As we all recover from our plentiful Christmas feasts, some of us stumble back into the office, while others (the preferred) are still lounging on couches contemplating what (if anything) to do for New Years eve festivities. As you can tell I am one of the few that has found his way into the office, but it is more about admin and sorting nonsense that has been put off for the last three months than it is about trading what is left of this market.
Having said that I thought I would take this opportunity of quiet markets and even quieter days to have a look at the year that has been, but more importantly the year that lies ahead. Now I won’t bore you with what has passed, as we’ve all lived it for the last 12 months and there are plenty of news networks out there that will likely do a better and prettier job of it than I could. So rather I’m now focusing on what 2012 may bring for us.
Some out there at least twice now have called for next year to bring the end of the world (should have apparently happened this year also), the sky to fall, you know that old guy I’m talking about, while others only quietly dare think that something really good is just around the corner.
The last point is all about behavioural psychology and what will in the new year be the biggest consistent sole influence on the market. It will hinge on this concept that we’re all familiar with, which is “hot money”. Money managers in charge of “real” money will be the key drivers to price action and direction of markets on any given day. What I’m driving at, is that in a world where (in my humble opinion) capital markets have reached their critical mass (and most likely surpassed it), correlations have ceased to exist, the risk free rate of return is effectively zero and (this old chestnut that will get many out there burning effigies of me) capital markets no longer work, in fact they have entirely broken down as far as I’m concerned… Money still needs to be gainfully employed.
Putting wads of cash under your mattress while perhaps safer than most current alternatives will do nothing but safeguard the paper it’s printed on, it certainly will not earn you anything. Now there are plenty out there with serious amounts of cash and I mean specifically cash (as they’ve liquidated out of all other asset classes) looking for this money to be put to work and start earning. Expectations of returns luckily have been a little scaled back in light of global circumstances, but nonetheless returns are highly sought after now, perhaps even more so than they were in the lead up to the bubble bursting three years ago.
In simple terms this means that those that have been charged with looking after this cash will now need to work even harder than ever before in an attempt to a) justify already significantly reduced management fees, b) generate returns that will outperform the mattress and/or market.
Funds and managers that are basing their performance on a relative measure are dinosaurs as far as I’m concerned and if you have any doubt about this read the bit about risk free rates of return above… So that leaves absolute return funds/managers that are chasing the almighty return we’re all so desperately seeking.
Now when we look at these shops of significant size (the ability to really swing it around like it matters, move markets etc), these guys have kept themselves as liquid as possible in the last six months of this year and have been doing exactly that, swinging it around. What we have seen as a result is increased market volatility and movements which have lost all respect for economic fundamentals, correlations etc etc etc…
This behaviour will not only continue in the new year but will likely get even more intense and concentrated as it genuinely becomes harder and harder to make anything resembling a return.
I realise this all sounds rather foreboding and doomsday(ish), but the reason I say all this is that (now as a real money manager once again) it serves a purpose to be aware of the environment that awaits us, so as to be better prepared to handle it successfully.
There are two ways in which, as an FX trader you can look at this scenario. If you want to continue only trading spot, then you become what I affectionately term a “jubbo trader” engaging in hit and run trading styles that see you chasing a spread and 20 points and being happy to get out of the market with the shirt still on your back every time you enter it. Now of course money can be made doing this, but in this environment that we’re facing, is it the key to long term sustainability, no.
The other way in which you can trade this market is by using a combination of spot and Options. Having traded predominantly spot my entire career, in the last 12 months I have become increasingly more reliant on options to compliment my spot trading. It simply means that with ever increasing volatility (for the reasons outlined above) the environment lends itself to options trading.
Now of course none of the above is of any use to you, if you don’t have or can’t form a view. This last small topic is what I’ll touch on in the coming days of posts, before this year runs out entirely.
Enough rambling for one day? Yeah I think so, perhaps more coherent thoughts tomorrow as I peal myself off the couch.
Ken Veksler
SAXO BANK