Sunday, November 11, 2012

ARSUSD Blue Chip Swap Rate (BCS)

Quick post since I've been approached multiple times in the last few weeks about the calculation of the Blue Chip Swap Rate (BCS), a popular unofficial measure of the market-driven price of ARSUSD (NDFs settle against the official ARSUSD cross, which is tightly controlled by the central bank). As you can see, the current BCS for USDARS is ~6.86 vs the official rate at 4.77, representing a large premium on USDs by the Argentine population. With inflation persisting and Banco Central de la Republica Argentina (BCRA) keeping peso depreciation under the rate of actual inflation (and equal to the official inflation measure) the Argentine peso becomes more overvalued every day that passes, making exports increasingly uncompetitive in the global markets (reducing supply of USDs by reducing the current account balance), depressing the local economy and exacerbating capital flight despite a plethora of capital controls introduced over the last 14 months. The most likely ending for this situation is a sudden and violent devaluation similar to the Mexican devaluation of December 1994 once BCRA loses its grip on the exchange rate.

OtherRelated Readings:
Argentina surprised by Germany, which voted against granting a loan at the IDB
Argentine bonds fall following “selective default”
Argentina demands 1-for-1 on imports/exports (video)

Friday, November 2, 2012

Marginal purchases will continue until real term structure steepens

Note: for those unfamiliar with terminology of TIPS, please see Give me a Break (even) for some basic discussion
Last night, I finally came up with a concise way of expressing my Fed policy view: "Marginal purchases will continue until real term structure steepens."

Real term structure flattening means that "too much money, not enough paper" is still valid, and marginal Fed LSAPs are reducing the supply of available financial assets enough to lower rates by increasing supply of reserves and reducing supply of risk-free assets. Bear steepening of the real term structure would mean that either marginal asset-buyers have decided other assets offer better prospective returns (flight-to-safety has ended), private credit is growing at a faster pace than the Fed is reducing supply of assets (deleveraging has ended) or, more likely, a combination of both. A side effect of rising and steepening real rates would be that the discount rate (ex-effect from break-evens) used to discount future private cash-flows would rise and therefore, all else equal, that would mean lower asset prices across the board for cash-flow generating assets. I use the real term-structure for this mental exercise because expected returns of non-risk free assets are affected by inflation expectations both in variable-rate instruments (loans, FRNs, some ABS, equities) through rate expectations and fixed-rate instruments as well through expected default rates and recovery expectations. Not to worry, though, falling asset prices due to higher real rates are an eventual inevitability of the Fed's exceptionally accommodating monetary policy and must be accepted as such. All it will mean is buying the same assets at higher expected returns, and should be welcome news for anyone with more financial assets than liabilities.