610
• Theresa May’s recent resignation helps resolving the stalemate.
• Upward revision of GDP growth from the BOE (1.2% February’s expectation, 1.5% May’s expectation) coupled with Carney’s comment that “it will require more, and more frequent interest rate increases, than the market currently expects”. Inflation is peaking up.
• Unemployment fell and is expected to further fall to 3.5% by 2022.
• improving macro releases: GDP, inflation, rising input prices for retailers, M4, unemployment, industrial production, construction PMI, Service PMI, wages, trade balance, increasing public sector net borrowing, high street lending, mortgage approvals, lending to individuals

Weaknesses:

• Trump’s visit to the UK, potentially accompanied with demonstrations.
• UK court to decide on the case of Boris Johnson, the star of the Brexit campaign and a potential successor of Prime Minister May, and the missinformation he was spreading during the referendum that UK pays £350ml per week to the EU.
• property values predicted to fall by 1,25% within 2019, according to the BOE
• deteriorating macro releases: retail sales, average earnings, consumer’s confidence, current account, Business Investments, Manufacturing PMI, construction output, manufacturing production, industrial order expectations, home prices

Watch / New Releases:

• manufacturing PMI, retail sales, construction PMI, services PMI, home prices, consumer inflation expectations

• Next Monetary Meeting of the Bank of England on 20 June.

Disclaimer

For the readers of the report:

Redistribution is allowed as long as the author and his contact details are referenced.

This material is for Qualified Investors and Professional Clients only and should not be relied upon by any other person.

Past performance or past accurate forecasts is not a guide to future performance and the accuracy of future forecasts and should not be the sole factor of consideration. All financial investment decisions involve an element of risk.

This report is for information purposes only and does not constitute an offer or invitation to anyone to invest or trade and has not been prepared in connection with any such offer.

Any research in this document has been independently produced by Labis Michalopoulos, CFA for his own purpose. The views expressed do not constitute investment or any other advice and are subject to change. The author has an interest in the currency pairs, indexes and any other security disclosed in this report, as he is an active trader.

Reliance upon information in this material is at the sole discretion of the reader.

Opinions expressed in the report do not represent the opinion of Zulutrade and do not constitute an offer or invitation to anyone to invest or trade.

For qualified perspective clients of the advisory service:

GIPS standards are all about full, fair, consistent and comparable presentation of actual returns of the past. No models, no back-testing, no promises. I am doing that. I am publishing in real time, via a 3^rd party, my actual returns since inception where one can see the most strict, comparable, revealing metric of the industry: the monthly Sharpe ratio.

My current monthly Sharpe ratio stands at 0.27 as can be found at www.forexfactory.com/dxmix

My current annual Sharpe ratio is 0.27 multiplied by √12 = 0.27 x 3.46=0.93 Annual Sharpe Ratio

The numbers used to stand at 0.5 monthly Sharpe ratio and 1.73 annual Sharpe ratio up until the August of 2019 for 45 consecutive months. On 24 August 2018, I mistakenly ordered to open a position 10 times bigger that I am used to. My equity level is currently back on track, but my statistics are no longer as impressive as they used to be. My 54 months, since inception, monthly Sharpe Ratio (that includes the leveraged AUDUSD trade) stands at 0.27, equal to 0.93 Annual Sharpe Ratio.

I cannot claim that I will be performing with the return of my best months, but I can tell that I will hover around my average returns. Claiming with a 95% confidence, that my next month* return will be within my average monthly return ± 2 standard deviations is a well educated statement I can make anytime.

My average monthly* return ± 2 standard deviations is from -16.54% up to 20.49%

My average monthly* return ± 2 stadard deviations becomes -5.74% up to 9.47% , excluding the 4 months effect of the one time mistake trade.

 

* the monthly returns are the actual returns within a month. They are not presented on annualized basis.