Currency Traders Ensnared by Volatility See 2016 Losses DeepenBy
U.S. GDP report, Bank of Japan spoil post-Brexit gains
Parker index falls 0.9% in July, in longest slide since 2013
Money managers trading in the $5.3-trillion-a-day currency market can’t get a break.
The investors have endured a five-month slump, their longest losing streak in foreign exchange since 2013. What was shaping up as the first monthly gain since February turned into yet another bust, after a rough stretch last week left the Citi Parker Global Currency Manager Index down 0.9 percent in July and on pace for a second straight annual drop.
Profits evaporated as a surprisingly weak U.S. economic growth report and smaller-than-expected stimulus from the Bank of Japan spurred a bout of volatility that the funds failed to capture. The pain shows no sign of subsiding. Hedge funds and other large speculators were leaning the wrong way in the futures market as the dollar has tumbled and the yen surged since last week.
“Just as you think there is a theme emerging in foreign-exchange markets, you get the rug pulled out,” said Paresh Upadhyaya, director of currency strategy in Boston at Pioneer Investments, which oversees about $236 billion. July “was lining up to be a nicely wrapped story for a mini-U.S. dollar rally,” until economic data threw a wrench in the works.
Turbulence in Group-of-Seven currencies has been unusually severe this year, surging to the highest annual average since 2011, according to a JPMorgan Chase & Co. measure. The swings hobble traders who seek to identify a broader direction and then profit from fluctuations within that trend. For example, the Parker index gained almost 3 percent in 2014, its best annual performance since 2008, in the middle of a three-year run of dollar gains.
It’s not just money managers who’ve been burned by currencies this year. Earnings for multinational companies in North America will probably decline by a record $35 billion to $40 billion as a result of volatility following the U.K.’s vote to leave the European Union, according to FiREapps, which makes hedging software.
While a weakening greenback and strengthening yen dominated the early part of 2016, the year’s defining moment for currency markets may have come in June, with the U.K. referendum. Major currency volatility soared the most on record as the result roiled markets, sending the pound to the lowest in more than three decades. Although the Parker index surged post-Brexit, it wasn’t enough to make June a winning month.
“It was a tough environment because there was a lot of volatility in currency markets without clear direction,” said Van Luu, head of currency and fixed-income strategy in London at Russell Investments, which manages around $244 billion. “Trends that had existed before the Brexit vote very suddenly reversed. Those are very, very sudden shifts that are not particularly amenable to many hedge-fund strategies.”
Other unanticipated events, including the Bank of Japan’s shock move in January to join economies embracing negative interest rates, and U.S. officials’ pronouncements on the path of monetary policy, also whipsawed traders.
At the end of July, hedge funds and other speculators were caught off guard again.
Following a better-than-expected U.S. payrolls report in early July, traders boosted net-bullish positions on the dollar in the lead-up to the Federal Reserve’s interest-rate decision on July 27, Commodity Futures Trading Commission data show.
After the central bank left borrowing costs unchanged and underscored a gradual pace of policy tightening, the dollar sank 1.7 percent against a basket of peers in the following week.
Traders may also regret cutting bets on yen strength last week before the currency rallied 4 percent against the dollar.
The Japanese currency’s appreciation this year is an example of a move that’s confounded traders, said Robert Tipp, chief investment strategist in Newark, New Jersey, for the fixed-income division of Prudential Financial Inc.
“People who are looking for trends are getting chopped up in some of the reversals,” said Tipp, whose division manages about $621 billion. “That’s contributing to some of the challenges in the foreign-exchange market."
Some funds have managed to capitalize on the post-Brexit turbulence In the days after the vote, GCI Systematic Macro Fund was among investors that gained.
The U.K. events may serve as a template for rocky times ahead. Fed officials are signaling a potential rate increase by year-end, months before traders anticipate. And investors still have to navigate the U.S. presidential election in November, after a campaign season that delivered a series of surprises.
Returns are “going to turn worse again,” said Marc Chandler, global head of currency strategy in New York at Brown Brothers Harriman & Co.
“Market participants know investments, they know inflation, they know current-account balances,” he said. “It’s more difficult for them to deal with risks associated with political events.”