The dollar is still the dominant trading currency

The tri-annual currency survey is out, and some may be surprised by the results. The US dollar remains the dominant trading currency. It is involved with 89.2 percent of turnover, up slightly from 88.4%. Nevertheless, there is an increase in CNY trading to 8.5 percent from 7 percent. This increase is coming at the expense of GBP and EUR trading.

Overall trading volume is higher, despite the talk of deglobalization and reduced global trade, and the trading is more dispersed, with reporting banks representing less than 50 percent of the total trading.

 

FOMO cannot last forever

 

The overall equity market again showed positive returns with the SPX up 3.65% for the month and up 14.83% for the year. Following the market decline earlier in the year due to the tariff scare, the market has consistently moved higher, with the MAG 7 currently accounting for around 35% of the total market capitalization of the SPX. If you take out the MAG 7 the remaining stocks have almost flat-lined over the last decade as displayed in a Goldman Sachs graph.

The talk of bubbles abounds as it should, but there is also the FOMO effect. FOMO affects all investors who have not invested in MAG 7 and wish they had. FOMO is a by-product of a bubble. FOMO keeps bubbles alive, but like all bubbles, it cannot last forever. If you have FOMO, then it is likely too late.

Beware of the Sharpe ratio - Use the Sharpe ratio

 

The new paper "How to use Sharpe Ratio" is an important reading for any analyst attempting to compare two managers or strategies based on the Sharpe ratio. Many of the implications associated with the Sharpe ratio have been discussed in previous papers; however, this one presents all the limitations and possible solutions in a single reading. The authors present several adjustments to the Sharpe ratio to account for issues such as non-normality, but they also list and comment on all past research that has been associated with the Sharpe ratio. The overall conclusion is that using quick calculations should be done with peril. Oftentimes, minor adjustments will help on the margin. This is important because often Sharpe ratios for many strategies are close to each other, so rankings will flip once you account for some of these adjustments

The uncertainty of monetary policy - from internal to external

 

There is considerable discussion about the uncertainty surrounding Fed monetary policy; however, it is essential to break down that uncertainty into two key components: internal and external. Internal uncertainty is associated with policymakers not having a consensus on the direction of policy. External uncertainty is related to the lack of agreement among market participants or how investors perceive the direction of monetary policy. 

Generally, the market focuses on external uncertainty. Internal uncertainty is minimized by the Fed, usually voting in agreement at the Fed meeting. We may learn about disagreement with a long lag. However, we can use the SEP forecasts as a proxy for internal conflict. If the path of the SEP forecasts shows little dispute, then there is little uncertainty. If the SEP forecasts are diverse, then there is little agreement on inflation or growth. You cannot have agreement on policy action if the forecasts for interest rate directions are all over the dot plot. 

Currently, we are seeing significant divergences between these forecasts. You cannot have an agreement with the policy if you have some Fed SEP showing wide differences. This is clearly the case for 2025 and the following years. Investors cannot be expected to make firm investment plans if they cannot see agreement among the central bankers.