HomeSolutionsInsightsNewsroomPeopleContactLogin

Acclaimed macro analytics
Portfolio Construction & Risk Management
Trading Solutions
Macro Models
Thematic equity baskets

Announcements
Press
Blog

The collapse in bond yields since March has been well documented. But, as the chart below shows, the move in 10y real rates is starting to look significant. European real yields in particular are now 3 standard deviations below trend – a level only seen on a handful of occasions over the last 10 years plus.

The signal from the bond market would appear to be that inflation is indeed transitory & growth concerns are escalating. What are the implications?

Real rates do not look attractive from a long term valuation perspective. They have seen significant inflows of late but TIPS & BUNDei’s especially are not necessarily the best inflation hedges right here, right now.

Real yield differentials are the key driver of EURUSD & the move above helps explain the downward pressure on the Euro over May-July. Euro bears need to be on alert for any potential mean reversion.

Screening European equities for sensitivity to EUR real rates reveals it only a modest driver at both the index & sector level. At the margin, peripheral rather than core indices are the most sensitive; while Travel & Leisure plus Banks are the sectors that want real rates higher.

FX markets will be a popular way to play this & interest rate differentials could emerge as a key driver of currencies. Except rate differentials aren’t always the primary driver of FX. The first step is to quantify where & when they are the dominant engine for FX markets.

Qi’s G10 fx models include rate differentials at three points along the yield curve. 1y1y & 2y2y differentials are pure plays on relative Central Bank rate expectations.

The third is the 5y5y cross market spread. This captures market perceptions of the terminal rate in each country.

In the chart, red (faded) dots capture models that are in (outside) a macro regime. The y-axis shows where the interest rate differential bucket ranks as a driver versus the other variables in the model’s factor set.

If a model is in regime & rate differentials are the number one driver, that FX cross represents an efficient trading expression for any views on the respective Central Banks’ policy stance.

A simple blanket approach does not work. The RBNZ is perceived as hawkish but while NZDJPY & NZDCHF are sensitive to rate differentials, NZDUSD & NZDCAD are not in regime.

Neither is USDCAD. EURUSD is all about real yields not nominal rate differentials. Respective yield curve shape is more important than rate differentials for USDJPY.

Having identified where rates matter, tomorrow we will add a valuation overlay into the mix.

The Qi framework help investors maintain a real-time objective picture of Beijing’s tech crackdown. Optimise Trade Selection allows users to run empirical stress tests. So, for example, if you think a Yuan devaluation is a potential risk scenario, managers can screen their asset class for sensitivity to USDCNH.

Watchlists are useful ways to monitor how different asset classes are faring under the enhanced regulatory regime in China. This “China Multi-Asset” watchlist is now available to all Qi subscribers. Thus far it is worth noting:

The models shown below are not exhaustive but includes a number of this week’s benchmark releases across big tech & cyclicals. The chart shows which are in macro regimes versus those that are driven by idiosyncratic risks. And, for the former, whether they are rich or cheap relative to their macro environment.

In terms of macro’s importance there is a clear skew: most tech stocks lie to the left of the 65% model confidence threshold. Company fundamentals matter more than macro currently. Most of the stocks in macro regimes are industrial names.

In valuation terms perhaps the most striking feature is how close to fair model value most stocks are. Caterpillar is amongst the cheapest but the FVG is only 0.25 sigma, 3.2% below model. Its regime is mixed but the manufacturer is especially reliant on a steeper yield curve.

Boeing is also modestly cheap but this time tight credit spreads, rising crude oil prices & rising US real rates are more important for bulls.

General Dynamics is the richest of those models in regime. At 0.5 sigma, 4.5% the FVG is near 3month highs. Sensitivity to Fed QE is high suggesting it’s a stock that needs to watch event risk like this week’s FOMC & next month’s Jackson Hole.

Users can now interact with RETINA™ and fire requests to the trade bot @qi-trade-bot asking for an updated trend / momentum chart, or the latest valuation picture. Simply ask the bot to “plot momentum” or “plot valuation” for an automatically generated updated chart.

Plot Momentum

Now, for the first time since October 2020, Qi’s Cross Asset Absorption Ratio shows a sharp rise from a very low level. That suggests financial markets are becoming less diverse – across asset classes & across geographies, markets are being driven by a single factor (probably global Central Bank policy stimulus). Such concentration risk often provides an early warning of a ‘risk off’ event.

Qi’s Vol Indicator, another measure that looks at macro’s ability to explain the variance of equity, bond & FX markets, is also rising. Again, when macro fundamentals can’t explain the price action of global capital markets, the risk is markets are at the mercy of more volatile drivers such as positioning & sentiment.

The Vol Indicator is not yet at levels that have historically been consistent with significant VIX spikes, but it is moving towards that territory. Moreover, when combined with the other two signals, there are sufficient alarm bells ringing. There are building signs that risky assets could face turbulence ahead.