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PAUL KRAKE: The power of the short squeeze (April 16)

The thematic model portfolio is secretly having a crappy month, but we are positioned precisely how we want to be.

Blotter: The power of the short squeeze

The thematic model portfolio is secretly having a crappy month. We are 40% net long equities, skewed towards emerging markets which is precisely how we want to be positioned. We have been short QQQ’s and some selected stocks that can be hurt by US / China trade pressures. I concede that this is broadly a consensus portfolio, and it has been kick-in-the-pants over the course of the last two weeks. I have stated for years that just because something is the consensus, doesn’t mean it is wrong. In this instance, it has been.

I am not telling you that there is something fundamentally incorrect with an EM heavy portfolio, hedged with NASDAQ puts. We have a couple of stress points. A 10% position in Russian two-year notes has produced losses we hadn’t expected, and our short GBP v long EM carry currencies has not gone to plan. That said, overall, I am very happy with how our portfolio is positioned. What we are witnessing is a classic short squeeze by markets that are struggling with conviction regarding a longer term thematic. With the Trump Presidency unravelling, growth momentum, especially in Europe coming off the boil and US equity valuations concerning many, there is plenty to be structurally anxious about. I have issues near term but remain remarkably constructive about EM on a two year plus view. Current price action implies the opposite.

I get the impression that investor time frame is much shorter than it has been, and tactical trading is dominating. This means that those who have been negative and short, based on US /China trade or Facebook’s woes, need the news to continue to deteriorate. It hasn’t. Mark Zuckerberg doesn’t implode in front of the US Congress and the stock bounces 5%. President Trump’s China rhetoric eases and indices squeeze. A classic response to a market skewed short.

All this implies that new negative headlines will be punished. I could regret this statement but bad news regarding President Trump and Special Counsel Robert Mueller will affect markets in the next few weeks. Let me be clear. The President’s personal lawyer is under FBI investigation and incriminating headlines regarding the President are likely. With markets trading very tactically, this should lead to renewed selling pressure. Coalition action in Syria may allow President Trump to look “Presidential” but Russian tensions are growing. This is not a constructive environment for global risk. What chance of an EM hiccup? Limited, but I must concede I am concerned about a wobble over the next couple of months. Asia is the safe-haven. Yields will not rise in this environment.

Does it change anything structurally? No, and that is why long emerging market assets with US hedges remains the smartest strategy. On Monday we will roll our QQQ and EEM puts from April to May and sell a 105% call against 40% of the portfolio. This is the same hedging strategy we have implemented since the start of the year. The GBP continues to be a drag on the portfolio and it is time to respond. EURGBP is breaking down and it is time to concede I am structurally wrong. Brexit talks start again this week and while it is very difficult for me to see how anything positive comes out of this, the market tells you that they don’t care. We will cover our long held, short EURGBP position on Monday.

The Bank of Canada meets this week. On Monday, US Retail Sales. Tuesday sees Chinese GDP, German ZEW, Japanese Industrial Production, and UK unemployment. On Wednesday, the EU and UK print CPI and PPI. Australian unemployment on Thursday as well as South Korean PPI. On Friday, Germany PPI, Japan and Canada publish CPI, and Japan further releases Tertiary Industry Index.

Paul Krake

Founder, View from the Peak

IND-X Advisors Limited

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