Wedges

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More thoughts on white knuckling through this Category 3 yield storm.

by Brent Donnelly

August 16, 2023

Businessweek, 1978

via here

Current Views

Long AUDUSD @ 0.6485

Stop loss 0.6384

Take profit 0.6674

August 16, 2023

Gold, Copper, AUDUSD

The AUDUSD trade I put on yesterday is languishing mildly, though specs made a decent push lower and got rejected in early Asia last night, which is mildly encouraging. The charts are all making huge descending wedges, but none of them have broken yet. Here they are, in all their glory. The gold chart speaks particularly loudly to me because of the apex approaching soon. Contracting volatility and narrowing down channel = coiling for a ripper if we can get out through the top.

I have a bias against gold because in a world of 5.5% T-Bills and 1.8% real rates, its role as a safe haven or place to park your cash makes no sense. Why pay 0.5% for a safe haven when there is one that will pay you 5.5%? That said, I think on a breach of 1920 there could be a meaningful long gold trade as it has held in incredibly well in the face of many headwinds. The trade would be to buy gold on the break of 1920. My chart shows spot gold, but in futures the equivalent would be to buy the break of 1950 in GCZ3. If you enter there, the stop loss is 1894 in cash or 1924 in GCZ3. Risking 25 to make 75.

These can also be excellent options trades because obviously the break of a falling wedge is not going to be factored into options pricing. The low realized vol of grinding, narrowing ranges in a falling wedge tend to lead to lower implied vols and if there is a violent breakout, options are a levered way to play it.

A correction: The AUD chart I published with Evergrande moments marked on it yesterday had the wrong dates, sorry. Luckily the point was still valid. Here is an accurate chart:

AUDUSD vs. number of Evergrande stories published on Bloomberg

As mentioned many times of late, August is a good month for the USD and a bad month for risky assets. 2023 has been an excellent year for seasonality of all stripes and so that is a concern for me on the AUD trade. In my mind, I justified it by thinking: “Well, we’re already down 4% this month, so maybe the August seasonal has already happened.” I figured I’d better check my logic.

Here is August seasonality for AUDUSD, split into two halves (01-15AUG and 16-31AUG). The first two columns are the raw results, the second two columns are AUDUSD performance in the second half of August, conditional on whether AUD went up or down in the first half of August.

So, it looks like if AUD falls in the first half of August, it’s less scary, but still not ideal to be long based on seasonality alone. Finally, I haven’t looked at the big Australian commodity stocks in a while, so here is me checking in on those.

Woodside Energy Group, BHP and FCX vs. AUDUSD, September 2022 to now

As is the case with copper and oil prices, the stocks are not ratifying the worst doom and gloom about China. So that is another small encouraging factor. So all this to say I still believe in the AUDUSD trade, and I just hope that I can survive this Category 3 storm in US yields until it loses steam. With nothing major on the docket until Jackson Hole, I believe I can. But if this turns into a Category 5 liquidity event (which certainly still feels possible), all those falling wedges are going to resolve to the downside and I’m going to get stopped out. Let’s see.

Final Thoughts

This paper is super interesting. https://www.nber.org/system/files/working_papers/w22487/w22487.pdf

Abstract:

Little is known about whether people make good choices when facing important decisions. This paper reports on a large-scale randomized field experiment in which research subjects having difficulty making a decision flipped a coin to help determine their choice. For important decisions (e.g. quitting a job or ending a relationship), those who make a change (regardless of the outcome of the coin toss) report being substantially happier two months and six months later. This correlation, however, need not reflect a causal impact. To assess causality, I use the outcome of a coin toss. Individuals who are told by the coin toss to make a change are much more likely to make a change and are happier six months later than those who were told by the coin to maintain the status quo. The results of this paper suggest that people may be excessively cautious when facing life-changing choices.

I am off to Canada for a few days, so am/FX returns Monday. With COVID and all that, I have been off more than usual this month. Don’t worry, I feel guilty about it. May your day be priced in rupees.