OVERNIGHT NEWS
# Dollar bid on modest risk off, China CSI-300 leads Asian indices lower, metals retreat, UST 10y testing 1.55%
# Day ahead: German ZEW, US NFIB small biz optimism, Romania and South Africa 1Q GDP, supply from Germany, UK and US
# Germany April industrial production -1.0% m/m (+26.4% yoy), below forecast and third decline in four months
# UK plans to delay 21 June lockdown lifting by between two weeks and one month over transmission of new Covid variants
# Nikkei -0.2%, EUR 10y IRS -1bp at 0.113%, Brent crude -0.7% to $71/b, Gold +0.1% at $1,896/oz
Industrial output in Germany contracted again in April
We see consistent signals across our models that suggest to increase USD allocation as: 1) FX sentiment has deteriorated; 2) The PMI strategy has increased long USD positions; and 3) EMFX Centrality has increased past the model’s threshold and suggests caution. TWD, COP and IDR are preferred underweights.
EMFX allocation decreased as FX sentiment deteriorated: Our directional portfolio decreased its EM allocation by 6% and against a sharper decrease in DMFX (-15%) on the back of FX sentiment deteriorating substantially over the past week. This comes after four weeks of consecutive improvement and leaves the portfolio mildly short (-24%) – Exhibit 1.
The divergence between EM and DM change in allocation is mostly explained by equity-driven momentum in EMFX, which compensated part of the decline coming from the sentiment strategy. The overall USD allocation (EMFX+DMFX) increased to -34%. TWD, COP and IDR are preferred underweights (Exhibit 3).
PMI portfolio continues to suggest strong USD momentum: The latest string of PMIs suggests that the US economy continues leading the vast majority of the EM and DM countries from a cyclical perspective, a signal that historically has supported USD, especially with high inflation largely priced in. The divergence between EM and DM remains high, with EM clearly lagging.
CNY second most expensive currency, still far from stretched: Our idiosyncratic risk premium model suggests that CNY outperformance, while second largest (Exhibit 10), is far from the levels reached in December, when our model flagged a potential inflection point. CNY has only outperformed by around 6% (Exhibit 3), compared to 10% in late 2020. While by design this is a moving target, current prices suggest that 6.25 is the new 6.40 based on our value proxy. Nonetheless, this has prompted our cross-sectional model to decrease CNY allocation to marginally underweight (Exhibit 6).
Notes: The “buy” and “sell” signals are purely rule-based trading strategies and only serve as an input in our decision-making framework. The performance data provided in this document is a hypothetical illustration of mathematical principles; it does not predict or project the performance of an investment or investment strategy. Past performance is no guarantee of future results.
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