Life’s a bitch; then you find yourself long of the wrong currency.
When I started out in this business, we still traded in Deutsche marks, in French francs, Belgian francs, Luxembourg francs, lire, pesetas, escudos and crowns of all kinds of hues, not to mention the defunct Irish punt and the British pound which is still, as we know, alive and kicking. At the time I learnt that in the field of investment the most important decision, the one with the greatest immediate impact on performance, was that of currency choice. That was followed by the choice of asset class and only then, in third position, followed the choice of security.
It is, however, quite astonishing how few market operatives give a fig for currency. How often have I heard salespeople parrot their traders who declare blithely “You can sell the dollar bond and buy the euro bond at the same maturity for a pick-up of x-basis points in spread….” Oh, really?
Why my sudden concern with currencies? The flip-flopping of Chinese economic data – record ups followed by record downs – is hard to follow and I have found that the Oz dollar is possibly the best proxy index for the real performance of its largest commodity client’s economy.
Firstly I have very rarely met an investor who can flip willy-nilly between currencies or who can, even if he does, hedge efficiently and cheaply enough to arbitrage the difference. When it comes to not understanding the customers’ business needs, bond traders usually take the gold medal, followed closely by private client stock brokers.
Jaded by Japan
What about the excitement last year for the staggering rally in the Nikkei. You may recall that I persistently tracked that rally hedged back into US dollars, only to find that the performance in dollars and adjusted for the massive risk from currency volatility really made being long Japan only marginally worthwhile. If further adjusted for sleep lost it might not have been worth it at all. Anyone who was long Japan and who lost no sleep over the risks should have been in the army and not managing other people’s money.
Perhaps the most nerve-racking of currencies to be involved in though has been the Aussie dollar. In the last five years alone, it has rallied from US$0.68/A$ to US$1.10 and has since dropped back to its current level of US$0.95. I might add that as recently as 2001 it was at its low of US$0.485.
Why my sudden concern with currencies? The flip-flopping of Chinese economic data – record ups followed by record downs – is hard to follow and I have found that the Oz dollar is possibly the best proxy index for the real performance of its largest commodity client’s economy. The panic which broke out on Monday after the miserable February overseas shipments and the collapse in iron ore prices yesterday – 62% Fe spot collapsed 8.32% from US$114.05/dry metric tonne, CFR (cost and freight) Port of Tianjin to US$104.07 – remarkably didn’t hurt the Aussie which has me sensing yet another storm in the cup of Chinese tea.
We all know Chinese data to be unreliable at best and yet we cling onto it as though it was as good as, however good it may be, that which we see coming out of Washington, London or Berlin. If, however, we use the 90-day moving average of the Australian dollar as an indicator of true performance, then we get a gentle but not disastrous slowing of an economy which has spent nearly two decades growing like topsy. The ever increasing base from which growth is measured also determines that although growth percentages may be slowing, the absolute number may still be rising comfortably.
These observations do not, I hasten to add, include the minor matter of the possibly looming debt crisis, but having been in the company of an old China hand for a swift half in the pub last night, I understand that the Peking leadership can most probably still achieve whatever it wants to achieve when it comes to matters of money. In other words, panic if you wish to but there really is no need.
Meanwhile, I remain highly sceptical with respect to Japan, Abenomics, and its little arrows. I reckon that the best hedge there remains a flat book. In fact, it might be the best and cheapest short for the year.