Hugh Hendry: Eclectica Absolute Macro Fund, July 31 portfolio update
The Fund was down 1.1% in July. The main negative contributors were our China and EM short expressions but the true culprit lay in the equivocal nature of monetary policy pronouncements from the US Fed.
As in the children’s nursery rhyme, the Fed chairman infamously marched his troops to the top of the hill only to march them down again, one moment promising tapering, the next, unlimited accommodation. Having retreated in June, global stocks stabilised and then posted their best monthly performance in a year and the dollar swooned.
This proved a major frustration as our volatility targeting system had signalled that we should take more risk. The Fed’s flip therefore had the detrimental effect of reversing this signal inter-month and necessitated that we had to down scale the risk book once more.
The main take away for the month was the ECB, along with the BOE, embracing the use of formal interest rate guidance. The bankers are promising that rates will remain at low levels for an extended period of time but the markets, with an eye on improving economic conditions, are yet to be convinced. Published data continues to suggest that the DM world remains on a path of gradual improvement and that we are at a pivot point for monetary policy to tighten. With only a small allocation to DM equities, the Fund recorded a modest gain which was offset by losses elsewhere.
Emerging economies continued to show cracks in local fundamentals. Many countries are still dealing with worsening fiscal and current accounts, depleting reserves and high inflation. This combination forced several EM central banks to hike interest rates as they try to contain capital out flows. Turkey’s central bank raised the benchmark rate to 7.25% in July for the first time since October 2011, tightening local monetary conditions to appease international creditors. The local stock market was down 3.8% in July, and since topping on 22 May. Turkish equities have lost 21%. The Fund recorded a small gain from our long S&P / short EM equity expression, but this was not enough to offset losses in our EM currency basket (-25bps) which suffered from the sharp reversal in the dollar leg.
The Chinese economy slowed for a second quarter, with weaker growth in factory output and fixed-asset investment. However, with SHIBOR returning to more normal levels and lead indicators turning higher, most China-related equities rallied in July. Inter-month trading saw us record a loss of 16bps from our short positions in Chinese index futures.
Nevertheless, the economies of those commodity producers that rely heavily on sales to China continued to weaken last month. This was particularly the case in Australia, where the month saw further unwinding in mining construction, weak housing numbers, slowing retail sales and export activity. The Fund gained 24bps from a bullish curve steepener in Australia.
In Japan, equities proved volatile once more and ended the month recording small losses despite the comfortable election victory by Prime Minister Abe’s LDP. Market participants remain concerned about policy slippage, especially concerning the planned increase in sales tax. The Fund recorded losses of 39bps from a long exposure to Japanese equities and 13bps from a short yen position which has now been closed.
Heading into August, we retain a short bias toward China and EM currencies. However, the troublesome dollar leg has been replaced by a ‘good EM’ (positive CA balance, modest foreign borrowings etc.) versus ‘bad EM’ FX basket. We continue to favour a long stance towards the S&P against EM indices and we are bullish curve steepeners in Australia and South Korea where overnight rates remain relatively high, giving the authorities considerable leeway to cut.