Playing the 'Trump Trade' through a synthetic currency pair

The US Presidential election day is now less than five weeks away and, while Trump and Clinton are on their corners waiting for the second debate on the 9th of October, the amount of market analysis centered on politics is obviously picking up.

Despite politicians’ impact on markets is nothing new, and generally priced ahead into the markets, this year’s election offers more uncertainty than ever. Trump is an unconventional candidate and his entire campaign has offered an almost complete set of shocking, non-establishment, statements. As example, Trump has defined the North American Free Trade Agreement (NAFTA) the "worst trade deal that the US has ever signed" and declared his intention to build a wall along the Mexican border to limit immigration. In parallel, he showed consideration for Vladimir Putin up to defining him as a “strong leader”.

Logically, markets started to discount the implication of a Trump election, with potential political tensions between the US and Mexico, as well as closer ties with Russia. From a currency perspective, such political scenario is reflected by a clear rising trend in the RUB/MNX pair, now renamed as the “Trump Trade”. Indeed, this pair is very likely to reflect the general consensus about Donald Trump’s chances to become the 45th US President.

03-10-2016

However, few brokers can offer the pair directly, leaving the only solution as to create a synthetic currency pair. Now, let’s dig into the details of it. As explained before, a synthetic currency pair is one that is not listed, or not offered by brokers and liquidity providers. Reasons are generally the limited capital flows between the two economies.  

In our case we can create a synthetic pair through two sufficiently liquid pairs such as USD/MXN and USD/RUB. More specifically, we need to sell USD/MXN and buy an equivalent amount of USD/RUB. Once this is done the Dollar positions effectively cancel each other, leaving a long position on the Russian Ruble and a short position on the Mexican Pesos.

There are basically three points to closely watch in a synthetic pair trade:

  • Monitoring: Due to the lack of a direct listing of the pair (in our case, a long RUB/MXN), it becomes necessary to find at least a portal with a clear chart, in order to monitor the trade and analyze it with our own traditional technical analysis tools.

  • Spreads: As with any single currency transaction, there is a spread associated. In a synthetic currency trade we are opening two individual positions, so there will be a spread associated with each transaction. This makes the trade more costly than a liquid one. Therefore, we need to carefully assess how frequently is convenient for us to trade, in order not to push up spreads cost.

  • Interest Rate Differentials: Since there are three countries involved in a synthetic currency transaction, we need to monitor three interest rates as they may negative or positively affect our trade.

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