Argentine Banks

Catching falling knives is a dangerous game. It might be a little bit easier in an emerging market economy that has just gone through a crisis, but figuring out when there’s the right amount of blood on the streets, when others are sufficiently fearful, is always a dicey task.

But it is also, potentially, a very lucrative one. There are no guarantees, but there are a couple things in situations like this you can do to tweak the odds in your favor.

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First, the currency leads. EM blowups are synonymous with big, uncontrolled currency depreciations. The local monetary authorities are usually forced to raise policy rates aggressively to short-circuit capital flight. They also often avail themselves of an IMF program to bolster reserves and confidence. Eventually, these policies start to work and when they do we tend to see it first in the currency.

This appears to be happening now in the Argentine peso.

The break of 37 last week signaled that currency stabilization/appreciation is, with a high probability, on. It helps when short term market rates are just over 70 percent.

The second tweaker is pattern analysis. Ideally, one would want to see a day or two of high volume bottom selling, followed by a period of solid bounce on high volume as well. Then you would want to see a drift down from that bounce to a higher low on light volume, and then a move out off of that higher low on a pick up in volume. This would constitute a classic double bottom retest. High quality pattern.

This is now what we are seeing in the Argentine banks. The four charts posted below all more or less show it.

$GGAL

$BFR

$BMA

$SUPV

 

Of these four, the first two show the best patterns. And the first three are probably “systemically important”. The last one, $SUPV, probably has the the diciest book of business (most consumer credit, least government credit) of the four. Of course, qualitative distinctions might not matter (at least for a while) if this indeed is the beginning of a recovery.

But in investing there are many ways to be wrong. There are plenty of headwinds. One, we’re in the midst of a bout of global risk aversion. Two, EM sentiment is terrible and investors have shown little interest so far in returning. Three, the peso might not be done depreciating. It’s not clear to me that the peso has overshot fair value as dramatically as is often the case in EM crises. There were many years in which high inflation far exceeded peso depreciation. If the peso is only ‘cheap’ and not ‘ridiculously cheap’, this would limit the scope for appreciation and probably dampen the amplitude of any rebound in the banks (I doubt with 70% rates we’ll see significantly more depreciation, but this too is possible). Four, the banks are black boxes at this stage. It’s hard to know how much damage there will be. In these kinds of plays if you wait for there to be more visibility onto the banks’ books you will have missed the opportunity. Some leap of faith in these circumstances is required. But not knowing exactly what’s on the books and how it will interact with high rates and a big currency move is obviously a big risk.

To mitigate the consequences of these risks, there are two things you can do. One, set stops below the recent higher low. How far below those lows will depend on your confidence in the thesis and how you size the overall position, but there are many points that will give you highly asymmetric payoffs. Two, you can set a stop based on USDARS staying below a level. 37 would probably be too aggressive. 38 would probably be more reasonable. If USDARS doesn’t stay down–and ideally continue lower–this investment thesis is much less likely to play out.

Good luck.

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