Traders' Playbook: Divergences, Dynamics, and Decisions Ahead
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The Dollar’s ascent to its peak in October 2022 can be characterised as rapid. Since then, a clear turning point in the dollar’s trend has occurred. As it trends downward, the Dollar exhibits occasional spikes. We see the dollar trading lower as it turns around after reaching an oversold state on the RSI and facing resistance on the upper channel.
The Indian Rupee piques interest as its divergence with the Dollar Index expands. A thwarted upside breakout, coupled with an unexpected inflation surge, suggests the Reserve Bank of India (RBI) may react. Rate hikes might bolster the Rupee, especially alongside a receding dollar.
For two decades, moves in the Straits Times Index (STI) and MSCI Singapore Index have been nearly synonymous. Yet, by the close of 2021, this changed. This divergence, visible in the ratio of the STI to the MSCI Singapore Index, leads us to question: Why?
The answer lies in the MSCI Singapore's weighting. With the addition of Sea Ltd in mid-2021, dynamics shifted. Post-addition, Sea's value nosedived by 90%, reducing its market cap from $200B in October 2021 to just $21B today. Considering the imminent MSCI rebalance on 31st August and Sea Ltd's shrunk market presence, will the MSCI Singapore begin to mirror the STI more closely?
Historically, RSS3 Rubber has traded at a premium over TSR20 Rubber, predominantly hovering within a range defined on the lower bound by the $12 resistance level. At present, the spread stands at $15.5, nearing this lower bound, putting this spread on our watchlist.
What's inside the playbook?
As we navigate through a landscape where the data-dependent Federal Reserve faces occasional softer metrics, for example, the JOLTs Job Openings falling below expectations, the dollar's trajectory takes centre stage. While the dollar's primary trend is downward, we can take advantage of fleeting moments of ascent. Technical indicators, like resistance and an oversold RSI, hint at a probable decline from here as the dollar’s next move. Given the possibility of the Federal Reserve adopting a more dovish posture in light of an overstretched economy, fundamental plus technical factors could exert downward pressure on the dollar.
This narrative seamlessly brings us to the Indian Rupee. When juxtaposed against the Dollar Index, the Rupee's correlation displays a noticeable divergence starting from 2023. Despite an initial attempt to break upwards, the move higher has been thwarted. With the impending release of India's inflation data on 12 September and considering the previous two instances where figures exceeded expectations, the RBI's stance becomes intriguing. If the RBI retaliates with a rate hike, the combined force of a strengthening Rupee and a possible dollar downturn could lead to a depreciated USDINR pair.
And on divergences, nothing comes close to the STI and MSCI Singapore. Historically moving in tandem, the two have seen their relationship tear from the tail end of 2021. This disparity stems from the inclusion of Sea Ltd in the MSCI Singapore from mid-2021. But the tech giant's fortunes waned as it shed nearly 90% of its value, causing its market cap to plummet from $200B in October 2021 to a mere $21B today. The reduced market cap of Sea Ltd, as well as the upcoming MSCI rebalance slated for the close of 31 August, opens up a compelling case for the two to close its largest divergence ever.
Executing the plays
A hypothetical investor can consider the following two trades*:
Case Study 1: Short SGX USD/INR Futures (INR) or Long SGX INR/USD FX Futures (IU)
We would consider going short the USDINR using either a short position in the SGX USD/INR Futures (INR) directly or via a long position on the more liquid SGX INR/USD FX Futures (IU) to express the same view. Expressing a short on the INR contract at the current level of 82.78, stop above the previous high at 83.3 and take profit at 80.6. Each 0.0025-point move is equal to 2.5 USD.
Case Study 2: Short SGX Straits Times Index Futures (ST), Long MSCI Singapore Index Futures (SGP)
We would consider taking a short position on the SGX Straits Times Index Futures (ST) and a concurrent long position on the MSCI Singapore Index Futures (SGP) to express a short on the ratio of the two indices, with the view that the MSCI Singapore Index catches up with the STI. A short position on the ratio currently trading at 11.41, setting our stop at 12 and taking profit at 9.5. Each 0.05 index point move in the SGP contract is 5 SGD and the 1-index point move in the ST is 10 SGD.
* The examples cited above are for illustration only and shall not be construed as investment recommendations or advice. They serve as an integral part of a case study to demonstrate fundamental concepts in risk management under given market scenarios.
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