Arbitrage. To me a lovely sounding word, a woody word as some would say, with all sorts of possibilities and I love the way that the word turns to arbitrageur to describe someone who partakes in the business of arbitrage. I first learnt about arbitraging from a lovely, if somewhat eccentric, man called Hugh Newcomb who was a director at R. P. Martin and would come up with the most extraordinary ideas to create profits. One of these was to watch the contango on Copper and when it steepened too much we, the money brokers, would pile in and correct the price. The commodity markets couldn’t always take the volume as we would have, oftentimes- someone like Barclays looking to lend three months deposits and the volumes on Copper were relatively small. It didn’t really matter though as we showed we thought and looked sideways. Hugh was also famous for sporting the most extravagant facial hair in a style that used to be known as Bugger’s grips and probably the least said about that the better. Oh and nearly bankrupting The Scottish Co Op but that’s for another day.
Arbitrage has been in existence for as long as markets and came to the fore again in the early days of the futures market. The Euro Dollar price in London was 25bp different to the price in Chicago. For the life of me I can’t remember why or which traded at the premium, and be quiet in the cheap seats I did know once. All afternoon half a dozen brokers would sit on the phone to Chicago trying to take advantage of this spread by putting on positions when the market moved out of line and unwinding when they came back in. Maybe making two ticks as they did so and alongside the profit it also created volume in a fledging market. Despite the fact it drove the Euro Dollar locals mad as I tried to get orders filled and distracted from their personal positions it made profit. I whole heartedly apologise to Tony, Welly, Bucky and the rest for being a pain.
I started thinking about arbitrage after hearing President Trump announce his decision to impose tariffs on Aluminium and Steel this week. I guess it was the price differential in those markets that made me think about this and how they really are imperfect markets. The shock that greeted this announcement was surprising as Trump has stated ad infinitum that his plan was to make America great again and he does appear to be a man of his word, politically at least. It also, as importantly appeals to his heartland vote. It will be interesting to see whether this ban benefits the core voter or harms the Auto industry more. An Auto industry that has been dependent on cheap aluminium and has exceedingly complex cross boarder supply agreements that will be damaged.
At first reading the tariff imposition was aimed to benefit his blue collar vote. Look beyond that and at China despite their exports to the US in Steel and Aluminium are pretty minimal this is an opening shot. Is it a coincidence that the come in the same week that President Xi has pretty much appointed himself Emperor Dictator for life? I think not. China looks like they, as always, are playing a longer game. A game that involves helping North Korea as well as “investing” heavily into the Philippines in exchange for a “peaceful” expansion in the South China Sea’s islands. China is with these moves as well as the construction of the new Silk Road threatening American dominance economically and militarily and this is what Trump is reacting to. In a further announcement President Trump tweeted on Saturday that European tariffs on US cars were unfair whilst they can export unhindered into the US which would damage the already beleaguered Volkswagen group and by association its German Banking allies. The Hausfrau has put together a coalition but if German car makers suddenly lost the UK, an uber-hard Brexit could cause this, as well as the US markets, German Banks would come under increased pressure and further questions about the viability of the largest would be asked.
Prior to Trump’s announcement on Saturday regarding European Car makers there was a chain of thought that he may well retreat and that he was only sabre rattling. I’m not so sure now and my mind goes back to the attack in Davos that he made on Europe and their attitude to the US. Barnier and cohorts may find that the UK appears an easy country to bully. His latest tactic is to orchestrate a collection of has been and never weres as a fifth column, it is almost insulting to the intelligence. I mean really who apart from European leaders think that Blighted Blair or Major, at his most creepy, are anything other than discredited busted flushes? Trump and The US are a different matter as not only does Europe rely on the US as a huge export market it also relies on The US to protect it with disproportionate contributions to NATO and as such will find the US much harder to negotiate with.
The imposition of trade tariffs was made under the auspices of National Security which seems extraordinary whilst for all intents and purposes I fail to see that The US is at war. As a second guess, not always easy with Trump, this was the only route that he could his wishes through. How the WTO react will be crucial as if they accept the move it means that any country could in theory site National security as a the reason for tariff imposition. As in all wars the escalation to an all-out trade conflict could be quick and damaging to the fragile recoveries that we have seen. Previously we saw Bush and Obama implement limited anti-dumping rules but nothing like the imposition of a 25% steel and 10% Aluminium tariff.
I thought I had seen it all, apart from World War, in my decades in The City. I’ve heard the rattling of sabres before over trade but this time it feels like they have been sharpened and the troops sent armed with them to the stockade. The message will be heard loud and clear across the world and must worry his neighbours such as Trudeau. However seeing him parade his family in India like extras from a Bollywood film one wonders if anything concerns him, certainly not image. These are worrying times for world trade and as a consequence the fragile economic recovery that we have seen and by association the stock Markets. I wonder with the 2year 10 year yield was telling us something back in December and will it now invert portending a recession? Sadly I feel darkness is drawing in and only history will tell if it’s for a lifetime or it’s just a short night time. Hey ho perhaps I should retreat to my youth and spend the afternoon in The Arbitrageur for some cheer……