With hedge funds painfully lagging the market, as shown by the HFRX Equity Hedge Fund index, which remains not only red for the year, but is near its 2018 lows…
… performance panic is starting to set in as we enter the last quarter of the year. Bloomberg’s Richard Breslow put it best earlier this morning: “Imagine the agony of walking in and seeing the S&P futures up over one-half percent. The dollar is torturing people. The Bloomberg Commodity Index is up hard on a move I’m not sure a lot of people caught. And bond yields are a tough way to make money fast.”
So what happens next? Well, according to Nomura’s head of X-asset strategy Charlie McElligott the pieces are now in place for the tactical October “Cyclical Melt-up 2.0” that he has been anticipating, with this morning’s action a harbinger of what is coming as USTs and USD are on their back-foot post Canada / NAFTA 2.0, while Commodities and EMFX are rallying to multi-week highs.
Meanwhile, within risk assets, break outs are everywhere:
Within Equities, we see Materials-, Financials- and Energy- sectors leads Eurostoxx performance tables on the quarter-opening session, while from a Factor-perspective, we see “Beta” and “Default Risk” strategies perform well in Europe and Japan markets overnight.
The breakout in Crude is also notable, as Brent moves towards its 100-month MA and WTI cracks its May resistance back towards re-testing July highs.
This morning’s “up-in-risk” dask comes despite disappointing Asian & Euro-Area Manu PMIs (China Caixin Manu PMI specifically at 50, the lowest level since Mar ’17), as well as a weaker Japanese Tankan print, which to McElligott confirms his view that risk-assets are “trading short” (“low nets,” “grossed-down” or simply “too defensive” positioning) as we begin the annual Q4 “performance anxiety” phenomenon.
Menawhile, with both the ECB and Fed either accelerating tapering (ECB’s bond purchases are cut in half again to just €15BN/month while the Fed’s balance sheet shrinkage rises to $50/month) Into October’s imminent “QT Impulse,” the Bond Bears continue to grow further emboldened, according to the Nomura strategist with Friday’s CoT report showing not only the biggest net short position on 10-year notes on record…
… but additional net selling of -$15mm/01 across the UST futures complex (biggest sales came via TU -$3.3mm/01, TY -$5.2mm/01, and US -$6.4mm/01), “as all segments of the futures market saw spec selling with the exception of Eurodollars, which saw +$2.5mm/01 of buying.“
More rates bearishness emerged out of Japan this morning, where the ongoing “bear-steepening” in JGBs continues as BoJ efforts to widen the YCC band seem to be working, helping the TOPIX Banks rise +6.5% in three weeks and the Nikkei hitting the highest level in 27 years on the back of the weaker yen.
Meanwhile, McElligott notes that back in the US, Eurodollar calendar spreads in ’19 are jumping higher over the course of Sep / EDZ9Z0 reversing the multi-month inversion to again trading “positive” over the past two weeks, the buyside is seemingly “upgrading” their view of the U.S. Economy by delaying the “end of Cycle” trade, which aligns with the repricing of a “higher” Neutral Rate.
Putting all that in context and summarizing what happens next according to the Nomura strategist, here is McElligott’s “view”:
Expecting a strong move for “risk-assets” throughout October on
- U.S. EPS-season “macro blinders” for Equities managers
- “weak Dollar” perpetuating risk “virtuous cycle” (+++ for Commods & EM and broad “Inflation Expectations”) and
- big “Quantitative Tightening” -> “Bearish Rates” flows (“hawkish pivot” / “supply shock” / inflation trajectory) keeping pressure on UST yields (higher)—thus making “Cyclicals over Defensives” / TIPS over Nominals as the top tactical positioning for the month.
Finally, there is the seasonality factor, which – according to data since 1994 – suggests that October is the month most bullish for risk:
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