© 2016 CME Group. All rights reserved.
Macro Financial Modeling: A
Private Sector Perspective on
Research Challenges
Blu Putnam, Chief Economist & Managing Director,
CME Group, Inc.
June 2016
© 2016 CME Group. All rights reserved.
Investment advice is neither given nor intended
The research views
expressed herein
are those of the
author and do not
necessarily
represent the views
of CME Group or its
affiliates.
All examples in this
presentation are
hypothetical
interpretations of
situations and are
used for
explanation
purposes only.
This report and the
information herein
should not be
considered
investment advice
or the results of
actual market
experience.
2
© 2016 CME Group. All rights reserved.
Futures trading is not suitable for all investors, and involves the risk of loss. Futures are a leveraged investment, and because only a percentage of
a contract’s value is required to trade, it is possible to lose more than the amount of money deposited for a futures position. Therefore, traders
should only use funds that they can afford to lose without affecting their lifestyles. And only a portion of those funds should be devoted to any one
trade because they cannot expect to profit on every trade. All references to options refer to options on futures.
Swaps trading is not suitable for all investors, involves the risk of loss and should only be undertaken by investors who are ECPs within the
meaning of section 1(a)12 of the Commodity Exchange Act. Swaps are a leveraged investment, and because only a percentage of a contract’s
value is required to trade, it is possible to lose more than the amount of money deposited for a swaps position. Therefore, traders should only use
funds that they can afford to lose without affecting their lifestyles. And only a portion of those funds should be devoted to any one trade because
they cannot expect to profit on every trade.
Any research views expressed are those of the individual author and do not necessarily represent the views of the CME Group or its affiliates.
CME Group is a trademark of CME Group Inc. The Globe Logo, CME, Globex and Chicago Mercantile Exchange are trademarks of Chicago
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The information within this presentation has been compiled by CME Group for general purposes only. CME Group assumes no responsibility for
any errors or omissions. Additionally, all examples in this presentation are hypothetical situations, used for explanation purposes only, and should
not be considered investment advice or the results of actual market experience.
All matters pertaining to rules and specifications herein are made subject to and are superseded by official Exchange rules. Current rules should be
consulted in all cases concerning contract specifications.
Copyright © 2015 CME Group. All rights reserved.
Disclaimer
© 2016 CME Group. All rights reserved.
Macro Financial Modeling: A Private Sector
Perspective on Research Challenges
Two Market-Based Case Studies
Interest Rates:
Why has unconventional monetary policy
failed to create inflation?
Does market liquidity matter for growth?
Energy:
What are the challenges when the dynamics
of supply and demand are being driven by
ever-changing technologies?
Weather matters, too.
© 2016 CME Group. All rights reserved.
Rates:
Why has unconventional Monetary Policy failed to create inflation
and
Does market liquidity matter for economic growth?
© 2016 CME Group. All rights reserved. 6
$0
$1
$2
$3
$4
$5
US$
Tri
llio
ns
Source: Federal Reserve Bank of St. Louis FRED Database
Composition of Federal Reserve Assets
Long-Term Treasuries
Short & Medium Term
Mortgage-BackedSecurities
Other
© 2016 CME Group. All rights reserved. 7
0
500
1,000
1,500
2,000
2,500
3,000
3,500
4,000
1999 2001 2004 2006 2009 2011 2014
Euro
Bill
ion
s
Source: European Central Bank Monthly Bulletins, obtained through the Bloomberg Professional.
European Central Bank Assets
Securities & Govt Debt
Loans
Other
FX and Gold
© 2016 CME Group. All rights reserved. 8
¥0
¥50
¥100
¥150
¥200
¥250
¥300
¥350
¥400
¥450
Trill
ion
s o
f Ja
pan
ese
Ye
n
Source: Bank of Japan (www.boj.or.jp)
Bank of Japan Assets
Japanese Government Securities
Loans
© 2016 CME Group. All rights reserved. 9
-2%
-1%
0%
1%
2%
3%
4%
5%
Smo
oth
ed
(ex
po
ne
nta
il la
g) o
f Ye
ar-o
ver-
Year
Ge
ne
ral
Co
nsu
me
r P
rice
Infl
atio
n (
incl
ud
ing
sale
s ta
x in
cre
ase
s,
foo
d, e
ne
rgy,
etc
.)
Source: Bloomberg Professional (GRCP2000, JCPNGEN, CPI INDX)
Inflation Trends (Smoothed):US, Germany, and Japan
Japan
Germany
US
© 2016 CME Group. All rights reserved. 10
-3%
0%
3%
6%
9%
12%
19
49
19
53
19
57
19
61
19
65
19
69
19
73
19
77
19
81
19
85
19
89
19
93
19
97
20
01
20
05
20
09
20
13
20
17
Year
-ove
r-Ye
ar P
erc
en
tage
Ch
ange
Source: Federal Reserve Bank of St. Louis FRED Database (PCE, PCELFE). Estimates for Q2/16 - Q4/17 by CME Economics.
US Personal Consumption (PCE) Inflation
Since 1994, Core PCE Inflation has been between 1.0% and 2.4%, averaging 1.7%.
© 2016 CME Group. All rights reserved. 11
-2%
0%
2%
4%
6%
8%
10%
Source: Bloomberg Professional (GJGB10,USGG10YR,
10-Year Government Bond Yields
USGermany
Japan
© 2016 CME Group. All rights reserved. 12
-6%
-4%
-2%
0%
2%
4%
6%
-4% -2% 0% 2% 4% 6% 8%
De
gre
e o
f St
imu
lus
Nominal Interest Rate (Assuming 2% Inflation)
Source: CME Group, Strategic Intelligence & Analytics
Different Interpretations of Negative Rates
Negative Rates are a tax, discourage economic activity, and may be interpreted as a tigher policy -- Non-Linear Thinking
The more negative the nominal rates, the more the stimulus -- Linear Thinking
© 2016 CME Group. All rights reserved. 13
100
105
110
115
120
125
130
Jap
ane
se y
en
pe
r U
S d
olla
r
Source: Reuters (Japanese yen per USD spot FX).
Japanese Yen (vs USD) and the Bank of Japan's Negative Interest Rate Policy
The BoJ's negative rate surprise hit the yen for only 24 hours,then the yen strengthened.
Lower values indicate the yen is appreciating versus the US dollar.
© 2016 CME Group. All rights reserved. 14
0.90
1.00
1.10
1.20
US
do
llar
pe
r Eu
ro
Source: Reuters (USD per Euro Spot FX).
Euro and the European Central Bank's Negative Interest Rate Policy
The ECB's expansion of negative rates resulted in a stronger Euro vs USD.
Higher values indicate the Euro is appreciating versus the US dollar.
© 2016 CME Group. All rights reserved.
Citations Related to Quantitative Easing
Putnam, Bluford H. "Essential concepts necessary to consider when evaluating the efficacy of quantitative easing." Review of Financial Economics 22.1 (2013): 1-7.
Putnam, Bluford H., and Samantha Azzarello. "A Bayesian interpretation of the Federal Reserve's dual mandate and the Taylor Rule." Review of Financial Economics 21.3 (2012): 111-119.
Phillips, Susan M., and Putnam, Bluford H. “A Historical Perspective on the Different Origins of U.S. Financial Market Regulators, Journal of Financial Transformation, May 2016, pp. 86-91.
Putnam, Bluford H., “Evaluating different approaches to quantitative easing: lessons for the future of central banking”, Journal of Financial Perspectives, July 2014 | Volume 2 – Issue 2.
© 2016 CME Group. All rights reserved.
Energy:
What are the challenges when the dynamics of supply and demand are
being driven by ever-changing technologies and weather?
© 2016 CME Group. All rights reserved. 17
0
20
40
60
80
100
120
Pri
ces
Ind
exe
d t
o 3
0 J
un
e 2
01
5 =
10
0
Source: Bloomberg Professional (CL, HG, IO, Most Active Contract Prices)
Oil, Copper, Iron Ore:Finding Trading Ranges in H1/16;
Fears of Ever Lower Prices Dissipating?
Iron Ore
Copper
Oil
© 2016 CME Group. All rights reserved. 18
$0
$30
$60
$90
$120
$150
US$
Pri
ce p
er
Bar
rel
Source: Bloomberg Professional (CLA, COA)
WTI and Brent Crude Oil Prices
Brent
WTI
© 2016 CME Group. All rights reserved. 19
-$20
-$10
$0
$10
$20
$30
$40
US$
pe
r B
arre
l of
Cru
de
Oil
Source: Bloomberg Professional(Brent = EUCRBRDT, WTI = USCRWTIC)
Brent minus WTI Spot Price Spread
© 2016 CME Group. All rights reserved. 20
0
100,000
200,000
300,000
400,000
500,000
600,000
700,000
BTU
s o
f En
erg
y p
er
1 U
S D
olla
r
Source: Bloomberg Professional for prices (CL1, NG1), CME Economics Research for BTU conversion.
BTUs per US$1 by US Energy Source
US WTI Crude Oil
US Natural Gas
© 2016 CME Group. All rights reserved. 21
-1.00
-0.75
-0.50
-0.25
0.00
0.25
0.50
0.75
1.00
90
-day
Ro
llin
g C
orr
ela
tio
n o
f D
aily
Ret
urn
s
Source: Bloomberg Profressional.
Crude Oil vs Equities Rolling 90-Day Correlation
© 2016 CME Group. All rights reserved. 22
$0
$30
$60
$90
$120
1 3 5 7 9 11 13 15 17 19 21 23 25 27 29 31 33 35
US$
pe
r b
arre
l of
Oil
Futures Price Number of Months into the FutureSource: Bloomberg Professional (CL <Comdty>)
WTI Crude Oil Futures Maturity Curves
30 June 2014
11 October 2014
31 December 2014
30 October 2015
26 February 2016
© 2016 CME Group. All rights reserved. 28
-1500
-1000
-500
0
500
1000
1500
52
We
ek
Ch
ange
Bill
ion
s o
f C
ub
ic F
eet
Natural Gas Storage: Year on Year Change
Source: Bloomberg Professional (DOENUST1) with CME Group Economic Research Calculations
1997-98 El Niño Inventory Build
1999-00 La Niña Inventory Drawdown
2015-16 El Niño Inventory Build
© 2016 CME Group. All rights reserved. 29
0
2
4
6
8
10
12
Jan-99 Apr-99 Jul-99 Oct-99 Jan-00 Apr-00 Jul-00 Oct-00
USD
/ M
MB
tuNatural Gas: 1st Nearby Contract Price
Source: Bloomberg Professional (NG1)
© 2016 CME Group. All rights reserved.
Observations from the Practitioner Perspective
Forecasting or Hypothesis Testing:
Practitioners cannot mix past with future data
Pattern Instability:
Dynamic, time-varying probabilistic tools required
When long-term evolution intersects
short-run dynamics -- demographics
Big Data, Small Data, Limited Data:
Appropriate statistical tools for data frequency
Robust theoretical foundation:
Assumptions matter
Institutions and regulations matter
Judgment with quantitative discipline (JQD)
© 2016 CME Group. All rights reserved.
Citations Related to Dynamic Portfolio Risk
Assessment & Portfolio Construction
Quintana, Jose M., and Putnam, Bluford H. “Multivariate Dynamic Models for Financial Time Series: Is the Whole Greater than the Sum of its Parts?”, American Statistical Association 1997 Proceedings of the Section on Bayesian Statistical Science. 1997, pp. 245-250.
Putnam, Bluford H. "Volatility expectations in an era of dissonance", Review of Futures Markets. 2012. March.
Putnam, Bluford H., Global Commodities Applied Research Digest, "Oil Market Dynamics and 2016 Outlook," Research Council Corner, Vol. 1, No. 1, Spring, 2016.