This Inverted Market Curve Is Already Causing Investors Pain

(Bloomberg) -- There’s one market where an inverted curve is already causing pain for portfolio managers: foreign exchange.

Ben Emons, chief economist and head of credit portfolio management at Intellectus Partners, highlighted the inversion in some currency volatility curves as another channel through which angst over potential shifts to the global trading order are weighing on equities around the world.

The one-month implied volatility of the U.S. dollar relative to the yuan now trades at a premium to that of the one-year contract, a shift that’s occurred amid the greenback’s 3 percent advance versus the Chinese currency over the past two weeks.

This doesn’t get nearly as much attention as yield curve inversions, but it’s still a clear negative for markets because it encourages portfolio managers to take less risk abroad, according to the strategist.

“The higher short-term FX volatility, the harder to currency hedge international bond and stock portfolios,” Emons wrote in a note Wednesday. “That leads to a ‘return to the base’ by reducing risk such as emerging market exposure and dialing down FX positions to the home currency.”

That is, as a trade war threatens to interrupt the flow of goods and services globally, it may already be impacting the global flow of capital.

Similarly, volatility curves for the Canadian dollar and Mexican peso are inverted as the future of the North American Free Trade Agreement remains muddled heading into Mexico’s July 1 election.

©2018 Bloomberg L.P.

Bloomberg
Stay Updated With Stock Market News on BloombergQuint