Trading Ideas November 2010: Reducing the equity weight, shorting bonds


IDEA of the month:  Reducing the equity weight, shorting bonds

In this index note we reduce the equity weight from 40% to 30% after the strong recent performance of the equity markets. Equity markets …….

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have benefitted from a strong start into the Q3 reporting and expectations of quantitative easing. Our portfolio has posted an YTD performance of 7.5%.  and we want to lock in a higher share of this performance as we approach the year end. Nevertheless, we remain positive on the equity market in the longer term reflected by our 30% equity exposure.
In this index note we increase our position in the “Short IBOXX Euro Sovereigns Eurozone TR Index” from 10% to 20%. Interest rate levels are close to long term record lows. Our economists expect interest rate levels to gradually normalize over the next years. This normalization of interest rate levels could be supported by high country debt levels, by improving economic growth or a rising inflation trend. The low interest rate levels could also lead to outflows out of the asset classes at some time which could also support a  normalization trend. In addition, our scorecard remains negative on Fixed income. In this index note, we also buy the Utilities and the Banks sector with 5% each into our portfolio. Both sectors are clearly lagging behind in the equity rally over the last 12 months. We reduce the Dax weight from 20% to 10% and the weight of the Eurostoxx Select Dividend 30 Index from 20% to 10%.

Scorecard Asset classes
Equities continue to be the most attractive while all the other three asset classes appear negative on our Asset class scorecard.

Scorecard Equities

Our Region Scorecard favour Europe and the US. Japan, Asia ex-Japan and Lat-Am are the least attractive regions, while EMEA appear neutral. According to our scorecard for European sectors, Insurance and Oil & Gas look the most attractive, while Autos, Chemicals and Industrial Goods & Services are the least favoured.

Scorecards Fixed income commodities and Forex
In the Fixed income segment, our scorecard supports Iboxx Sov. Eurozone 10-15 bonds the most, while EM liquid Eurobond looks the least attractive. According to our Commodity Scorecard, Natural Gas looks the most attractive while Precious metal group comprising Gold and Silver and Sugar find the least favour. Our Forex scorecard favours Euro, while the Japanese Yen looks least attractive.

ETF Flows
Total AUM of all the European ETFs amounts to Euro 180bn. 65.1% of the AUM is focused on the equities followed by 14.2% on the debt and 14.2% on the commodities. On an aggregated basis, European ETFs, overall enjoyed inflows of Euro 2.4bn (1.4% of AUM) over the last month. Credit based ETFs added 6.8% to their AUM while Money market ETFs pared 8.8% of their AUM over the past month. Equity based ETFs managed to add 2.2% to their assets over the last month and 3.0% over the last three months. At the regional level, over the last month, ETFs focused on Emerging markets registered inflows of 6.2% of their AUM while the ETFs focuses on European Union managed inflows of 4.9% of their AUM.

TI 28-10-2010

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Source: Trading Ideas ETF: Ideas and Flows – Deutsche Bank AG

rated “BB”. 13% of the basket is rated “B” and this is one issuer, Venezuela. So the country
with the biggest weight in the index is also the country with the lowest rating. While
Venezuela is clearly a high risk country with 13% weight in the index, the remaining countries
are clearly more solid (for more details on the “MSCI USA TRN” ETF see ETF: Ideas and
Flows, 25 November 2009).
“db x-trackers Currency valuation” ETF 20% weight
In currency markets the majority of the participants are “liquidity seekers”. “Profit seekers”
are a minority in currency markets and can generate returns on the expense of the “liquidity
seekers”. Profit-seekers can generate returns by buying “under-valued” currencies and
shorting “over-valued” currencies. A widely used measure to determine “under-valued” and
“over-valued” valuation for currencies is the concept of “Purchasing Power Parity” where
“fair” exchange rates are calculated by comparing the prices of a basket of goods in different
countries. The ETF “db x-trackers Currency valuation” buys each quarter the three currencies
with the “lowest” valuation out of the universe of the G10 currencies and sells the three
currencies with the “highest” valuation using the PPP concept. In addition, the correlation to
equities and bonds is very low and therefore the currency valuation index helps to diversify
our ETF portfolio. The index is currently long in the US Dollar, New Zealand Dollar, and the
British Pound whereas the index is short in the Swiss Franc, Swedish Krona and the
Norwegian Krona. Risks to the investment include that currencies movements become less
rational again. Especially increased uncertainty about the economic development could
trigger a flight back into expensive currencies like the Swiss Franc (for more details on the
“db x-trackers Currency valuation” ETF see ETF: Ideas and Flows,12 June 2009).
Trading portfolio
We have kept the portfolio unchanged this time. Earlier we bought the “Emerging Markets
Liquid Eurobond Euro Index” ETF with 10% weight and sold the “db x-trackers DJ Stoxx
Global Dividend 100 ETF”. The portfolio targets absolute return and has the EONIA index as

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