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“This Ain’t Another Brexit” Traders Scramble To Hedge A Trump Victory

Sunday, November 6, 2016 18:30
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(Before It's News)

Having previously explained, it's all about Florida, North Caroline, and Ohio… and what time traders can go to bed on election night, Bloomberg reports on how crazed FX traders are scrambling to figure out just what will happen as the Trump-Clinton saga plays out.

Already the most sensitive risk assets are swinging back on tonight's headlines…

But, unlike an exit from EU that portended a sharp drop in sterling, the results of Tuesday's US election could throw up a plethora of possibilities on which way assets could move…

  • Risk positions are likely to be pared back to near flat into the night of vote count, with liquidity conditions expected to worsen more than after the Brexit vote, if polls pointed to a Trump victory, traders say in interviews
  • Banks, funds and brokerages are now better geared to cope with any wild swings after SNB’s franc jolt in Jan. 2015
    • This includes ramping up staffing and margin requirements, and bracing for thinning of liquidity
  • With the race between the two candidates tightening after FBI’s reopening of probe into Clinton emails, implied volatilities in major currencies have already moved up with the curves fully inverting

THIS AIN’T ANOTHER BREXIT

  • A Trump victory doesn’t have straightforward implications for the dollar, several analysts said before the vote
    • While a Trump victory will probably be bad for Mexico and Canada, there is no consensus on what could be its impact on the currency market or on U.S. equities, China in the long term, Derek Halpenny, strategist at MUFG says in interview
  • Some investors expect a negative impact on USD in event of a Trump victory but history shows that the dollar tends to gain regardless of the outcome of the vote in the first year of the new president
  • A Trump victory could open up an enormous amount of potential relative value trades, according to a London-based head of FX trading

PORTFOLIO HEDGING

  • “My risk on the dollar is virtually zero,” says Aberdeen investment manager James Athey, who has been shifting some risk from FX toward rates
    • Athey was short the Mexican peso and used recent weakness to remove that trade given the currency’s high sensitivity to the outcome
    • Not seeking to hedge against volatility generally, but minimize or remove completely exposure in crosses where pricing the relevant risks is difficult or impossible
  • Henderson Global Investors investment director Donal Kinsella expects Clinton to win, “but Brexit has taught us not to take the support for the ’status quo’ outcome for granted”
    • Henderson looked at some option strategies to position its unconstrained, multi-sector portfolios for lower UST yields as a hedge against a Trump victory; fund also expected to hold higher cash balance through the vote which “will be put to work if Trump’s election provides some volatility to take advantage of”

LIQUIDITY, TRADING CONDITIONS, ALGO

  • If Trump wins, FX liquidity could be worse than Brexit, says Nomura’s head of G-10 FX options Andy Soper
    • On such a scenario, liquidity will be bad for both options and cash market; he expects to see a “good 3-5% gap” in the yen exchange rate and a 5-8% market gap in the Mexican peso
    • Best trade is to buy USD/JPY 1m options but could be already a crowded trade; to bet on a Clinton win, sell EUR/USD vol
  • An EUR/USD order of one or two billion could move the market by a few dozen pips, while in the past it would have gone almost unnoticed, says Gian Marco Salcioli, head of FX sales at Banca IMI in Milan
    • Implied volatility in the currency market doesn’t reflect the risks of less likely events such as a Trump victory and this is giving clients a wrong perception of the risk
  • Investors are cutting their USD exposure on concerns over increased volatility heading into the U.S. vote, Kevin Lester, director at risk-advisory firm Validus Risk Management, says in interview; algo might cause market disruptions in FX and may exacerbate market volatility and risk, he adds
  • Recent liquidity vacuums have highlighted that current risk management requires further measures and a careful use of options, says Neil Staines, head of trading at hedge fund Ecu Group Plc in London
    • Traditional stop loss orders may still limit downside but at times of reduced liquidity the slippage or executed rate of the stop loss may be larger than during ’normal’ trading periods and losses could be greater
  • A Trump win will be marked by illiquidity two days after results, according to London-based trader

DESK STAFFING, OPERATIONS

  • Trading floors in most banks in London will be fully operational during vote count; some plan just more than a skeleton staff to keep some traders fresh for the following day, a London-based head of G-10 FX trading at a large bank says
    • A shift from electronic to voice trading is also likely during the night if liquidity conditions deteriorate
  • A large overseas bank will have their EGB and UST sales desks in from 5am London time, while the UST traders will be coming in around 3am, says a London-based trader
  • Some in Canada are planning to head home for an early afternoon nap before returning to the office to stick around until the result will become clear, two Toronto-based traders say

MARGIN REQUIREMENTS

  • FXCM, Saxo Bank and London Capital Group are among the brokers planning to temporarily increase currency margin requirements before the vote as they expect higher market volatility after the event
  • Some hedge funds also expect a potential change in conditions from their prime broker before the vote
    • There is “a chance” of margin increase which would “likely be temporary and aimed at protecting against volatility,” says Buford Scott, managing partner at hedge fund Stelrox Capital Management LLP in London

Despite all the hedging and fears, the take home message here is that Wall Street is still firmly convinced that Hillary Clinton will be the next president.

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