How To Trade Politics – Part 1

Turning a Political Dance into $$$

This week saw the S&P and Sterling make new 2019 highs. And yet in both cases uncertainty increased as both US Trade talks and a Brexit deal were postponed. This begs the question how do you trade politics when markets are uncertain and therefore both erratic and volatile?

 

There is one possible answer—you don’t. At the London Forex Show I was the only one of six on the Brexit discussion panel who said they were trading Brexit—before during and after! Understandable. As for both the dominant market themes of the Trade War and Brexit, the fundamental outcomes uncertain, the intermarket relationships variable, technical levels frequently screwed and sentiment nervous and therefore fickle. But if you wait for the final outcome and allegedly great certainty, as ever, you will probably miss the boat or worse, join a trend as it is ending.

 

This week we focus on the Trade War and Brexit and how to make trading decisions in what may appear difficult markets. Next week we will explain two significant and potentially very exciting trading opportunities that we will be taking this week in the run up to the Australian and Indian general elections.

 

So how do you the major trade political events of our time, before during and after?

 

Firstly, take a step back and assess how it all currently FITS together and how each of the fundamentals, intermarket relationships, technical and sentiments are developing individually and will be affected by the various events, interim or final. It is clear that optimism about a resolution to the Trade War is driving the US stock market higher despite deteriorating fundamentals. Disappointing economic releases therefore remain an opportunity to buy in a relentless uptrend rather than the trigger for a reversal.

 

Second, look for any historical comparisons in each or all of the four FITS pillars combined. This will help identify opportunities within a similar trend but also if the final outcome will reverse or accentuate that trend. Our 2014 SPX template continues to be very accurate even if still hard to believe.

 

 

A comparison of between the current and 2014 US bond markets reveals how stock sentiment not just ignored the fundamentals but takes actually took encouragement from falling yields due to the deteriorating fundamentals.

 

 

Thirdly, and the hardest part, is to try to understand how the fundamentals, intermarket relationships and technical are interacting with sentiment in order to gauge volatility. The 2014 SPX template therefore shows how a distrusting market is actually feeding and leading us into what increasingly looks like the 1987 and 1929 trade war inspired blowouts. Ironically this week’s announcement of a delay to a ‘buy the rumor buy the fact oops sell’ Trade War resolution will help override poor economic indicators, support the stock market in the interim and risk ‘new entrant volatility’ should the market break to new highs.

 

Given the accuracy of the 2014 template there is a neat trading strategy we will implement this week. But we will also start issuing a daily intraday signal also based on what remains, quite frankly, a bizarre even if successful map.

 

This is the SPX Update we published to subscribers on Friday.

 

 

 

How does this approach help us trade what appears to be an unprecedented Brexit? Given most traders’ inclination is either stay away or join an apparent short-term trend as it is ending, what do the FITS tell us?

 

Fundamentally, Brexit should be seen both as a political and economic proposition for the UK and particularly Sterling in both the short and medium term. Politically we saw something interesting this week. Our long held ‘inside’ view started to show. The UK and EU are working closely, far more than most commentators realise, to reach a fudged compromise that will allow UK to leave the EU on a later date than originally planned. A deal where neither side should lose face. In the interim, Sterling will remain in a more subdued version of US stock trade war optimism: an updrift based partly on the optimism about a Brexit deal but also the underlying surprisingly resilient UK economy.  However even though a resolution will enable long-delayed investment, the investment gap this is creating, will dent the UK economy and Sterling in the longer term but probably only for a short period.

 

Intermarket. This view is reflected by the key yield curve.

 

 

This shows how perceptions of Brexit driven UK interest rates (2-year yields) will drift higher in comparison to the more globally affected 10-Year Gilt yields. It will also continue to affect Europe where DAX has maintained an unusually close relationship to GBPUSD:

 

 

Technically, this general updrift in most UK instruments can be viewed as a momentum sapping rising wedge: a cross between the Trade war optimism US uptrend and an expectant New Zealand-China trade deal triangle.

 

 

Sentiment. The result for GBPUSD should be a succession of overly optimistic unsustained new highs and overly pessimistic short-lived sell offs in a general updrift. Markets hate uncertainty. But where there is uncertainty this leads to ‘stasis’ where no move is unsustained until a resolution. The best example of this was the prolonged Euro range during the Greek crisis of 2014-2015. The Euro only fell once there was a resolution. Similarly, Sterling’s updrift should continue into a ‘buy the rumour buy the fact oops sell’ set up when a deal is struck. And just like the Trade War the longer negotiations take, the longer Sterling will remain optimistically supported.

 

Should we trade this market? Yes. We are and with a possibly surprising witness. Bloomberg are writing an article on how we and a $1Bn fund manager subscriber are trading Brexit. Here is an interesting read by the same journalist.

 

Wednesday was the second time this month where they sat with us and followed all our trades (and signals sent to subscribers) through UK parliamentary votes and the next morning. In both cases we bought the sell off and sold the new high. I wouldn’t normally reveal P&L figures but, as it will be in the article, the combined 24 hour trades cleared a much welcome GBP200k.

 

The probability of successful trading is a function of both volatility and clarity. The more volatile a market the greater and quicker the potential returns provided it is clear what it is doing (ie where our stops will be safe and limits hit). Perhaps ironically, it is clear what GBPUSD is doing: correcting close to the previous lows then breaking to new highs and stopping most shorts out before retracing again into another buying opportunity. The same could be said for the SPX and NDX. But forewarned is forearmed.

 

 

For much of the last year, the swing or position taking environment has been challenging and is why many hedge funds have lost money. However, there have been many more effective shorter term trades such as Brexit GBPUSD and 2014 SPX that often require a quick decision (sometimes too quick for a signal due to slippage) even if it fits generally within a preconceived trading plan. To help our subscribers take advantage of such opportunities we will be doing two things.

 

Firstly we will soon be publishing trading plans for most if not all the instruments that we cover. This should serve not just as a constant guide for our signals subscribers but also such a commitment should help us all exploit some of the seemingly riskier trades and make the most of established trends.. .before they end.

 

 

Secondly we are experimenting with a system where subscribers would be able to copy some of the quicker more successful (but still preconceived) shorter term trades that we have previously felt unable to signal.

 

 

Here’s to making the very best.

Good Luck

 

 

Ed Matts
Founder
Matrix Trade

 

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