THE END OF the year is just about upon us and, while others across the financial industry are putting out their predictions for 2015, I still prefer to review the past year and to report my best and my worst calls for the period.
I started out with more or less the rest of the world in thinking that this would be the year to be long equities, long credit and short guvvies. I liked real estate but hated gold and I wanted to be long the dollar against pretty much everything else. I also thought that this would be the year when reality caught up with Hollande’s France and when Chinese growth might prove to be not all it appeared and certainly not strong enough on its own to drag the world into a sustainable growth pattern.
I suppose I’ll be sneaky and begin with what has been undoubtedly my best call and that was that Japan was going nowhere in a hurry and that Abenomics with all its fancy arrows would do no better than land unceremoniously in the sand. I must admit that I never guessed it would fall to pieces in quite the way or quite as comprehensively it has done.
Peak to trough, the yen has traded down by more than 20% and from the beginning of the year to the time of writing it was off by more than 13%. That makes a mockery of the Nikkei 225’s rise of just under 7%. Owning Japanese bonds would have been even worse as the rally that has now nearly halved 10-year yields from around 0.60% to 0.35% would have done nothing for anybody without a currency hedge and I find it hard to imagine that the cost of a matched hedge would have left anything at all on the table.
Truth be told, I shouldn’t really take any credit for this call because it was not far from shooting fish in a barrel. Reuters’ Jim Saft nailed it when he titled a piece “Japan Can’t Print People”. I wish I’d thought of that one.
The decline of France was also pretty easy to call, but who would have thought that we’d end the year not only with record low OAT yields but also the tightest spread since the time of the great convergence trade – when the French tried to convince a sceptical world that OATs should in fact trade through Bunds, backed by the slightly spurious but at the time not totally ridiculous argument that the higher liquidity of the French bond markets over the German ones should have the former trading with benchmark status premium over the latter. And yet, two-year yields are now negative and 10 years are below 1%. It’s insane.
The ECB’s quantitative easing is the carrot that has been dangled in front of markets all year long
WHAT HAS MADE 2014 so very difficult has been the way in which market dynamics and economic fundamentals have totally divorced themselves from one another. The ECB has made life hard for us, or at least it has for those who have failed to get their head around the game that President Mario Draghi is playing. He has verbally eased at least 10 times as much as he has by way of monetary policy and throughout 2014 the audience has applauded and begged for more.
The ECB’s quantitative easing is the carrot that has been dangled in front of markets all year long with believers driving yields ever lower without any assistance by the central bank. Economic fundamentals have more or less ceased to influence markets other than that poor news is good for rates and hence risk rallies and good news is seemingly good for risk, too.
So risk has had a cracking year … or has it? It might have gone up some but most of that has been on the basis of its return relative to the risk-free rate (not that any government bond can be correctly termed risk free). Anyone who thinks they can remember my having at any time suggested that European QE was just around the corner, please stand up now. Anyone?
IN TERMS OF market calls I have had a pretty decent year but I have had one catastrophic failure: I totally failed to appreciate just how long the Ukraine crisis would go on or how deeply it would influence the world we inhabit. From the beginning, I have understood where the Kremlin is coming from with regard to Crimea and have questioned why the EU felt it needed to get itself bogged down in Russia’s back yard. I had strong but misguided faith in the East’s and the West’s ability to thrash things out in the back-rooms. Of all years, I would have believed the centenary year of the outbreak of the Great War to be one where the adherence to stubborn geo-political and ideological principles would be avoided.
Instead, Russia and the West have been trying to out-stare each other at whatever price has to be paid in terms of economic damage. Europe is weighed down with enough structural baggage not to need to launch what amounts to economic warfare against Moscow. The latter has proved many times over the centuries that its people will accept incredible hardships in defence of the honour of the Motherland and this has not changed. Hence, Europe will ultimately end up the loser as whatever green shoots of recovery were beginning to show are at risk of being stamped out. The Russians will play the long game. Charles XII of Sweden, Napoleon I of France and Adolf Hitler of Germany tried and failed; I hope we won’t be adding Jean-Claude Juncker’s name to that list.
Thus the developing economic war between Moscow and Brussels – Washington and London really are bit-players in this one – has added an overlay that I had not reckoned on. I really did believe earlier on in the year that Ukraine would prove to be a storm in a teacup. Some storm; some teacup. The concomitant fallout in terms of delayed recovery in the eurozone is there for all of us to see and much of this year’s rather unconventional asset price development can be laid at its doors.
Thus the performance that I’d looked for in risk assets in 2014 has duly come to pass but not because the risk is getting better but because those assets are competing with ever lower underlying rates. Right outcome, wrong reason. It has therefore been a good year to perform well but a bad one for beating benchmarks. Next year will be a very different story.
