One month ago we reported that having successfully avoided a calamity for most of 2016 despite being massively net short, somewhere to the tune of around -90%, at times rising as high as -105%, Horseman Global, finally had a bad month, in fact, losing -12.80% in November, the hedge fund which we previously dubbed “the world’s most bearish hedge fund”, just suffered its worst month in history as “the short book, the bond book and the forex book lost money.”
And, with just one month left in the year, we wondered if Horseman, which was down over 16% in the first 11 months, would also have it worst year ever, outpacing the -24.7% return in 2009. We now have the answer, and it’s no… but just barely. After a 7.81% drop in December, Horseman Global has closed the books on 2016 with a 24.03% net loss, its second worst in history.
So what happened? Instead of paraphrasing, here is the answer straight from the horse’s mouth.
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Horseman Capital December Letter by Russel Clark, CIO
Your fund lost 7.81% net this month to end the year down 24.03% net.
So how did a year that started so well end so badly? Since the Trump election, we have lost money in currency, bonds, and the short book. But in total over the year, we have made money in bonds and currencies. The real losing trade for 2016 has been short equities.
The losses in the short book came during two periods. The first was in February and March of this year. The bear market in commodities and emerging market had a huge reversal, and they have continued to rally all year. The fund held on to these shorts for a while, but in March decided that the dollar was in a weakening bias, and closed emerging market and commodity shorts, and in fact reversed Brazilian short positions to go long. The flip side of this was to move the fund to European and Japanese short positions, and to be long Euro and yen.
This strategy worked well into Brexit, but with the Trump election, the previously well performing short book in Europe and Japan as well as airlines reversed. Unusually, a strong dollar has also been accompanied by higher commodity prices and bond proxies have held up despite the selloff in bonds.
Shorting has been hard this year. I would say that most of my shorts have been down 30% at some point this year, but the majority have finished the year much higher. A good proxy for this would be the Dow Jones Transport Index. This was down 16% for the year in January. From the lows, it has rallied as much as 48%, to close the year up 20%.
One of the reasons that I run the fund the way that I do is that I do believe that a Chinese financial or currency crisis (probably both at the same time) seems inevitable. The implications of this to me have been that commodities would do badly, deflation would become prevalent, and exporters to China would suffer. Given the unreliability of Chinese data, I feel it right to be bearish on China as long as its banks continue to trade sideways to down, as they have done since 2011.
For many years, I have been able to play into market trends that would also do well in a China crisis. But suddenly, with the election of Trump, the broader market trends are all the opposite of how you want to be positioned in a China crisis. Higher commodity prices, higher US yields, and cyclicals over staples. One answer would be to go to cash and wait it out. The problem with this is that, if you believe that a Chinese crisis is inevitable then what would be the signals to begin to put on a China crisis trade? The answer would be capital flight from China, rising Chinese yuan deposit rates in HK (as this is a commercial rate, not set by the PBOC), and increasing market talk of capital controls. Unfortunately, these are all happening today.
I prefer using non-equity market indicators in deciding whether to close a short or not. And most of the non-equity indicators I look at tell me to be net short. However, I do not like to short a sector, market or stock where the 200 day moving average has begun to trend higher. Most of my shorts were well behaved prior to the Trump election, but with the move in the markets, that is no longer true.
So despite what I think, we are beginning to close parts of our short book. We have largely exited airline related shorts. We have also closed staple shorts, as they were largely there to protect against a fall in yields, which they did to a degree. We have also closed many developed financial shorts to make some space for Chinese financial shorts. We have also reduced the bond position and moved much of in to German bunds. The majority of the bund position is in 5 year bunds, the buy case I made a few months ago.
2016 has been a chastising year. The sharp move higher in yen, and the flattening of the yield curve in the US led me think we were in a period of stagnation in the US. Spreads on auto lending and emerging markets while slightly elevated, were nowhere near levels I would have associated with a buy signal, while a continuing RMB devaluation was in the backdrop. That a Trump election has caused a strong dollar, higher yields, strong equities and strong commodities caught me by surprise. Market trends now seem higher despite what looks like a dangerous background to me. Your fund will be reducing its gross, but still long bonds and short equities.
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On the other hand, despite some short covering, it appears that Clark still has a ways to go.
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