BCA Indicators/Model
Weekly Performance Update For the week ending Thu Sep 30, 2021 The Market Monitor displays the trailing 1-quarter performance of strategies based around the BCA Score. For each region, we construct an equal-weighted, monthly rebalanced portfolio consisting of the top 3 stocks per sector and compare it with the regional benchmark. For each portfolio, we show the weekly performance of individual holdings in the Top Contributors/Detractors table. In addition, the Top Prospects table shows the holdings that currently have the highest BCA Score within the portfolio. For more details, click the region headers below to be redirected to the full historical backtest for the strategy. BCA US Portfolio Total Weekly Return BCA US Portfolio S&P500 TRI -1.89% -3.15% Top Contributors EOG:US NFG:US CBRE:US CQP:US ESGR:US Weekly Return 15 bps 10 bps 4 bps 3 bps 3 bps Top Detractors MRNA:US GOLF:US IT:US TGT:US GOOG.L:US Weekly Return -53 bps -23 bps -20 bps -17 bps -16 bps Top Prospects ANAT:US ESGR:US TX:US GOOG.L:US WAT:US BCA Score 94.97% 94.96% 94.82% 94.25% 93.48% BCA Canada Portfolio Total Weekly Return BCA Canada Portfolio S&P/TSX TRI -1.35% -1.80% Top Contributors PXT:CA IMO:CA TOU:CA WN:CA L:CA Weekly Return 24 bps 22 bps 20 bps 10 bps 6 bps Top Detractors GIB.A:CA NVEI:CA CSU:CA CRON:CA TOY:CA Weekly Return -23 bps -22 bps -17 bps -17 bps -15 bps Top Prospects ELF:CA LNF:CA CS:CA RUS:CA IGM:CA BCA Score 98.19% 95.55% 95.03% 94.95% 94.00% BCA UK Portfolio Total Weekly Return BCA UK Portfolio FTSE 100 TRI -2.22% 0.20% Top Contributors GLTR:GB TEP:GB ROSN:GB CNE:GB NVTK:GB Weekly Return 19 bps 15 bps 15 bps 14 bps 5 bps Top Detractors MXCT:GB BBOX:GB SGRO:GB KLR:GB TRMR:GB Weekly Return -40 bps -24 bps -23 bps -21 bps -17 bps Top Prospects VVO:GB AGRO:GB SVST:GB BPCR:GB N91:GB BCA Score 99.60% 99.07% 98.78% 97.49% 97.49% BCA Eurozone Portfolio Total Weekly Return BCA EMU Portfolio MSCI EMU TRI -2.61% -3.15% Top Contributors RDSA:NL EDNR:IT MVV1:DE BFF:IT FLUX:BE Weekly Return 26 bps 14 bps 13 bps 8 bps 2 bps Top Detractors HLAG:DE MELE:BE IPS:FR BSL:DE ALTA:FR Weekly Return -71 bps -26 bps -25 bps -24 bps -23 bps Top Prospects 094124453:BE FSKRS:FI SOL:IT STR:AT HLAG:DE BCA Score 99.87% 99.77% 99.75% 99.22% 98.95% BCA Japan Portfolio Total Weekly Return BCA Japan Portfolio TOPIX TRI -0.41% 0.12% Top Contributors 5021:JP 8334:JP 9436:JP 9543:JP 3468:JP Weekly Return 20 bps 14 bps 14 bps 12 bps 9 bps Top Detractors 6960:JP 4928:JP 3132:JP 4544:JP 4966:JP Weekly Return -22 bps -21 bps -11 bps -9 bps -8 bps Top Prospects 6960:JP 9882:JP 9728:JP 4928:JP 9436:JP BCA Score 99.93% 99.66% 99.51% 99.28% 99.05% BCA Hong Kong Portfolio Total Weekly Return BCA Hong Kong Portfolio Hang Seng TRI -0.70% 0.32% Top Contributors 2686:HK 1735:HK 182:HK 1277:HK 6118:HK Weekly Return 105 bps 80 bps 62 bps 22 bps 10 bps Top Detractors 1967:HK 710:HK 316:HK 323:HK 329:HK Weekly Return -102 bps -63 bps -39 bps -32 bps -24 bps Top Prospects 1277:HK 746:HK 857:HK 323:HK 3306:HK BCA Score 100.00% 99.80% 98.86% 98.38% 98.07% BCA Australia Portfolio Total Weekly Return BCA Australia Portfolio S&P/ASX All Ord. TRI 0.31% -0.65% Top Contributors MMS:AU YAL:AU SGF:AU GRR:AU SXY:AU Weekly Return 35 bps 21 bps 16 bps 15 bps 15 bps Top Detractors UWL:AU AVN:AU AST:AU AGL:AU BXB:AU Weekly Return -27 bps -10 bps -9 bps -9 bps -8 bps Top Prospects MHJ:AU ZIM:AU AVN:AU ADI:AU PL8:AU BCA Score 99.44% 99.21% 98.90% 98.75% 98.71%
The BCA Score factor model, the quantitative pillar of the Equity Analyzer platform, is built around a core of factors that aim to optimize risk-adjusted returns in systematically rebalanced portfolios. In particular, the low volatility and low beta factors, which tend to reduce the aggregate standard deviation of portfolios, are crucial for lowering the denominator (and thus boosting the value) of our primary risk-adjusted measure, the Sharpe ratio. However, during strong equity bull markets, a low volatility tilt can come at the expense of excess returns relative to benchmark, especially in a large cap stock universe. In this insight, we explore how a straightforward use of the Beta factor scores can improve the performance of BCA score strategies during these phases. Understanding Sharpe Although convenient, the simple Sharpe ratio represents only one type of utility function for investors. While it does simultaneously measure historical reward versus risk in a single metric, it does not necessarily differentiate between a safe, defensive portfolio and a riskier, high-beta portfolio. Consequently, a low-risk strategy with a Sharpe ratio greater than or equal to that of a benchmark index can still be subject to periods of negative excess returns, especially during equity bull markets. With regards to the BCA Score model, we have found that this can be an issue within the global large-cap universe (top 25% by market cap.), where the BCA Score factor return premium is lower compared with the small and mid-cap segments.1 In this size segment, portfolios constructed around the BCA Score tend to have excellent downside protection relative to cap-weighted market indices, but struggle when markets heat up. This is reflected by a few key portfolio statistics that typically arise during large-cap backtesting, namely, a strong Sharpe ratio, low beta (less than 1.0), but an upside benchmark capture ratio below 50%.2 To improve this situation, we can target the Beta factor itself when setting up our backtest parameters. Targeting The Beta Score Mathematically speaking, if we can raise the aggregate beta of our portfolio relative to benchmark, we should be able to improve the upside performance of the portfolio (though likely at the expense of some downside protection). Fortunately, since BCA Score strategies already excel when the benchmark is struggling, we can sacrifice some of this downside protection by selecting stocks with more exposure to the broad market. Since the Beta factor ranks a stock’s sensitivity to our global cap-weighted market index, it’s an obvious target for raising the aggregate beta of any strategy relative to a cap-weighted benchmark. Recall that within the BCA Score ranking system, lower beta stocks are assigned a higher score. Therefore, if we filter out stocks scoring highly on beta as part of our stock selection process, we can increase our overall exposure to the broad market. As further empirical evidence that targeting the Beta factor could be beneficial for large firms, we observed that post GFC (2009-03-31 to present), the top decile of low beta stocks underperformed the MSCI World Index on average (Chart 1). This is characteristic of a prolonged bull market where the downside protection offered by Beta does not come into play as frequently. Despite this, over the same period the Sharpe ratio of the Beta top decile surpassed that of the MSCI World index due to a constant and steady growth (Chart 2). Chart 1Beta Across Cycles Chart 2Recent Beta Performance Implementing Higher Beta Portfolios As mentioned above, our goal is to increase the aggregate beta of our BCA Score strategies to capture more upside in the broad market. To achieve this when backtesting EA strategies, we can add a Beta score entry filter in “Step 3 – Selection Strategy” of a backtest configuration (Figure 1). The filter shown in Figure 1 will ensure that stocks in the top 30% by Beta score (ranked globally) will not enter the portfolio. Figure 1Beta Score Filtering To test the effectiveness of this filter, we created a sample large-cap strategy using the EA Backtest module, and swept through different values of the Beta entry condition ranging from 50% to 100%. The base strategy is equal-weighted, rebalanced monthly, and selects the top 100 by BCA Score from a universe of the top 500 global stocks by market cap. The portfolio aims to be representative of a general strategy that picks a subset of the top ranking stocks from a pool of large-cap firms. The key statistics from the portfolio simulations are presented in Table 1. We can interpret the results as follows: Adding a Beta score entry filter with decreasing threshold increases the aggregate beta of the portfolio relative to benchmark. Higher beta portfolios have lower Sharpe ratios but more consistent outperformance when the benchmark is up (Upside Capture). Lower beta portfolios have higher Sharpe ratios but more consistent outperformance when the benchmark is down (Downside Capture). The cumulative performance (CAGR) of the base portfolio (without beta restrictions) is still highest over the entire sample, however, high beta portfolios have had stronger returns during the latest market cycle. Table 1Beta Breakdown* Overall, we can conclude that allowing for higher beta stocks to enter the portfolio has been beneficial for large-cap portfolios over the last ten years. Investors in this space who wish to achieve better tracking relative to cap-weighted indices may consider tilting their portfolios in this direction using a Beta filter when screening or building strategies. In support of this, BCA Research’s 12-month outlook on equity markets is bullish as monetary policy remains easy, lockdowns continue to ease, and inflation shows signs of cresting. On the other hand, we caution that straying too far from the defensive nature of the model increases the risk of heavy drawdowns during market corrections. Current risks to the equity market include stretched valuations in the S&P500, the collapse of Evergrande in China, and the risk that inflation does not subside as expected. Considering these two sides, it is therefore sensible to take a middle-of-the-road approach when using Beta to take on more market exposure in a screen or stock strategy. Footnotes 1 The effect of company size on factor returns is demonstrated in Chart 1 of the Documentation section: https://ea.bcaresearch.com/#/docs/performance 2 The benchmark capture ratios can be accessed via the “Performance” tab when viewing backtest results.
Weekly Performance Update For the week ending Thu Sep 16, 2021 The Market Monitor displays the trailing 1-quarter performance of strategies based around the BCA Score. For each region, we construct an equal-weighted, monthly rebalanced portfolio consisting of the top 3 stocks per sector and compare it with the regional benchmark. For each portfolio, we show the weekly performance of individual holdings in the Top Contributors/Detractors table. In addition, the Top Prospects table shows the holdings that currently have the highest BCA Score within the portfolio. For more details, click the region headers below to be redirected to the full historical backtest for the strategy. BCA US Portfolio Total Weekly Return BCA US Portfolio S&P500 TRI -0.24% -0.40% Top Contributors AN:US EOG:US GOLF:US KOF:US SAFM:US Weekly Return 34 bps 30 bps 8 bps 5 bps 2 bps Top Detractors CQP:US MRNA:US UGI:US PFE:US DUK:US Weekly Return -14 bps -11 bps -11 bps -10 bps -9 bps Top Prospects BRK.A:US SC:US MPLX:US ESGR:US PFE:US BCA Score 96.34% 95.76% 95.14% 94.82% 94.64% BCA Canada Portfolio Total Weekly Return BCA Canada Portfolio S&P/TSX TRI 0.02% -0.43% Top Contributors TOU:CA PXT:CA AND:CA ECN:CA IMO:CA Weekly Return 45 bps 21 bps 20 bps 15 bps 13 bps Top Detractors CFP:CA CRON:CA LNR:CA TOY:CA L:CA Weekly Return -24 bps -13 bps -12 bps -12 bps -12 bps Top Prospects LNF:CA ELF:CA WIR.UN:CA CFP:CA RUS:CA BCA Score 97.84% 96.35% 96.27% 95.53% 94.44% BCA UK Portfolio Total Weekly Return BCA UK Portfolio FTSE 100 TRI -1.75% 0.05% Top Contributors ROSN:GB EMIS:GB IMB:GB SVT:GB KLR:GB Weekly Return 18 bps 15 bps 5 bps 4 bps 4 bps Top Detractors MXCT:GB FXPO:GB CNE:GB TRMR:GB AAL:GB Weekly Return -48 bps -37 bps -27 bps -22 bps -21 bps Top Prospects SVST:GB GLTR:GB BPCR:GB FDM:GB VVO:GB BCA Score 99.58% 98.43% 98.11% 97.85% 97.70% BCA Eurozone Portfolio Total Weekly Return BCA EMU Portfolio MSCI EMU TRI -0.84% -0.39% Top Contributors HLAG:DE OMV:AT RDSA:NL MELE:BE IRE:IT Weekly Return 32 bps 18 bps 11 bps 10 bps 2 bps Top Detractors TTALO:FI BSL:DE CDI:FR TL5:ES FSKRS:FI Weekly Return -33 bps -20 bps -18 bps -13 bps -13 bps Top Prospects FSKRS:FI STR:AT LOG:ES BFF:IT EDNR:IT BCA Score 99.53% 99.47% 98.58% 96.15% 96.08% BCA Japan Portfolio Total Weekly Return BCA Japan Portfolio TOPIX TRI 0.33% 1.23% Top Contributors 5021:JP 4966:JP 5020:JP 8334:JP 3132:JP Weekly Return 16 bps 15 bps 11 bps 11 bps 11 bps Top Detractors 7244:JP 3290:JP 4326:JP 8117:JP 9543:JP Weekly Return -26 bps -13 bps -11 bps -9 bps -8 bps Top Prospects 6960:JP 9882:JP 9436:JP 4544:JP 2208:JP BCA Score 99.93% 99.33% 99.11% 98.49% 98.22% BCA Hong Kong Portfolio Total Weekly Return BCA Hong Kong Portfolio Hang Seng TRI -3.36% -4.01% Top Contributors 857:HK 1735:HK 2686:HK 6118:HK 506:HK Weekly Return 42 bps 21 bps 14 bps 8 bps 5 bps Top Detractors 710:HK 836:HK 991:HK 1277:HK 323:HK Weekly Return -80 bps -37 bps -34 bps -32 bps -23 bps Top Prospects 1277:HK 98:HK 316:HK 6868:HK 323:HK BCA Score 100.00% 99.50% 98.59% 98.35% 98.31% BCA Australia Portfolio Total Weekly Return BCA Australia Portfolio S&P/ASX All Ord. TRI 1.24% 1.36% Top Contributors YAL:AU BFG:AU MMS:AU SXY:AU SGF:AU Weekly Return 32 bps 27 bps 25 bps 16 bps 15 bps Top Detractors BXB:AU SDG:AU AGL:AU SGLLV:AU CDA:AU Weekly Return -27 bps -17 bps -11 bps -10 bps -7 bps Top Prospects SDG:AU GRR:AU PIC:AU PL8:AU RIC:AU BCA Score 99.91% 99.55% 99.38% 98.89% 98.59%
Highlights The odds of a stronger recovery in EM oil demand next year are rising, as vaccines using mRNA technology are manufactured locally and become widely available.1 This will reduce local lock-down risks in economies relying on less efficacious COVID-19 vaccines – or lacking them altogether – thereby increasing mobility, economic activity and oil demand. Our global crude oil balances estimates are little changed to the end of 2023, which leaves our price expectations mostly unchanged: 4Q21 Brent prices are expected to average $70.50/bbl, while 2022 and 2023 prices average $75 and $80/bbl, respectively (Chart of the Week). The balance of risks to the crude oil market remain to the upside in our estimation. In addition to a higher likelihood of better-than-expected EM demand growth, we expect OPEC 2.0 production discipline to hold, and for the price-taking cohort outside the coalition to continue prioritizing investors' interests. We remain long commodity index exposure – S&P GSCI and COMT – and, at tonight's close, will be getting long the DFA Dimensional Emerging Core Equity Market ETF (DFAE) on the back of increasing local mRNA vaccine production in EM economies. Feature As local production of COVID-19 vaccines employing mRNA technology spreads throughout EM economies, the odds of a stronger-than-expected recovery in oil demand next year will increase. The buildout of production and distribution facilities for this technology is progressing quickly in Asia – e.g., Chinese mRNA tech joint ventures are expected to be in production mode in 4Q21 – Latin America, Africa, and the Middle East.2 Accelerated availability of more efficacious vaccines globally will address the "fault lines" identified by the IMF in its July 2021 update. In that report, the Fund notes a major downside risk to its global GDP growth expectation of 6% this year remains slower-than-expected vaccine rollouts to emerging and developing economies.3 The other major risk identified by the Fund is too-rapid a winddown of policy support in DM economies, which would lead to tighter financial conditions globally. Our global demand expectation is driven by GDP estimates from the IMF and World Bank. The implication of that assumption is the powerful recovery in DM oil demand seen this year will slow while EM demand picks up next year (Chart 2). We proxy DM oil demand with OECD oil consumption and EM demand with non-OECD consumption. We continue to expect overall oil demand to recover by just over 5.0mm b/d this year and 4.4mm b/d next year (Table 1). Chart of the WeekOil Forecasts Hold Steady Chart 2Higher EM Oil Demand Expected in 2022 Table 1BCA Global Oil Supply - Demand Balances (MMb/d, Base Case Balances) To Dec23 Global Oil Supply To Remain Steady Hurricane Ida will have removed ~ 30mm barrels of US offshore oil output by the time losses are fully tallied, based on IEA estimates. Even so, in line with the US EIA, we expect offshore US oil production will recover from the damage caused by the storm in 4Q21 and be back at ~ 1.7mm b/d on average over the quarter. This will allow oil prices to ease slightly from current elevated levels over the balance of the year. Inland, US shale-oil output remains on track to average ~ 9.06mm b/d this year, 9.55mmb/d in 2022 and 9.85mmb/d in 2023, in our modeling (Chart 3). We expect production in the Lower 48 states of the US to remain mostly steady going forward. Production from finishing drilled-but-uncompleted (DUCs) shale-oil wells is the lowest it's been since 2013. Output from these wells will remain relatively low for the rest of the year. This supply was developed during the COVID-19 pandemic, as it was cheaper to bring on than new drilling. For 2022 and 2023 overall, our model points to a slow build-up in US shale-oil output as drilling increases. Going into 2022, we expect continued production discipline from OPEC 2.0, and for the coalition to continue to manage output in line with actual demand it sees from its customers. The 400k b/d being returned monthly to the market over August 2021 to mid-2022 will accommodate demand increases. However, it will be monitored closely in the event demand fails to materialize, as has been OPEC 2.0's wont over the course of the pandemic. Chart 3US Shale-Oil Output Mostly Stable Oil Markets To Remain Balanced We see markets remaining balanced to the end of 2023, with OPEC 2.0 maintaining its production-management strategy – keeping the level of supply just below the level of demand – and the price-taking cohort led by US shale-oil producers remaining focused on maintaining margins so as to provide competitive returns to investors. On the demand side, EM growth will pick up as DM growth slows. Given our fundamental view, global crude oil balances estimates are little changed to the end of 2023 (Chart 4). This allows inventories to continue to draw this year and next, then to slowly rebuild as production increases toward the end of 2023 (Chart 5). Falling inventories will keep the Brent forward curve backwardated – i.e., prompt-delivery oil will trade higher than deferred-delivery oil. Chart 4Markets Remain Balanced... Chart 5...And Oil Inventory Continues To Draw The backwardated forward curve means OPEC 2.0 producers will continue to realize higher delivered prices on their crude oil than the marginal shale-oil producer, which hedges its production 1-2 years forward to stabilize revenue. This is the primary benefit to the member states in the producer coalition: a backwardated curve pricing closer to marginal cost limits the amount of revenue available to shale-oil producers, and thus restrains output to that which is profitable at the margin. Investment Implications Our supply-demand outlook keeps our price expectations mostly unchanged from last month's forecast. We expect 4Q21 Brent prices to average $70.50/bbl, while 2022 and 2023 prices average $75 and $80/bbl, respectively, as can be seen in the Chart of the Week. WTI prices will continue to trade $2-$4/bbl below Brent over this interval. With fundamentals continuing to support a backwardated forward curve in Brent and WTI, we continue to favor long commodity-index exposure, which benefits from this structure.4 Therefore, we remain long the S&P GSCI and the COMT ETF, which is an optimized version of the GSCI that concentrates on positioning in backwardated futures contracts. The upside risk to oil prices resulting from increasing local production of mRNA vaccines in EM economies that had relied on less efficacious vaccines undoubtedly will increase mobility and raise oil demand, if, as appears likely, the impact of this localization is realized in the near term. This also could boost commodity demand generally, if it allows trade and GDP growth to accelerate in EM economies, which supports our long commodity-index view. The rollout of mRNA technology into EM economies also suggests EM GDP growth could increase at the margin with locally produced mRNA vaccines becoming more available. This would redound to the benefit of trade and economic activity generally.5 It also could help unsnarl the movement of goods globally. The wider implications of a successful expansion of locally produced mRNA vaccines leads us to recommend EM equity exposure on a tactical basis. At tonight's close, we will be getting long the DFA Dimensional Emerging Core Equity Market ETF (DFAE). As this is tactical, we will use a tight stop (10%) for this recommendation. Robert P. Ryan Chief Commodity & Energy Strategist rryan@bcaresearch.com Ashwin Shyam Research Associate Commodity & Energy Strategy ashwin.shyam@bcaresearch.com Commodities Round-Up Energy: Bullish Natural gas demand is surging globally. Record-breaking heat waves in the US are driving demand for gas-fired generation required to meet space-cooling demand. In addition, in the June-August period, the US saw record LNG exports. Europe and Asia are competing for the fuel as both prepare for winter. Brazil also has been a strong bid for LNG, as drought there has reduced hydropower supplies. In Europe, natural gas inventories were drawn hard this past winter as LNG supplies were bid away to Asia to meet space-heating demand. This is keeping Europe well bid now as winter approaches (Chart 6). The US Climate Prediction Center last week gave 70-80% odds of a second La Niña for the Northern Hemisphere winter. Should it materialize, it could again drive cold artic air into their markets, as it did last winter, and push natgas demand higher. Our recommendation to get long 1Q22 $5.00/MMBtu calls vs short 1Q22 $5.50/MMBtu calls last week was up 17% as of Tuesday's close. We remain long. Base Metals: Bullish The slide in iron ore prices from its ~ $230/MT peak earlier this year can be attributed to weak Chinese demand, and the possibility of its persistence through the winter and into next year (Chart 7). The world’s largest steel-producing nation is aiming to limit steel output to no higher than 2020 levels, in a bid to reduce industrial pollution. According to mining.com, provincial governments have directly asked local steel mills to curb output. Regulation in this sector in China will continue to reduce prices of iron ore, a key raw material in steel production. Precious Metals: Bullish The lower-than-expected reading on the US core CPI earlier this week weighed on the USD, and propelled gold prices above the $1,800/oz mark. While markets expected lower consumer prices for August to diminish the Fed’s resolve to taper asset purchases by year-end, we do not think the lower month-on-month CPI number will delay tapering. The timing of the Fed's initial rate hike – expected by markets to occur after the tapering of the central bank's asset-purchase program – will depend on the US labor force reaching "maximum employment." According to BCA Research's US Bond Strategy, this criterion will be met in late-2022 or early-2023. Low-interest rates, coupled with persistent inflation until then, will be bullish for gold prices. Chart 6 Chart 7 Footnotes 1 Please see Everest to bring Canadian biotech's potential Covid shots to China, other markets published on September 13, 2021 by indiatimes.com. 2 Examples of this include Brazil's Eurofarma to make Pfizer COVID-19 shots for Latin America, published by reuters.com; Biovac Institute to be first African company to produce mRNA vaccines, published be devex.com; and mRNA Vaccines Mark a New Era in Medicine, posted by supertrends.com. The latter report also discusses the application of mRNA technology to other diseases like malaria. 3 Please see Fault Lines Widen in the Global Recovery published 27 July 2021 by the Fund. 4 Backwardation is the source of roll yield for long-index exposure. This is due to the design of these index products, which buy forward then – in backwardated markets – roll out of futures contract as they approach physical delivery at a higher level and re-establish their exposure in a deferred contract. 5 The lower realized efficacy of Sinopharm and Sinovac COVID-19 vaccines and high reinfection rates in economies using these vaccines are one of the key risks to our overall bullish commodity view. Please see Assessing Risks To Our Commodity Views, which we published on July 8, 2021. It is available at ces.bcaresearch.com. Investment Views and Themes Recommendations Strategic Recommendations Tactical Trades Commodity Prices and Plays Reference Table Trades Closed in 2021 Summary of Closed Trades
Weekly Performance Update For the week ending Thu Sep 09, 2021 The Market Monitor displays the trailing 1-quarter performance of strategies based around the BCA Score. For each region, we construct an equal-weighted, monthly rebalanced portfolio consisting of the top 3 stocks per sector and compare it with the regional benchmark. For each portfolio, we show the weekly performance of individual holdings in the Top Contributors/Detractors table. In addition, the Top Prospects table shows the holdings that currently have the highest BCA Score within the portfolio. For more details, click the region headers below to be redirected to the full historical backtest for the strategy. BCA US Portfolio Total Weekly Return BCA US Portfolio S&P500 TRI -0.82% -0.95% Top Contributors MRNA:US ESGR:US GOLF:US IT:US CQP:US Weekly Return 43 bps 9 bps 8 bps 4 bps 2 bps Top Detractors CLH:US MMM:US SCCO:US SAFM:US UGI:US Weekly Return -14 bps -14 bps -11 bps -11 bps -10 bps Top Prospects BRK.A:US ESGR:US PFE:US TX:US SC:US BCA Score 96.87% 96.51% 96.24% 95.65% 95.55% BCA Canada Portfolio Total Weekly Return BCA Canada Portfolio S&P/TSX TRI -0.56% -0.39% Top Contributors TOU:CA ELF:CA AND:CA CFP:CA L:CA Weekly Return 23 bps 19 bps 12 bps 12 bps 6 bps Top Detractors CS:CA PXT:CA TOY:CA CRON:CA LNF:CA Weekly Return -25 bps -17 bps -16 bps -15 bps -12 bps Top Prospects RUS:CA LNF:CA WIR.UN:CA CS:CA PXT:CA BCA Score 99.13% 98.53% 96.83% 95.17% 94.04% BCA UK Portfolio Total Weekly Return BCA UK Portfolio FTSE 100 TRI -0.73% -1.93% Top Contributors NFC:GB VTC:GB AGRO:GB MXCT:GB NVTK:GB Weekly Return 18 bps 13 bps 12 bps 10 bps 9 bps Top Detractors INCH:GB CCH:GB SVST:GB GLTR:GB KETL:GB Weekly Return -19 bps -17 bps -13 bps -9 bps -9 bps Top Prospects SVST:GB BPCR:GB VVO:GB FDM:GB CKN:GB BCA Score 99.26% 97.45% 96.94% 96.41% 96.39% BCA Eurozone Portfolio Total Weekly Return BCA EMU Portfolio MSCI EMU TRI -0.08% -1.23% Top Contributors BSL:DE HLAG:DE VETO:FR ALTA:FR SOLV:BE Weekly Return 37 bps 18 bps 10 bps 8 bps 4 bps Top Detractors SON:PT TUB:BE BEKB:BE CAF:FR ALB:ES Weekly Return -12 bps -11 bps -10 bps -10 bps -9 bps Top Prospects STR:AT LOG:ES HLAG:DE IPS:FR EDNR:IT BCA Score 99.25% 98.98% 97.88% 95.40% 94.66% BCA Japan Portfolio Total Weekly Return BCA Japan Portfolio TOPIX TRI 2.19% 4.10% Top Contributors 9432:JP 4326:JP 4471:JP 7244:JP 9543:JP Weekly Return 20 bps 19 bps 15 bps 15 bps 15 bps Top Detractors 3290:JP 6960:JP 3468:JP 4966:JP 3459:JP Weekly Return -9 bps -4 bps -4 bps -3 bps -2 bps Top Prospects 6960:JP 4694:JP 9436:JP 4544:JP 9882:JP BCA Score 99.86% 99.00% 98.58% 98.48% 98.44% BCA Hong Kong Portfolio Total Weekly Return BCA Hong Kong Portfolio Hang Seng TRI 2.75% -1.33% Top Contributors 710:HK 2686:HK 6118:HK 1277:HK 836:HK Weekly Return 81 bps 70 bps 29 bps 25 bps 24 bps Top Detractors 1735:HK 2232:HK 590:HK 98:HK 182:HK Weekly Return -25 bps -16 bps -16 bps -12 bps -7 bps Top Prospects 1277:HK 98:HK 691:HK 6868:HK 435:HK BCA Score 100.00% 99.44% 99.15% 98.19% 97.91% BCA Australia Portfolio Total Weekly Return BCA Australia Portfolio S&P/ASX All Ord. TRI -1.88% -1.22% Top Contributors CAJ:AU SOL:AU BSE:AU YAL:AU AST:AU Weekly Return 26 bps 19 bps 16 bps 7 bps 6 bps Top Detractors SWM:AU OCL:AU HSN:AU SGF:AU CDA:AU Weekly Return -30 bps -28 bps -27 bps -25 bps -21 bps Top Prospects GRR:AU SDG:AU PIC:AU PL8:AU BHP:AU BCA Score 99.73% 99.69% 99.57% 99.42% 99.03%
Weekly Performance Update For the week ending Thu Sep 02, 2021 The Market Monitor displays the trailing 1-quarter performance of strategies based around the BCA Score. For each region, we construct an equal-weighted, monthly rebalanced portfolio consisting of the top 3 stocks per sector and compare it with the regional benchmark. For each portfolio, we show the weekly performance of individual holdings in the Top Contributors/Detractors table. In addition, the Top Prospects table shows the holdings that currently have the highest BCA Score within the portfolio. For more details, click the region headers below to be redirected to the full historical backtest for the strategy. BCA US Portfolio Total Weekly Return BCA US Portfolio S&P500 TRI 1.49% 1.54% Top Contributors AMN:US MPLX:US CQP:US PSA:US CBRE:US Weekly Return 21 bps 17 bps 17 bps 14 bps 14 bps Top Detractors GOLF:US ESGR:US NUE:US AN:US TGT:US Weekly Return -9 bps -8 bps -7 bps -7 bps -4 bps Top Prospects ESGR:US TX:US SC:US BRK.A:US PFE:US BCA Score 98.20% 97.97% 97.36% 96.72% 96.04% BCA Canada Portfolio Total Weekly Return BCA Canada Portfolio S&P/TSX TRI 1.76% 1.48% Top Contributors CTS:CA PXT:CA CS:CA GIB.A:CA TOU:CA Weekly Return 44 bps 41 bps 22 bps 20 bps 19 bps Top Detractors RUS:CA AND:CA TOY:CA NWC:CA WIR.UN:CA Weekly Return -17 bps -13 bps -9 bps -8 bps -4 bps Top Prospects RUS:CA WIR.UN:CA LNF:CA HCG:CA PXT:CA BCA Score 99.37% 96.68% 95.39% 94.62% 94.14% BCA UK Portfolio Total Weekly Return BCA UK Portfolio FTSE 100 TRI 3.18% 0.74% Top Contributors MXCT:GB NVTK:GB NFC:GB INDV:GB ROSN:GB Weekly Return 59 bps 36 bps 23 bps 19 bps 18 bps Top Detractors VTC:GB EMIS:GB BPCR:GB AAF:GB POLR:GB Weekly Return -10 bps -2 bps -1 bps -1 bps 1 bps Top Prospects SVST:GB CKN:GB FXPO:GB ROSN:GB VVO:GB BCA Score 99.31% 98.34% 96.50% 96.41% 96.39% BCA Eurozone Portfolio Total Weekly Return BCA EMU Portfolio MSCI EMU TRI 1.18% 1.30% Top Contributors ALTA:FR FSKRS:FI BSL:DE FDJ:FR CDI:FR Weekly Return 25 bps 21 bps 18 bps 17 bps 15 bps Top Detractors STO3:DE FLUX:BE LEG:DE TL5:ES SOLV:BE Weekly Return -23 bps -11 bps -8 bps -7 bps -6 bps Top Prospects HLAG:DE LOG:ES STR:AT ALB:ES SOLV:BE BCA Score 99.13% 98.84% 97.66% 96.37% 95.01% BCA Japan Portfolio Total Weekly Return BCA Japan Portfolio TOPIX TRI 1.22% 2.52% Top Contributors 1417:JP 8117:JP 4047:JP 9432:JP 4326:JP Weekly Return 19 bps 18 bps 15 bps 15 bps 14 bps Top Detractors 4694:JP 6960:JP 6676:JP 7994:JP 3290:JP Weekly Return -11 bps -10 bps -7 bps -6 bps -4 bps Top Prospects 6960:JP 4694:JP 4544:JP 7994:JP 6676:JP BCA Score 99.76% 98.74% 98.47% 98.44% 98.28% BCA Hong Kong Portfolio Total Weekly Return BCA Hong Kong Portfolio Hang Seng TRI 4.57% 2.78% Top Contributors 2686:HK 1967:HK 710:HK 316:HK 1277:HK Weekly Return 92 bps 75 bps 59 bps 40 bps 35 bps Top Detractors 329:HK 2232:HK 1735:HK 289:HK 98:HK Weekly Return -31 bps -17 bps -12 bps -10 bps -5 bps Top Prospects 1277:HK 98:HK 1606:HK 691:HK 323:HK BCA Score 100.00% 99.77% 98.52% 98.31% 98.01% BCA Australia Portfolio Total Weekly Return BCA Australia Portfolio S&P/ASX All Ord. TRI 0.80% 0.68% Top Contributors YAL:AU NHC:AU SWM:AU MMS:AU SDG:AU Weekly Return 34 bps 29 bps 20 bps 16 bps 16 bps Top Detractors VRT:AU GRR:AU BLX:AU AGL:AU CAJ:AU Weekly Return -21 bps -17 bps -15 bps -14 bps -11 bps Top Prospects GRR:AU PIC:AU SDG:AU PL8:AU CAJ:AU BCA Score 99.66% 99.53% 99.45% 99.11% 99.04%
Weekly Performance Update For the week ending Thu Aug 19, 2021 The Market Monitor displays the trailing 1-quarter performance of strategies based around the BCA Score. For each region, we construct an equal-weighted, monthly rebalanced portfolio consisting of the top 3 stocks per sector and compare it with the regional benchmark. For each portfolio, we show the weekly performance of individual holdings in the Top Contributors/Detractors table. In addition, the Top Prospects table shows the holdings that currently have the highest BCA Score within the portfolio. For more details, click the region headers below to be redirected to the full historical backtest for the strategy. BCA US Portfolio Total Weekly Return BCA US Portfolio S&P500 TRI -2.33% -1.20% Top Contributors IQV:US PSA:US BMY:US HSY:US JNJ:US Weekly Return 12 bps 7 bps 7 bps 6 bps 6 bps Top Detractors TX:US R:US SCCO:US EOG:US LEVI:US Weekly Return -25 bps -23 bps -23 bps -22 bps -20 bps Top Prospects TX:US MPLX:US ESGR:US SC:US IT:US BCA Score 97.96% 97.40% 96.19% 95.65% 94.49% BCA Canada Portfolio Total Weekly Return BCA Canada Portfolio S&P/TSX TRI -1.54% -1.44% Top Contributors DCBO:CA QBR.A:CA CSU:CA L:CA WIR.UN:CA Weekly Return 48 bps 9 bps 8 bps 7 bps 7 bps Top Detractors CS:CA POU:CA SPB:CA TOU:CA LNR:CA Weekly Return -40 bps -39 bps -26 bps -21 bps -20 bps Top Prospects CS:CA RUS:CA PXT:CA TOU:CA ELF:CA BCA Score 98.30% 97.75% 97.45% 96.31% 95.95% BCA UK Portfolio Total Weekly Return BCA UK Portfolio FTSE 100 TRI -0.93% -1.64% Top Contributors TUNE:GB SRE:GB EMIS:GB SSE:GB DOTD:GB Weekly Return 20 bps 13 bps 10 bps 10 bps 8 bps Top Detractors MXCT:GB RIO:GB ROSN:GB NLMK:GB SVST:GB Weekly Return -42 bps -22 bps -20 bps -15 bps -15 bps Top Prospects SVST:GB VVO:GB NLMK:GB POLR:GB RIO:GB BCA Score 99.34% 98.26% 97.83% 96.14% 96.00% BCA Eurozone Portfolio Total Weekly Return BCA EMU Portfolio MSCI EMU TRI -0.88% -2.09% Top Contributors ROVI:ES VGP:BE ERF:FR JMT:PT ARTO:FR Weekly Return 20 bps 14 bps 13 bps 9 bps 8 bps Top Detractors HLAG:DE SOLV:BE CEM:IT TRI:FR OMV:AT Weekly Return -26 bps -17 bps -17 bps -16 bps -16 bps Top Prospects STR:AT FDJ:FR IPS:FR HLAG:DE SOLV:BE BCA Score 98.77% 98.19% 97.09% 97.02% 96.69% BCA Japan Portfolio Total Weekly Return BCA Japan Portfolio TOPIX TRI -2.15% -2.88% Top Contributors 6960:JP 7164:JP 1835:JP 8977:JP 2296:JP Weekly Return 13 bps 11 bps 7 bps 5 bps 4 bps Top Detractors 5021:JP 3132:JP 7958:JP 8097:JP 3291:JP Weekly Return -49 bps -29 bps -19 bps -18 bps -17 bps Top Prospects 6960:JP 5930:JP 9436:JP 2208:JP 4966:JP BCA Score 99.80% 99.49% 99.45% 99.33% 99.16% BCA Hong Kong Portfolio Total Weekly Return BCA Hong Kong Portfolio Hang Seng TRI -0.35% -4.43% Top Contributors 6118:HK 1866:HK 1277:HK 1083:HK 2232:HK Weekly Return 38 bps 35 bps 30 bps 13 bps 8 bps Top Detractors 857:HK 1432:HK 2877:HK 3799:HK 148:HK Weekly Return -31 bps -19 bps -19 bps -15 bps -14 bps Top Prospects 1277:HK 691:HK 435:HK 98:HK 1866:HK BCA Score 99.99% 98.59% 97.43% 96.92% 95.63% BCA Australia Portfolio Total Weekly Return BCA Australia Portfolio S&P/ASX All Ord. TRI -0.69% -1.36% Top Contributors OCL:AU BLX:AU AVN:AU ARF:AU REA:AU Weekly Return 35 bps 31 bps 15 bps 14 bps 10 bps Top Detractors AX1:AU MGX:AU GRR:AU NHC:AU BFG:AU Weekly Return -44 bps -23 bps -23 bps -19 bps -17 bps Top Prospects MGX:AU GRR:AU BFG:AU PIC:AU ARF:AU BCA Score 99.78% 99.58% 97.31% 96.83% 95.75%
Dear client, FX will be taking a summer break next week. We will resume our regular publication the subsequent week. Kind regards, Chester Ntonifor, Vice President Foreign Exchange Strategy Highlights Our broad finding is that buying a currency when it is cheap and selling it when it is expensive generates excess returns over time. Even if you rebalance monthly, a 5% valuation gap is sufficient to allow outperformance both tactically and cyclically. We investigated this rule with our in-house PPP models, and as we argue in this report, it certainly holds true for our intermediate-term timing models (ITTM). That said, there is no silver bullet for all currencies: some mean-revert to their PPP fair value much faster than to other fundamental fair values, like our ITTM. The recommendations today are a barbell strategy: to be long procyclical currencies (especially the NOK and the Japanese yen). Feature Chart I-1The ITTM Model Works With A Trading Rule In April 2020 last year, we decided to simplify our FX framework into a trading model. The idea was to see whether the pillars of our framework were sitting on solid bedrock. These three pillars were the macroeconomic environment (rising or falling interest rates), valuation, and sentiment. Once armed with the conclusion that these pillars were indeed robust, we have been constantly evaluating ways to make them more deterministic. Back then, we used purchasing power parity (PPP) as our valuation tool of choice, but we had to overhaul the model from industry standards, to allow for positive results using a trading rule. And like most models, performance was not uniform across currencies. This week, we are both updating and testing our intermediate-term timing models (ITTM), another valuation tool we use for currencies. The models use two key variables, real interest rate differentials and a risk factor, to determine when a currency should mean-revert. The trading results add value over time, but two important conclusions arise from this work (Chart I-1): Valuation can indeed be used as timing tool for currencies. Even if you rebalance monthly, a 5% valuation gap is sufficient to allow for outperformance. Even a 1% valuation gap can add value both tactically and cyclically, used in conjunction with a momentum rule. Chart I-2Model Versus Qualitative Trades Combining a few models together does indeed increase the Sharpe ratio. Since the 2000s, both valuation models have outperformed a buy-and-hold currency strategy with much lower volatility. There are three important considerations. First, the trading rules are generated monthly, which might be too frequent for certain investors. Second, we do not include carry considerations, which might be negligible near term, but will matter over time. Finally, the model does not account for sizing. We intend to incorporate these in future iterations. The ITTM (and PPP) models have variables that are highly statistically significant and of the expected signs. These models thus confirm that paying attention to valuation can help investors with currency strategy both in the short term and in the longer term. These models are especially useful as timing indicators on a three-to-nine month basis, as their error terms revert to zero quickly. Finally, what these models help us do in our role as strategists is stop for a sanity check. As such, since we rolled out our initial model, we have tracked the returns relative to our more qualitative recommendations (Chart I-2) and a simple long DXY strategy. The US Dollar According to our ITTM model, the dollar is overvalued by 4.3%, or less than 1 standard deviation from its fair value. Our ITTM valuation tool has in general performed worse than our PPP models, but has also provided much lower volatility (Chart I-3). Chart I-3USD Is Overvalued By 4.3% The key driver in this model is real interest rates, and this week’s CPI release suggests that inflation could continue to remain much higher in the US relative to other countries. Headline CPI remained very strong at 5.4% in July, while the core measure came in at 4.3%, bigger numbers than most G10 countries. Unless the Federal Reserve increases interest rates sometime soon, this will keep real rates very depressed in the US. As such, the model recommends that investors short the dollar, once the near-term uptrend in the DXY reverses, which we believe will occur closer to the 94 level. The Euro The ITTM model has worked relatively well for the euro, even more so than for the US dollar. With the euro about 6.7% cheaper versus the dollar, a buy signal is awaiting a bottom in EUR/USD over a month or two (Chart I-4). It is especially impressive that the ITTM approach has delivered similar results to PPP, but with less volatility. Chart I-4EUR/USD Is Undervalued By 6.7% Both the Sentix investor confidence index and the ZEW economic sentiment index rolled over significantly in August. This suggests it might be better to wait before bottom fishing the euro. Structurally, however, we continue to favor the euro as the risk of a breakup, specifically emanating from the southern periphery, remains muted for now. The Yen The yen is about 4.9% cheaper versus the dollar, according to this model. The ITTM model has been somewhat successful in trading the yen, with very few drawdown periods (Chart I-5). This is important as the yen has been a difficult currency to model, based on the 3-factor approach we described at the beginning of this report. Chart I-5USD/JPY Is Overvalued By 4.9% One guess is that yen spends most of the time in the “belly” of most indicators, and so timing extremely potent turns in the currency are rare. Another guess is that the yen’s safe-haven nature probably reduces its correlation with the independent variables in the model. It is important to note that during normal environments (falling corporate spreads, and rising commodity prices), the yen tends to be negatively correlated to the dollar (like other currencies). During risk-off periods, the yen tends to become positively correlated to the dollar (unlike other currencies). This makes the yen a perfect hedge for a currency portfolio and underpins our current long position. The British Pound Cable is undervalued by around 5.1%. The ITTM model has worked well for the pound especially since the cable spot has been essentially flat for two decades (Chart I-6). Chart I-6GBP/USD Is Undervalued By 5.1% Going forward, the model should continue to favor the pound. This week’s GDP release for the UK was very positive. In fact, UK real GDP has been outperforming both the US and the euro area in Q2. This will allow real interest rates to rise in the UK, as the BoE embarks on a normalization plan. Given valuation has been important for gauging shifts in the pound, the falling productivity in the UK (which could lead to structural inflation and lower real rates) would be a worry over the longer term. The Canadian Dollar The Canadian dollar is undervalued by about 3.3% (Chart I-7). The model has generated poor returns in CAD, but with lower volatility. However, the PPP model has successfully added value over time, highlighting the benefit of a balanced approach. Chart I-7USD/CAD Is Overvalued By 3.3% The CAD might be caught in a tug of war between improving real rates, and a drop in commodity prices in the near term. Meanwhile, recent economic data have been below expectations. Employment in July came in at 94K, below expectations of a 176K increase. The PMIs in Canada are also rolling over. As such, the model is correct in being more cautious on CAD. The Swiss Franc The ITTM model suggests the franc is undervalued by 3.6%. But unlike for the JPY, the ITTM has a more mundane track record for the CHF (Chart I-8). In general, the franc has been a more difficult currency to model, with our PPP model just barely matching the structural increase in the franc since 2002. Chart I-8USD/CHF Is Overvalued By 3.6% Structural improvement in the franc is likely to continue, as any inflation in Switzerland will be much muted, compared to the US. The Australian Dollar The Aussie is undervalued by 9% versus the dollar. The ITTM model has an excellent record of adding value, compared to our PPP model (Chart I-9). This is particularly the case in avoiding losses, with very little drawdowns. This increases our confidence in listening to this model when making calls on AUD/USD. Chart I-9AUD/USD Is Undervalued By 9% The Australian economy has been under strain lately and is like to continue in a stop-and-go fashion until the population gets vaccinated. That said, the Aussie is cheap, even versus the kiwi and we are long AUD/NZD as a hedged trade. The New Zealand Dollar The kiwi is undervalued by 5.6% but unlike the Aussie, our ITTM model has had a poor track record of adding value, compared to the PPP models (Chart I-10). That gives us more confidence in our long AUD/NZD position. Chart I-10NZD/USD Is Undervalued By 5.6% The New Zealand economy is certainly benefitting from having put COVID-19 mostly behind it. However, the bottlenecks in the economy, especially on the labor front, are becoming acute as migrant labor is nonexistent. Meanwhile, the RBNZ is intent on raising rates. The combination will boost real rates but nudge the economy closer to vulnerability. For now, the kiwi remains insulated, as rising real rates will lift its fair value. The Norwegian Krone Our ITTM model for the Norwegian krone shows it as squarely undervalued (by 9.8%), but also has a poor record of adding value. Since 2002, the model has been roughly in line with a flat krone (Chart I-11). Chart I-11USD/NOK Is Overvalued By 9.8% Our bias is that the krone could see another mini cycle upwards. First, the Norges bank will raise rates sooner than many central banks, especially with inflation near 3%. This will begin to lift Norwegian real rates. Second, if oil prices stay well bid, as our commodity strategists expect, this will put a floor under Norwegian exports and the krone. The Swedish Krona Like its Scandinavian counterpart, the Swedish krona is also quite cheap (by 10.2%) and is one of our favorite longs (Chart I-12). Our ITTM model however has not markedly outperformed over time. Chart I-12USD/SEK Is Overvalued By 10.2% Swedish industrial orders and industrial production continue to boom, according to data this week, with growth admittedly slowing from high levels. If the CPI data coming out shortly surprises to the upside, that could mark the beginning of SEK’s outperformance. We are long the SEK both against the EUR and USD. Chester Ntonifor Foreign Exchange Strategist chestern@bcaresearch.com Trades & Forecasts Forecast Summary Core Portfolio Tactical Trades Limit Orders Closed Trades
Weekly Performance Update For the week ending Thu Aug 12, 2021 The Market Monitor displays the trailing 1-quarter performance of strategies based around the BCA Score. For each region, we construct an equal-weighted, monthly rebalanced portfolio consisting of the top 3 stocks per sector and compare it with the regional benchmark. For each portfolio, we show the weekly performance of individual holdings in the Top Contributors/Detractors table. In addition, the Top Prospects table shows the holdings that currently have the highest BCA Score within the portfolio. For more details, click the region headers below to be redirected to the full historical backtest for the strategy. BCA US Portfolio Total Weekly Return BCA US Portfolio S&P500 TRI 1.92% 0.77% Top Contributors ANAT:US TX:US COKE:US MPLX:US R:US Weekly Return 43 bps 32 bps 16 bps 13 bps 11 bps Top Detractors MAA:US BMY:US EOG:US IQV:US EXR:US Weekly Return -8 bps -7 bps -4 bps -3 bps -2 bps Top Prospects TX:US ESGR:US SC:US IT:US MPLX:US BCA Score 97.76% 97.12% 96.66% 93.62% 93.56% BCA Canada Portfolio Total Weekly Return BCA Canada Portfolio S&P/TSX TRI 1.45% 0.77% Top Contributors WIR.UN:CA ATZ:CA WSP:CA LNF:CA WFG:CA Weekly Return 49 bps 30 bps 21 bps 13 bps 13 bps Top Detractors CRON:CA DCBO:CA TOU:CA ONEX:CA EMP.A:CA Weekly Return -32 bps -10 bps -6 bps -5 bps -4 bps Top Prospects RUS:CA PXT:CA TOU:CA CS:CA ELF:CA BCA Score 97.10% 96.65% 95.68% 95.64% 95.54% BCA UK Portfolio Total Weekly Return BCA UK Portfolio FTSE 100 TRI 1.71% 1.39% Top Contributors MXCT:GB AAF:GB DEC:GB 888:GB SSE:GB Weekly Return 40 bps 21 bps 17 bps 16 bps 16 bps Top Detractors DATA:GB NLMK:GB SVST:GB SRE:GB GROW:GB Weekly Return -14 bps -12 bps -10 bps -6 bps -4 bps Top Prospects SVST:GB VVO:GB NLMK:GB TUNE:GB CTH:GB BCA Score 99.30% 98.26% 96.72% 95.21% 94.84% BCA Eurozone Portfolio Total Weekly Return BCA EMU Portfolio MSCI EMU TRI 1.54% 1.45% Top Contributors HLAG:DE ARTO:FR TESB:BE ROTH:FR STR:AT Weekly Return 35 bps 22 bps 17 bps 13 bps 11 bps Top Detractors ALESK:FR LOUP:FR NESTE:FI MBH3:DE EDNR:IT Weekly Return -27 bps -7 bps -3 bps -1 bps 0 bps Top Prospects FDJ:FR STR:AT SOLV:BE IPS:FR EDNR:IT BCA Score 97.99% 97.67% 97.18% 96.81% 96.17% BCA Japan Portfolio Total Weekly Return BCA Japan Portfolio TOPIX TRI 1.04% 1.27% Top Contributors 4694:JP 1419:JP 9543:JP 7958:JP 3291:JP Weekly Return 37 bps 18 bps 14 bps 14 bps 11 bps Top Detractors 5021:JP 3468:JP 8977:JP 8097:JP 3132:JP Weekly Return -16 bps -12 bps -5 bps -4 bps -4 bps Top Prospects 6960:JP 9436:JP 4966:JP 2208:JP 5930:JP BCA Score 99.88% 99.82% 99.68% 99.61% 99.27% BCA Hong Kong Portfolio Total Weekly Return BCA Hong Kong Portfolio Hang Seng TRI 0.34% 1.19% Top Contributors 1866:HK 316:HK 857:HK 1277:HK 98:HK Weekly Return 45 bps 19 bps 18 bps 15 bps 15 bps Top Detractors 6118:HK 990:HK 148:HK 691:HK 973:HK Weekly Return -49 bps -28 bps -14 bps -12 bps -10 bps Top Prospects 1277:HK 691:HK 215:HK 2877:HK 98:HK BCA Score 99.99% 98.52% 98.13% 96.98% 96.82% BCA Australia Portfolio Total Weekly Return BCA Australia Portfolio S&P/ASX All Ord. TRI 1.29% 1.12% Top Contributors YAL:AU NHC:AU JLG:AU CAJ:AU ARF:AU Weekly Return 66 bps 27 bps 25 bps 21 bps 18 bps Top Detractors REA:AU PSQ:AU AQZ:AU EZL:AU AX1:AU Weekly Return -31 bps -24 bps -21 bps -19 bps -11 bps Top Prospects MGX:AU GRR:AU MHJ:AU ARF:AU PIC:AU BCA Score 99.63% 99.45% 97.40% 96.12% 96.06%
Highlights The DXY index appears to be following the seasonal pattern of strengthening in the summer and weakening towards year-end. In this context, the most attractive vehicles to play a decline in the dollar are the Scandinavian currencies over the longer term, and the yen in the very near term. Our composite attractiveness model ranks the US dollar and the NZ kiwi as the least attractive currencies, particularly on the basis of valuation. Our limit buy on long AUD/NZD was triggered at 1.05. Pessimism on the Aussie is becoming overdone, while the economy could stage a coiled spring rebound once vaccination rates improve. Feature Chart I-1Was Dollar Strength Seasonal? Since July 20, the DXY index has been consolidating its gains, and appears to be following the general seasonal pattern of strengthening in the summer, and eventually weakening towards year-end (Chart I-1). With this as a backdrop, it is instructive to revisit our attractiveness ranking, and highlight which currencies might benefit most from a dollar decline. Our framework is based on three major vectors – the macroeconomic environment, valuation, and sentiment. Our macro vector tracks relative economic strength as measured by relative PMIs and real interest rate differentials. Other factors such as a country’s basic balance and external vulnerability are also considered. In our valuation vector, we consider a swathe of models including PPP, more high-frequency indicators such as our intermediate-term timing model, as well as longer-term models based on relative productivity trends. Finally, we also consider positioning to gauge if our view is mainstream or out of consensus. Using this framework, the most attractive vehicles to play a decline in the dollar are the Scandinavian currencies over the longer term, and the yen more near term, if rates remain well behaved. Meanwhile, the US dollar and the kiwi rank as the least attractive currencies, particularly on the basis of valuation (Chart I-2). Chart I-2An Attractiveness Ranking Of Currencies Macroeconomic Environment: Real Interest Rates Chart I-3The US Sports A Very Negative Real Yield On the short tenors, the US is among those sporting the most negative real rates (Chart I-3). But what is interesting is that we know that there is a divergence in how various central banks are treating their inflation overshoot relative to the Federal Reserve. For example, both Norway and New Zealand have negative 2-year real rates, but their central banks are on track to lift short rates this year. However, the telegraphed messages from the Fed are that there will be no interest rate increases until 2023. This will push US real rates towards becoming more negative vis-à-vis other G10 countries. In our report titled Which Rates Matter For Currencies, we suggested that the recent decline in US Treasury yields should curtail strong inflows into US fixed income. This should ease upward pressure on the dollar. Macroeconomic Environment: Basic Balance Chart I-4Basic Balances Across The G10 The basic balance is one of the most important determinants of a currency’s attractiveness, simply because it captures the ebb and flow of demand for a country’s domestic assets. In a nutshell, the basic balance is the sum of the current account surplus and long-term investments. Trade surpluses underpin underlying demand for a country’s goods and services, while capital account surpluses suggest a country’s assets are under high demand. As such, persistent basic balance surpluses are usually associated with an appreciating currency and vice versa. There has been a sea change in the basic balances across the G10, a fact we highlighted in our recent report titled On The Fed Shift, And Balance Of Payments. One of those shifts involves Australia seeing tremendous improvement in its basic balance surplus. In terms of rankings, Sweden sports the best basic balance surplus in the G10, followed by Australia and the euro area (Chart I-4). Meanwhile, the US ranks the worst in terms of basic balances, a big vulnerability for the currency. Macroeconomic Environment: External Debt A country’s external debt situation tends to only matter during crises. Therefore, in the current context of global fiscal and monetary stimulus, as well as generous Fed swap lines to assuage any dollar funding pressures abroad, external (especially USD) debt does not pose a significant threat for currencies. In an absolute sense, external debt as a share of GDP is highest in the UK, Switzerland, and Sweden (Chart I-5). However, what matters most often for vulnerability are net external assets rather than gross liabilities. Based on this measure, Japan, Norway, Canada, Switzerland and Sweden are the most attractive countries, based on net external assets (Chart I-6). Chart I-5External Debt In The G10 Chart I-6Net International Investment In The G10 Valuation: Purchasing Power Parity (PPP) Our PPP valuation model is our default in terms of evaluating a currency’s fair value, since by definition, it reveals price arbitration between any two countries. Chart I-7The Dollar Is Expensive As we have documented, our model offers unique insight into a true PPP fair value, since it accounts for the fact that consumer price baskets tend to differ in composition from one country to the next. In order to get closer to an apples-to-apples comparison across countries, two adjustments are necessary. First, categorizing the consumer price index (CPI) into five major groups. In most cases, this breakdown captures 90% of the national CPI basket. This includes food, restaurants, and hotels (1), shelter (2), health care (3), culture and recreation (4), and energy and transportation (5). The second adjustment is to test the significance of individual price ratios, with the exchange rate as the dependent variable. This allows us to observe the most influential price ratios that help explain variations in the exchange rate. As a control strategy, we use a weighted average combination of the five groups to form a synthetic relative price ratio. If, for example, shelter is 33% in the US CPI basket, but 19% in the Swedish CPI basket, relative shelter prices will represent 26% of the combined price ratio. This allows for a uniform cross-country comparison, as opposed to using the national CPI weights. The results show the US dollar as overvalued, especially versus the Scandinavian currencies and the yen (Chart I-7). The results are based on the synthetic relative price ratio. Valuation: Intermediate-Term Timing Model (ITTM) Our ITTM is our favored model in the short term, because it gives signals with much higher frequency. Back in 2016, when we developed this indicator, it proved useful in helping global portfolio managers increase their Sharpe ratio in managing currency exposure. The idea was quite simple: For every developed world country, there were three key variables that influenced the near-term path of its exchange rate versus the US dollar: Interest Rate Differentials: We have elaborated at length that interest rate differentials are a key driver for currencies. Given that we get interest rates in real time, they are great inputs into any high-frequency model. Inflation Differentials: Inflation destroys the purchasing power of a currency, both in theory and practice (Chart I-8). Assuming no transactional costs, the price of a dishwasher cannot be relatively high and rising in New York versus Manila. Either the US dollar needs to fall, the Philippine peso needs to rise, or a combination of the two has to occur to equalize prices across borders. Risk Factor: Exchange rates are risk assets. Ergo, the ebb and flow of risk aversion will have an impact on currencies, which is particularly the case for commodity exporters. We will be releasing a revamped version of our trading model in the coming weeks, incorporating results from ITTM. In a nutshell, our ITTM models have been a very good timing tool. And the signal today is to overweight JPY, AUD, SEK, and NOK in the G10 space (Chart I-9). Chart I-8Inflations and Currencies Chart I-9The Dollar Is Expensive Shorter Term Valuation: Long-Term Fair Value Model Chart I-10The Dollar Is Not Attractive Longer Term Our long-term FX models try to capture the movement in exchange rates over a business cycle (3-5 years, let’s say). Included in these models are much slower-moving variables like productivity differentials, and cumulative changes in the current account and basic balance. These models cover 22 currencies, incorporating both G10 and emerging market FX markets. We did an overhaul in these models this year, to account for rising Chinese productivity. Similar to our ITTM models, the longer-term valuation indicator favors the Scandinavian currencies, the yen, and the Aussie dollar (Chart I-10). Sentiment: Speculative Positioning The final consideration in our ranking is sentiment. In general, the dollar is a momentum currency and as such, you want to be long when bullish consensus and/or net speculative positioning is low and rising. Chart I-11 shows that the dollar has failed to break above its major trendlines, at the same time when bullish consensus on the dollar is rising (Chart I-12). This warns that a powerful countertrend reversal could be underway. Chart I-11The Dollar And Momentum Chart I-12The Dollar And Sentiment According to CFTC data, the most shorted currencies are the Australian dollar and Japanese yen (Chart I-13). In our framework, these are the currencies slated to stage very powerful countertrend reversals, given we put the pandemic behind us. Chart I-13Everyone Is Long The Greenback Housekeeping Chart I-14AUD/NZD and Relative Rates Our long AUD/NZD position was triggered this week at 1.05. The messaging from the RBA and the RBNZ have been vastly different, whereby the former is cautious about the rising Delta variant infection rate, and the latter is focused on financial stability admist a bubbly housing market. On a relative policy basis, our bias is that the likelihood of rates adjusting higher than market expectations is higher in Australia than in New Zealand (Chart I-14). As we are eventually going to put the virus behind us, underappreciated currencies such as the AUD could stage a mean-reversion rally. Chester Ntonifor Foreign Exchange Strategist chestern@bcaresearch.com Trades & Forecasts Forecast Summary Core Portfolio Tactical Trades Limit Orders Closed Trades