The Daily Prophet: There's a New 'Most Crowded Trade' in Markets

(Bloomberg View) -- Remember when it seemed like everybody had to own dollars and equities and sell Treasuries because the Trump administration's pro-growth agenda would incite inflation and higher interest rates? Well, that's going to take a lot longer than anticipated and the many investors who piled into the so-called Trump trade have gotten out. Now, they're piling into Europe.

Over the span of just four weeks, hedge funds and other large speculators have amassed the biggest bullish wager on the euro in more than six years, according to Bloomberg News' Andrea Wong. Bets the common currency will strengthen outnumbered wagers for it to weaken by 72,869 contracts in the week through May 30, Commodity Futures Trading Commission data show, the most since May 2011. Morgan Stanley strategist no longer sees the euro falling to parity with the dollar, writing in a report Monday that they now expect it to rise to $1.18 this year from $1.1279 on Friday. The firm also boosted its euro area growth forecasts.

The European Central Bank meets Thursday, and the 60 economists surveyed by Bloomberg News are split on whether policy makers will remove their easing bias on interest rates, according to Bloomberg News' Alessandro Speciale and Andre Tartar. Amid a recovery that appears stronger by the day, the Governing Council may use the gathering to have its first formal discussion on what an exit from extraordinary stimulus might look like. "Some of the policies that were put in place to fend off deflation risks and financial fragmentation are no longer needed and so can be dialed down slowly,” the Morgan Stanley strategist said.

SPEAKING OF CROWDED TRADES
Can anything stop emerging markets? Last week, investors added $1.3 billion to exchange-traded funds that buy developing-nation stocks and bonds, extending the longest winning streak in more than a year, according to data compiled by Bloomberg. Inflows exceeded $16 billion over the past 13 weeks, and fund assets have grown $24.6 billion this year, compared with $23.5 billion in all of 2016. In a report released Sunday, the World Bank kept its outlook for the global economy unchanged, forecasting a modest pickup in growth despite uncertainty about monetary policy and the risk of a surge in protectionism, according to Bloomberg News' Andrew Mayeda. The development lender projects the world economy will grow by 2.7 percent this year and 2.9 percent the next, the same as its January forecast.

MEXICO'S PESO RECOVERS TRUMP INDUCED LOSSES
As if on cue, Mexico's peso led gains among the world's most traded currencies on Monday as President Enrique Pena Nieto's party forged ahead in the election for governor of the country's largest state. The closely fought vote tilted in favor of candidate Alfredo del Mazo, signaling the ruling PRI will keep a stronghold vital to winning the presidential election next year. The peso jumped as much as 1.91 percent, briefly touching 18.3230, a level not seen since before the U.S. election in November, according to Srinivasan Sivabalan and Isabella Cota. Investors are relieved that there is a clear margin of victory in the election that was seen as too close to call, said Richard Segal, an analyst at Manulife Asset Management. The momentum of the peso's recovery that started in January is continuing as the worst-case scenario investors expected on the North American Free Trade Agreement hasn't materialized, he said. The peso is one of the currencies favored by Morgan Stanley in its report.

VOLATILITY IS VOLATILE
Given the slew of terrorist attacks in Europe, geopolitical strife from the Middle East to Asia and U.S. policy uncertainty, it's understandable that investors scratching their heads about a drop in volatility this year. Investors have conjured up myriad theories to make sense of historic lows in market volatility across asset classes despite such strong headwinds, citing everything from soaring assets in passively-managed vehicles to the rise of social media, according to Bloomberg News' Sid Verma and Luke Kawa. It's actually not that hard to understand, according to JPMorgan strategists. Subdued measures of volatility are just a reflection of "a very low supply of economic surprises currently," the strategists write in a recent note to clients. But even though the CBOE Volatility Index closed at its lowest level since 1993 on Friday, a gauge of VIX swings rose in four out of the past five weeks, reaching a record high relative to the measure of equity turbulence. With the VIX down more than 30 percent this year through the end of last week, investors have been using options to bet on volatility, according to Bloomberg News' Cecile Vannucci. The number of contracts wagering on a resurgence of market turmoil has reached its highest level since October relative to those calling for a drop in price movements.

IT'S INFRASTRUCTURE WEEK!
President Donald Trump kicked off a week-long push for his infrastructure plans with a proposal to hand over control of the U.S. air-traffic control system to a non-profit corporation. It may not sound like much, but the infrastructure play is one area of the Trump trade that has held up fairly well. Take the 19,000 municipal bonds tracked in the S&P Municipal Bond Infrastructure Index, which mainly consists of investment-grade fixed-income securities related to transportation and utilities. The gauge has climbed 4.25 percent this year through Friday, compared with a 2.57 percent gain in the Bloomberg Barclays US Aggregate Bond Index. It's a similar story in equities, where the S&P Global Infrastructure Index has outperformed the MSCI All-Country World Index, albeit by a slim margin. Just last month, Blackstone Group LP, the world's biggest private equity manager, said it's eyeing more than $100 billion in infrastructure investments. The area has gained renewed attention as Trump's administration vows to direct more private money toward improving roads, bridges and airports. The asset class also fits the bill for liability-driven investors in the U.S. and abroad seeking current income amid near-zero interest rates and negative yields elsewhere in fixed income, according to Bloomberg News' Melissa Mittelman.

TEA LEAVES
In a few hours the Reserve Bank of Australia is forecast to say that policy makers decided to hold their benchmark interest rate at 1.5 percent -- for now. Since the RBA's last policy decision on May 2, market bets on a rate cut by the end of this year have doubled, according to Bloomberg News' James Thornhill. While that chance is still only about 20 percent, traders see Australia as one of just two developed economies where cuts are possible in the coming year after data during May pointed to anemic growth in the first quarter. Strategists at RBC Capital Markets wrote in a note that they expect a "reasonably positive" tone to the statement, strengthened by a likely upgrade to the discussion around the labor market. That may be tempered, according to the RBC strategists, by an acknowledgement of some weakening in housing and the likelihood of a soft first-quarter GDP print due Wednesday.

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This column does not necessarily reflect the opinion of the editorial board or Bloomberg LP and its owners.

Robert Burgess is editor of Bloomberg Prophets.

To contact the author of this story: Robert Burgess at bburgess@bloomberg.net.

To contact the editor responsible for this story: Max Berley at mberley@bloomberg.net.

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