Wednesday, July 22, 2015

Cross Asset Correlation

Update on the cross asset correlation as the market settles down for another summer.
Overall we have a minor uptick in rates level vs. fly correlation and a minor downtick in rates level vs. slopes. Commodities and FX to yield curve slope picked up as well (and also between themselves). Inflation to rates level and slopes also picked up. Table below shows rolling 13 weeks factor correlation across assets (click to enlarge).
For EUR, the short end slope (2s5s) correlation is considerably strong to overall slope (5s30s). Unlike USD and GBP and much like JPY. In fact most of the correlation in EUR resembles JPY. Given the level of the rates, it is no surprise. However things that stand out are the 10s30s (much more correlated in EUR than JPY). And 10s30s is again the major difference in correlation structure between USD and GBP (both of which are poised for rate hikes after years). Click to enlarge charts below
Some other observations:
  1. 1) The 5s10s has strongly correlated to rates levels and slopes in GBP (more like EUR and much less like USD), which I think is going to start to reduce.
  2. 2) The recent peak in 5s10s30s fly to rates levels and slopes in GBP should go down from here
  3. 3) The positive correlation between EUR 5s10s30s to 10s30s does not make sense, and perhaps an anomaly. Position for a correction.
  4. 4) the 2s5s10s recently flipped in correlation to level and on a path of recovery back to positive territory (esp. to 5y area). Position to take advantage of this move.
  5. 5) Given who moves first, Fed or BoE, we should see a breakdown in correlation between front end rates and flies with respect to rates levels (e.g. 2s5s and 2s5s10s w.r.t. 5y). Given Fed is the favorite to make the first move, the higher correlation between 5y to 2s5s in USD compared to GBP does not make much sense. This supports a 2s5s steepener in GBP vs. USD (which I recommend for reasons other than pure correlation, see here).
Cross assets, we have seen a re-correlation between rates and break-even inflations, esp. for USD (and also for EUR).GBP continues on a weakening, although levels are higher comparatively. On equities, the global utilities remain strongly negatively correlated to yields (esp. USD yields).  Also S&P shows a very recent spike in negative correlation to rates levels and slopes, much unlike DAX or Euro Stoxx. in FX, JPY shows a much reduced correlation to USD rates, and EUR shows a pick-up in correlation to rates. In commodity space, the correlation to USD rates to broad-based commodities are dwindling, while the same for GBP has picked up. FX and equity correlation is strongest for EUR, and not much for USD or GBP. And interesting a strong correlation between AUD and MSCI world material sector index. And more interestingly the EM vols (JPM EM, JPMVXYEM Index on Bloomberg) has been strongly negatively correlated to US equities lately.

No comments:

Post a Comment