Set For a Fall?

Posted on by 
The question that’s facing us all
Are stocks getting set for a fall?
Has pundits opining
That red lights are shining
And crisis the crux of their call

It could be they’re finally right
And traders lose risk appetite
But this poet thinks
That absent high jinks
In voting, the market takes flight

As I look across markets this morning, it is difficult to get excited about too much.  While there are several ongoing trends, notably French yields rising, the euro falling and oil rising, across most of the rest of the financial space, my take is that investors are waiting for the outcome of the midterm elections in the US.  Between now and then, I certainly don’t expect peace in either Ukraine or the Middle East, so those situations will continue along, and I must wonder if we will see peace in France either.  (As an aside, this short video is hilarious: What to expect on your next Paris vacation).  Sure, the Brazilians go to the polls this week, and Flavio Bolsonaro appears set to win, completing the sweep of right leaning governments across South America, but other than the BOVESPA and the BRL, which have seemingly priced in that outcome based on the first round voting from two weeks ago (see chart below), it is not clear what else that vote will impact.

Source: tradingeconomics.com

In 2016, I forecast Donald Trump would win the presidency after watching the Austrian presidential election and the Brexit vote, both of which demonstrated, to me at least, that people were tired of the situation and wanted change.  My take on the current electoral cycle is that left wing parties around the world are increasingly under pressure as the violence that their followers promulgate is not appealing to most people.  We have seen that in Germany, where AfD, despite extraordinary efforts by the CDU and Social Democrats have won recent state elections and we have seen it in France where Marine LePen has seen her Kalshi odds of winning the vote next April rise to 52%.

It is this global trend that underlies my call that the Republicans retain both the House and the Senate.  Most people don’t want to see their cities burn and that has become closely aligned with the left as of late.

So, let’s look at the markets that are moving, starting with French bonds.  To give a sense of where we are I had to dig a bit to find a longer-term chart, rather than just the past 5 years of data.  Below, you can see that French 10-year yields have risen to levels not seen since pre-GFC and even during the Eurozone bond crisis, things never got this bad.

Source: marketwatch.com

The spread over German bunds is up to 155bps with history having shown when that reaches 170bps or so, the ECB will step in.  I wonder though, unlike Mario Draghi who had the ultimate respect of the market, can Madame Lagarde turn the tide without spending an enormous amount of money?  I’m skeptical.  Yet there is nothing occurring in France that would have one believe the situation is going to change.  Recall, France has a long history of protests, and they can last for a very long time and get bloodier than they are now.

If we turn to the euro, while it has stabilized over the past two weeks, the recent trend here has been clear, lower, as you can see from the below chart.

Source: tradingeconomics.com

I think this is of a piece with the French yield story, although as I have maintained for a while now, the Eurozone economy continues to lag amid an ongoing energy crisis that was created by their own policies.  Absent a complete change of heart from the net zero insanity that drives what little decision making exists there, it is very difficult to see a bright future for the single currency.  In fact, it appears the leadership there recognizes this fact as they have just outlawed cash transactions in excess of € 10,000 as they seek to impose a CBDC and take more control of spending and money, overall.  I would argue this is a bright flashing sign of policy failures from the past.  The statistic I saw that cemented this view is that since 2010, when the Eurozone and the US had similar sized economies, the US has grown 50% faster with incomes changing apace, as per the below chart posted on X.

As to oil, well, neither conflict appears to be in its final stages and, if anything, both appear to be seeing increasing military activity.  As I wrote yesterday, I believe Iran is trying to goad President Trump into reacting ahead of the election as they believe it will undermine his prospects, but as of yet, Trump has not responded.  If I look at the chart below of WTI over the past year, while it is well off its summer lows, it is also well below its spring highs.  My observation from driving some 3000 miles round-trip a few weeks ago is that there is still significant traffic of all types, passenger and commercial, on the roads.  People may grumble, but they have not stayed home.

Source: tradingeconomics.com

This is not an attempt to say that all is well in the US, there are clearly manifest fiscal and spending issues as well as deeply partisan divides on nonfinancial issues.  I find it interesting that political threats are being made by one party now, a sign to me that they see their base support waning and are becoming desperate.  In fact, in the presidential debate in Brazil, Lula threatened Bolsonaro with jail if Lula wins.  Politics has always been a blood sport but there was a genteel veneer for a while, that has clearly disappeared.

This brings me back to my view that until the US election, most markets here are going to tread water as the ramifications of the various potential outcomes are quite large.  Perhaps all the put buying last Friday was not a response to a Black Monday reprise, but a sign of increased portfolio protection being added ahead of the vote.

Other than those three markets, I didn’t think there was much worthy of discussion.  Earnings continue apace and there are more good numbers than bad.  Everybody hates the metals and bonds, despite the strong belief that the US fiscal situation is untenable, have found a new home.  The Fed next week is a nonevent in my mind, as it seems clear they will not act.  So, whatever your view, just make sure to get out and vote.  These prices are going to be available for trading for a few weeks yet.

Good luck

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Smote

Posted on by 
A juxtaposition of note
Is France and the Albertan vote
The French are imploding
Midst radical goading
While seperatists’ visions were smote

I fear, though, that o’er the next weeks
Most risk market valleys and peaks
Will highlight reactions
To campaign distractions
As we watch the havoc that wreaks

While equity markets in the US were mixed yesterday beneath the shadow of the anniversary of Black Monday 1987, the rest of the world is having a tougher go of it this morning.  Last night, as you can see from the below Bloomberg screenshot, the major Asian markets all fell, and we are seeing similar price action in Europe this morning.

In fact, if you look across the regional Asian bourses, they all fell as well with one outlier, Indonesia, which after its 15% decline in the previous three sessions amid fears it would be removed from the MSCI indices, rose 5% upon hearing from the securities regulator that changes were afoot to placate MSCI, thus opening the way for some opportunistic buying of the dip.  But otherwise, it’s been a very red day.

Arguably there are two drivers of this market angst, continued high oil prices and the uptick in violence across Europe as those ‘student’ protests have evolved into a much wider spread action being egged on by numerous explicitly left-wing groups.  In fact, Jean-Luc Melanchon, the far-left Parliament member running for president there is their biggest cheerleader, although it currently appears that in the two round election process there, the result will be Marine LePen, the National Rally candidate from the right who will be the next French president.  But that election is still six months away, so much can happen between now and then.

However, that is all of a piece with the runup to the US midterm elections to be held two weeks from today as the President barnstorms the nation supporting mostly Senate candidates around the country.  While the current polling shows the Democrats have a lead and are likely to win the House with a decent chance of taking the Senate, the history of polling since Donald Trump put his name on the ballot is that the Republican vote is consistently undercounted.  I see no reason that situation has changed this year, so my take is the race is much closer than the punditry currently explains.  In fact, my call several months ago was that the Republicans will hold the House and actually pick up a seat in the Senate based on the candidates on the ballots around the country.  Obviously, that is far out of consensus, but that is my sense.  I’ve been wrong before and will be again, but at least I’m not wishy-washy!

Perhaps the most interesting electoral outcome was yesterday’s referendum in Alberta, Canada regarding the desire of the population there to put an actual separation referendum to a vote.  It appears, though, that the remainers won resoundingly, with more than 75% of the vote, so for now, Canada remains in one piece.  Perhaps that helps explain the Loonie’s recent performance as it has, along with NOK, been the best performing currency for the past week, gaining 1.5%.  Of course, oil’s rally helped both those currencies as well.

Source: tradingeconomics.com

Don’t misunderstand me, there is still plenty of discussion regarding AI and whether that trade is over with violent disagreement between the bulls and the bears.  Meanwhile, the most disturbing, thing is that so much activity is taking place in the options markets, with Friday seeing a record volume in S&P 500 puts as per the below chart (taken from Market Vibes)

Having been an option trader for a very long time, my concern is that most people do not understand the nature of these contracts and the possible ramifications of the growth in activity.  It wasn’t that long ago that the GameStop call buying wound up impacting the entire market, significantly impacting the understanding of fair value.  The fact that this was put buying tells me many folks jumped on the Black Monday theme, so perhaps it will all fade away soon, but given the absolute increase in leverage we have seen (as an example, Goldman Sachs made more money in securities lending than trading last quarter) I fear there are large potential pitfalls ahead.  Perhaps because I was an options trader, I rarely use leverage in my PA, only if I am buying some protection, but I believe I am the exception these days.

On to other markets.  Bonds, for instance, are still there and have not imploded yet.  Treasury yields (-1bp) did climb a bit yesterday, but as you can see from the below chart, remain well off the recent highs.  Given there is virtually no data of importance, and the Fed is in their quiet period, it seems unlikely that we see much movement here this week.

Source: tradingeconomics.com

However, the same is not necessarily true for some other bond markets, notably France (+3bps) which is pushing its recent spike high and showing no signs of reversing course.  Given the ongoing violence and the fact that the government is not merely ineffective, but essentially broke, this should be no surprise.  The spread with German yields is above 150bps and I see no reason for that to compress anytime soon.  Rather, widening further makes more sense.

Source: tradingeconomics.com

In the commodity space, oil (+2.0%) is higher again this morning with yesterday’s decline seemingly the aberration.  Nothing has really changed in the Iran situation, nor in the Ukraine/Russia situation with Ukraine continuing to attack Russian refinery capacity.  Perhaps the most interesting thing in the energy markets is that gasoline has broken away from crude in its price action as per the below chart.  Perhaps that is the end of summer driving season impacting things, or maybe there isn’t the shortage that people believe.

Source: tradingeconomics.com

As to other markets, nobody cares about the metals markets anymore except the dyed in the wool long-term bulls (like me) but price action has been desultory at best.  Their time will come again.  And FX?  It’s pretty dull here as well.  There was excitement 3 weeks ago when the DXY broke above its range top near 102.00 and the technicians all thought that it was going to head a lot higher.  But it was not to be and here we are, back below that key range top and it is a tertiary conversation at best.

Source: tradingeconomics.com

While the long-term picture hasn’t changed in my view, as economic activity continues apace in the US relative to the rest of the world, it’s just not that interesting right now.

On the data front, Housing Starts (exp 1.30M) and Building Permits (1.39M) are today’s numbers but tend not to be market movers.  And that’s really all there is for today.  To the extent the FX market is going to do anything, it will be a response to something in equities, but as of this time (7:30) US futures are mixed to slightly softer, hardly a harbinger of anything substantive.  I think it’s setting up to be a dull day.

Good luck

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Not Paying Heed

Posted on by 
Seems markets are not paying heed
To France where the riots proceed
Instead, it’s AI
And bonds gone awry
Where fears are replacing past greed

So, is this the end of the run
Which two decades past had begun?
Or is this a blip
Which soon will round-trip
As recent downdrafts are undone?

While there are always a group of voices singing a song of doom right around the corner, Keynes’ saying that markets can remain ‘wrong’ longer than you can remain solvent continues to be the reality.  One need only look at the barchart.com 20-year chart of the NASDAQ below to realize that since the GFC, while there have been two pretty sharp blips along the way, Covid and the Liberation Day, with the latter really short-lived, this is a chart that has been largely unidirectional.  Everyone who has explained that valuations are too high, and that earnings are shaky and that rising interest rates will undermine the structure of the market has basically been wrong for nearly 20 years.  I understand that there were calls for another Black Monday today, as this is the 39th anniversary of that remarkable day, but is this time different?

Those four words are the most dangerous in markets, there is no question about that.  You can make the case that AI has changed everything about the economy and that the old rules are no longer valid, but whatever AI’s capabilities may turn out to be over time, it’s still people who control the money, and the one thing of which I am certain is that people haven’t changed in the past 20 years.

Now, last week was a tough one for the Pollyannas who have been cheerleading the rally, and you can see that in the history of the CNN Fear & Greed Index below.  It has fallen quite sharply, from 46 to 18 in just a week.

Arguably, part of that has been the movement in the price of oil (-0.6%), which while modestly lower this morning, has rallied >14% during the past two weeks as Iran has increased its attacks on ships in the Strait of Hormuz while the Houthis have increased their attacks on Saudi Arabia.  It appears they are trying to goad President Trump to respond in an effort to help the Democrats take control of the House and the Senate, but so far, Trump has let things play out.  I suspect that no matter who wins the election, come November 4th, things in the Persian Gulf are going to intensify.  In fact, it would not surprise me if the Democrats win that the military campaign will be that much more intense.

Adding to the pressure of higher oil prices were hotter than expected inflation data last week with both CPI and PPI printing at higher-than-expected numbers.  But a funny thing happened, bond yields stopped climbing, at least for the moment, as it seems investors are both far more comfortable with the current yield structure as real yields reach multi-year highs, and the riots in France, that seem to be spreading elsewhere in Europe, have investors turning away from European sovereigns as an alternative.  After all, 10-year Treasury yields are down by 30bps from the highs reached just two weeks ago.

Source: tradingeconomics.com

This is not to imply that things are great, clearly multiple problems and concerns remain, but I still cannot see the end of days.  So, let’s turn to the market behavior from last night and this morning as we open.

Friday’s weakness in the US raised concerns that we were on the cusp of the end of the bull market run.  But as we have consistently seen over the past many years, those fears have abated just as quickly as they arrived.  Overnight, equity markets were mixed in Asia as while the Nikkei (-0.6%) slid a bit and that weighed on India (-1.2%), Taiwan (-0.6%) and several other smaller regional markets, China (+0.5%), Korea (+1.7%) and Australia (+0.4%) all managed gains.  As an aside, recall I mentioned the Jakarta Index last week?  Well, as you can see below, investors are still fleeing the country with the index now down -15% in the past three sessions.

Source: tradingeconomics.com

However, there is a region that is feeling the heat from the rioting in France, and that is Europe.  The below screenshot is eloquent in its depiction of today’s trading on the continent.

Apparently, there are several concerns, notably the fact that growth continues to be anemic while fiscal spending grows uncontrollably, but then the rioting in France, which seems to be spreading is adding pressure to governments across the continent.  As to the US, both SPX (+0.6%) and NASDAQ (+1.1%) futures are higher as I type (6:45am), hardly the stuff of Black Monday.

Perhaps the bond market is making a better case for apocalypse today.  Alas for those seeking such an outcome, other than French OATs (+8bps and now the widest spread vs. Germany since the Eurozone crisis in 2012, see below) which have dragged Italian BTPs (+4bps) higher as well, the rest of the continent has seen only a marginal movement today, +1bp or 2bps.

Turning to the commodity sector, while oil, as mentioned above, is pretty benign this morning, a note about Natural Gas, (+1.0%) which is seeing increased demand as the weather cools off.  Now, even though we have seen prices here increase nearly 20% since early August, that is a seasonal outcome entirely expected.  And let’s face it, $3.15/MMBtu is still an order of magnitude lower than European prices of nearly $30/MMBtu.  If you wonder why European growth is stagnating, look no further than this.  As to the metals sector, modest gains this morning are the order of the day, (Au +0.1%, Ag +1.2%, Cu +0.3%).  Nothing has changed my longer-term view that the supply-demand imbalance in metals markets remains firmly in the lack of supply situation.  Ironically, in oil, it is just the opposite, with ample oil around, it is simply the politics of war that is creating this price event.

Finally, the dollar is mixed this morning, with commodity currencies like AUD (+0.6%), CAD (+0.4%), NOK (+0.25%) and ZAR (+0.25%) all gaining while the euro (-0.15%) and yen (-0.1%) slip a bit.  It doesn’t feel to me like FX is the focus right now.  Rather bond markets and the question of the next Black Monday have a lot more press.  I imagine the euro will be an interesting case study going forward depending on how the ECB responds to the ongoing unrest in Europe.  Can more fiscal spending supported by more ECB bond buying be far away?  I have a feeling the euro may be setting up for another leg lower.

On the data front, it is an extremely quiet week:

TuesdayHousing Starts1.31M
 Building Permits1.40M
ThursdayInitial Claims200K
 Continuing Claims1712K
 Leading Indicators-0.2%
FridayFlash Manufacturing PMI55.5
 Flash Services PMI57.9
 Michigan Confidence46.3

Source: tradingeconomics.com

With the FOMC meeting a week from Wednesday, there are no Fed speakers this week.  Interestingly, despite the higher-than-expected inflation readings last week, the market is pricing only a 15% probability of a hike although there is virtual certainty that there will be a hike in December.  One other data issue to note was last night’s Chinese data as follows:

The situation there remains one of weak domestic activity alongside excess manufacturing capacity with China’s growing Trade Surplus becoming an issue in more and more nations around the world.  Alas for President Xi, the two choices to achieve his GDP goals are the current mercantilist process or a true effort to focus resources on the Chinese people.  I don’t see any changes coming despite some lip service to the contrary.  Even the WSJ wrote about it this morning.

My view remains that while there are many problems extant around the world, both economically and politically, we will get through this period just like we have made it through tough times in the past.  And undoubtedly, the US remains extremely well positioned to continue its economic strength given the willingness to utilize its natural resources.  While there are political divisions here, they don’t rise to the level of what we are currently witnessing in Europe.  Overall, it is hard not to like the dollar as the cleanest dirty shirt in the laundry for a while yet.

Good luck

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Screed After Screed

Posted on by 
Seems I just can’t leave you alone
Lest havoc and fear you’ll have sown
So, now that I’m back
Let’s try to change tack
And work on a positive tone

But seriously, what I read
Is doomsters in screed after screed
All preening and bragging 
That all their chin-wagging
Was right while the markets recede

All I can say is, it’s so good to be home.  While the past three weeks have been enjoyable and traveling across half the country by car offers a great perspective on just how amazing this nation really is, I’m sure all of you will agree that there is nothing more comfortable than sleeping in your own bed.  And this is just as true for Marvel, as it is for the rest of us.

But seriously, I appreciate your patience as it is tough to keep up while driving 10 hours a day.  But now that I’m back, I think it is worthwhile to take a look at how things have moved since I first left back in late September.  Between closing on Friday, September 25 and last night at 9:00pm, these are the moves across major markets that I discuss.

Frankly, it is hard to look at this and conclude that the world is ending.  In fact, despite constant discussion about how the AI (or is it SI?) trade is imploding, the NASDAQ has fallen just -2.5% over the past three weeks and is less than 5% from its all-time highs.  I don’t see the reason for all the excitement.  In fact, the biggest mover, by far, has been silver, which is the least liquid and least important of all these markets.  Despite the end of days discussion about Treasuries, yields have slipped, as have JGB and Bund yields.  One other thing to note is the decline in gasoline prices given the political implications.  I’m confident the White House would like to see them fall further, but there is no indication there is a supply issue there.

I’m just trying to level set here.  I’m sorry if I’m not breathlessly describing the apocalypse, but I just don’t see it. Perhaps I’m simply blind.  But the data continues to lean toward economic growth, not weakness, at least based on the Retail Sales and Initial Claims data we saw yesterday, as well as the ISM and other numbers.  And inflation, to the extent that growth is a driver of that, remains well above the Fed’s 2% target, although based on its causes (read the Inflation Guy’s blog to really understand it), hiking rates is not going to be the solution to inflation, although it certainly has the opportunity to impede growth.

Anyway…

The rules of the road used to be
That nothing defied gravity
But Elon replied
We oughtn’t be tied
To earth, and his car, he set free!

I am sure there is a parable in the contrast between the doom and gloom that consistently dominates the discussion, the vibe as it were, and the fact that the richest man in the world continues to build extraordinary things.  I’m sure you have all seen the video clip of the new Tesla roadster that actually flies, but if not, it’s right there.  No matter your view of the man, you cannot dismiss his extraordinary genius when it comes to building things.  I guess the question is, will the flying car be a metaphor for the economy?  The markets? Or will it crash a burn?

So, now let’s turn to the markets, and I feel like bonds are the right place to start.  The below chart of the 10-year over the past week is remarkable given the CPI, PPI and Retail Sales data released.

Source: tradingeconomics.com

The huge gap was the immediate response to Wednesday’s CPI release which came in a tick hotter than forecast.  Yet much higher-than-expected PPI and Retail Sales data saw yields decline sharply.  Ostensibly, I continue to read about a flight to safety trade, but that seems at odds with the idea that Treasury debt is going to implode because there is so much of it.  I wish the punditry would get their stories straight.  No matter the cause, yesterday saw a complete reversal of the yield rally from Wednesday.  Maybe, and I’m just spit balling here, the punditry doesn’t have any idea about the way things work but simply try to drive a preferred narrative.  And given the underlying visceral hatred of the US administration, specifically President Trump, are very keen to do all in their power to make things worse for him.

Regardless, it appears that despite the higher-than-expected inflation data, yields at current levels represent an attractive opportunity to some investors.  While this morning, 10-year yields have bounced 4bps from yesterday’s closing levels, as I showed above, they are still lower on the month.  And it is no surprise that European sovereign yields have also rebounded this morning, although more on the order of 2bps across the board.  Frankly, it seems to me there is far more risk in owning Bunds or OATs or BTPs than in owning Treasuries.  At least the US is growing pretty well compared to the utter lack of growth in Europe.  Exactly how are the French going to repay their debt, or maybe more importantly service their debt, if growth remains <1%?

As to equities, they, too, have stopped tumbling for now with markets higher yesterday in the US and almost the entirety of Asia and Europe this morning with the one glaring exception of Indonesia (-10.8%) which suffered from MSCI explaining they could downgrade the country to standalone market status (a decisive negative outcome regarding the lack of transparency and liquidity) offering the potential for significant capital outflows.  I understand that there are AI names that have had problems and the banking sector, despite mostly strong earnings, has underperformed, but the end has not shown itself yet.

Gold (+0.2%) is another market that seems confused, or at least the trading of it seems so, as its relationship with oil (+0.1%), which had a very clear negative correlation for quite a while, arguably since the beginning of the Iran war, (although according to Grok, the numbers show that correlation to be -0.1% to -0.15% over the past year, hardly a strong relationship), are both higher this morning.  But looking at the chart below, the direction of travail since the summer has been largely opposite directions.

Source: tradingeconomics.com

Obviously, oil is a far more important commodity than gold, which can be seen as a sentiment indicator more than anything else.  But despite the recent rebound in oil prices, economies around the world seem to be figuring out how to cope.  Now, the recent uptick in Iranian and Houthi attacks on ships in Hormuz and Saudi infrastructure are having a clear impact and given the fact that the IRGC literally wrote an open letter to the US to elect Democrats to try to impede President Trump’s ongoing campaign, I have to believe things are getting a lot tougher over there.  It is not impossible to believe that after the election, especially if the Republicans hold both Houses of Congress, that the Iran conflict may end soon.  It does seem that the blockade has starved Iran of the one thing they need, capital, and that is running out quickly.

As to the FX market, I find it interesting that even though yields are rising around the world, the dollar has been the main beneficiary here.  In the wake of the CPI and PPI data, the probability of a rate hike at the end of the month has jumped to 85%, as per the below cmegroup.com table.

At the same time, Chairman Warsh spoke last night at the IMF meeting in Bangkok but once again, refused to discuss potential Fed moves going forward. “I don’t prejudge meetings. I don’t believe in saying now what I might do at the meetings we have in the balance of this year. It’s a new chapter at the Fed, and we’re not in that business anymore.” While virtually every other member of the FOMC likes the fame/notoriety they get by speaking, Warsh has remained true to his initial comments.  I guess the question is, has the data been sufficient to drive another hike?  It all depends on the membership’s view of economic activity.  If they see strength, I imagine that is what we will get despite the fact it is unlikely to do anything positive for the economy.

Back to the dollar, while it has backed off a bit this morning, with the DXY (-0.85%) the leading decliner despite the fact its components haven’t moved nearly that much (EUR -0.35, JPY unchanged), I guess broadly it is following the 10-year yield.  It is worth noting that while most currencies have not done very much in my absence, (MXN +0.1% today, -5.6% since Sept 25) has suffered on expectations that Banxico is going to cut rates further, thus reducing one of its key supports, the carry trade.

On the data front, this morning we see IP (exp 0.4%) and Capacity Utilization (76.5%).  Those tend not to be market movers so as is frequently the case, the FX market will take its cues from equities and bonds.  Right now, equity futures are essentially unchanged, so if the positivity we saw yesterday fades, perhaps the dollar will rally back some on that flight to safety trade.

Good luck and good weekend

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Growth Outlives Politics

Posted on by 
As much as the pundits keep trying
To tell us that nobody’s buying
The Dow hasn’t crumbled
And though bonds have stumbled
There’s no sign that they’re really dying

But negative stories get clicks
And that’s how the punditry ticks
Though there are concerns
‘Bout short-term returns
O’er time growth outlives politics

Over the past several sessions, basically until yesterday afternoon, the vibe was distinctly negative.  Oil prices had rebounded, bond yields continued to rise and there was red all over the equity market screens.  It’s funny, the dollar was rallying and one explanation was investors were fleeing to the dollar for safety, but if they were, it wasn’t clear what they were buying with those dollars.  It wasn’t stocks, bonds or gold, so I guess they were holding cash.  That seems odd in this day and age, but maybe.

The punditry was in its glory, though, explaining how everything that every government was doing, especially the Trump administration, was destined to fail and that we all must be very afraid.  And then it stopped.  Certainly, a key catalyst to this reversal of fortune was President Trump’s tweet late yesterday morning as per the below:

However, while there was an initial spike on the news, risk sold off further for the next hour, as you can see in the below chart, until the Iranians confirmed discussions were ongoing.  It seems that while neither Trump nor Iran is believed by themselves, markets are willing to take a flyer on the two of them saying the same thing.

Source: tradingeconomics.com

And that’s basically where we are this morning.  All the doom and gloom has been put on hold for the moment because, once again, hopes have been raised that there will be a conclusive outcome to the ongoing conflict in Iran and energy markets will be able to get back to a more normal functioning process.  Of course, the Russia/Ukraine war continues and that is also having a significant impact, maybe more than Iran, as Ukraine continues to destroy Russian refining capacity. But the punditry will wait until Iran is settled before they refocus there for their next negative stories.

But as I type this morning, that’s really all there is.  The election remains background noise so far, at least from a market perspective, and likely won’t have a direct market impact until the results are in on November 4th.  The dearth of data this week meant there were no economic fundamentals on which to define a view, so the old trend, which had turned negative, was the default position.  Now, if things really do settle down in Iran, I suspect that will drive renewed interest in both stocks and bonds while the dollar drifts lower.  But we shall see.

In the meantime, let’s tour how markets have responded to the change in tone.  Equity markets are looking much better this morning as per the below screenshot from tradingeconomics.com.  Other than the Nikkei, which was basically unchanged, green is this morning’s color.  And while the Nikkei slipped ever so slightly, every other index in Japan rose.

Maybe we are not all doomed after all.  In the bond markets, yesterday afternoon in the US saw yields back off sharply from their recent highs, falling -7bps on the day although they are unchanged this morning.  But that price action has been the driver around the world as you can see in the below Bloomberg screenshot.

This is not to imply that everything is better around the world, clearly there are still manifest fiscal and monetary issues as well as little things like riots on the streets of France, Belgium and Spain, but those are not yet impacting markets, I believe.  (Of course, if I were Emmanuel Macron, I would be making sure I have an escape route given the outcome of the leadership during the last French Revolution!)  But it seems that at current levels, investors are getting comfortable with the idea of owning bonds.  And the other positive for the bond market is The Economist’s cover this week, a near perfect negative indicator, looks like this:

In the commodity markets, oil (-0.9%) is continuing yesterday afternoon’s slide and sitting right on $90/bbl.  Not surprisingly, between the slide in oil and the fall in interest rates, precious metals markets have rebounded nicely (Au +1.25%, Ag +2.25%, Cu +2.0%).  Certainly, this price action is consistent with what we have seen of late.

Finally, turning to the dollar, it is the one thing breaking the trend as it is marginally higher this morning vs. most of its G10 counterparts.  Recent price action would have you think it should sell off with oil falling and gold rallying, but maybe the stories about fleeing to dollars is correct.  The two outliers here are BRL (+0.5%) and ZAR (+0.5%) with the former seemingly anticipating a Bolsonaro electoral victory and a move toward more conservative fiscal policies while the latter is simply responding to both oil’s decline and gold’s rise.  I continue to have a hard time getting excited about a significant move in the dollar for now although also believe that modest strength over time is the way forward.

On the data front, yesterday’s Initial Claims came in low, just 197K, which continues to point to a labor market that is not under huge stress.  I wonder, too, how quickly the impact of the administration’s crackdown on H1-B visas is going to be seen in the data as the numbers I read this morning, 700K US workers were laid off in the tech space and the same number of H1_B visa’ed immigrants were hired in their place could portend another step lower in this series.  As to this morning, Michigan Sentiment (exp 47.6) is the only thing on the docket.  However, I wonder how much of that particular indicator is a political statement vs. how much as an economic outlook.

The weekend is upon us, and I see no reason for this morning’s positive vibe to dissipate.  I know all the arguments about the lack of breadth in the market and the massive dichotomy between the tech space and the rest of the economy, but following the numbers, there is no indication to me that the end is nigh.  While I disagree with much of Keynesian monetary philosophies, (I lean Austrian there) he was certainly correct when he told us that ‘markets can remain irrational longer than you can remain solvent.’  I’m not betting against a continuation of the equity rally, and am long bonds as a trade, thinking yields have peaked, at least for a while.

Good luck and good weekend

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On the Boil

Posted on by 
The Minutes were pretty benign
As everyone toed the hike line
But this was old news
And Payrolls did bruise
The view Funds would soon rise and shine

As well, Bessent sold 10-year debt
And yields, buyers’ hunger, did whet
It seems there are some
Who think it’s not dumb
To grab these real yields they can get

And lastly, this morning’s ‘bout oil
Whose price is now up on the boil
The Strait of Hormuz
Is not safe to cruise
And this, major markets, did roil

Starting at the top, the FOMC Minutes were released yesterday and it’s not clear to me how much we learned.  The unanimous vote to raise rates was accompanied by commentary that prices were an ongoing concern while the labor market seemed ‘balanced’.  Of course, that was prior to the release of last week’s NFP report which showed that the balance may be tipping toward the downside, but that was just one report.  The weekly claims data (exp today at 200K) hardly speaks to a serious problem there.  As I type this morning, the probability of a hike at the end of this month is ~20% and has been so since last Friday’s release.  Frankly, I don’t think we learned a great deal here.

Turning to yesterday’s 10-year Treasury auction, though, things were a bit more interesting.  You may recall before my hiatus that there was a 5-year auction that had a relatively long tail, meaning that the final yield was 3.1 basis points higher than the when-issued price at the time of the release.  That was seen as a very negative sign for the bond market.  Well, yesterday, the 10-year auction saw a 1.7 basis point improvement on the when-issued price, a sign there was much more demand than anticipated.  In fact, dealers took down only 2.5% of the auction with the rest going to investors of all kinds.  That type of price action is quite positive and certainly puts paid to any discussion that investors don’t want to own Treasuries.  It seems that at 5.3%, with a real yield of 2.5% or so, investors feel quite comfortable owning Treasuries, despite all the talk of too much debt leading to a calamity.

But today is all about oil (+4.5%) and the recent increase in attacks on ships through Hormuz.  While last week, data showed that the flows had resumed to nearly pre-war levels, that has changed.  Add to that the news that President Trump has ostensibly asked the Pentagon for updated plans for renewed military action soon, and nerves are jangling across markets.  The below chart of WTI shows the reversal of price declines, but we are only back to levels seen last week.  This is not extraordinary, especially given the volatility we have seen in this market.  In fact, as you can see in the chart, the 1 week move shows oil higher by just 0.7%.

Source: tradingeconomics.com

But every day is a new one, and today’s markets are being driven by the oil situation.  You can see that clearly in the equity markets via the screenshot from tradingeconomics.com showing every market that is open (Toronto and Mexico are still closed) lower on the day by a pretty substantial amount.

Adding to the woes in the oil market is that the first hurricane of the season, Isaias, has formed in the Gulf of America and has forced the shut-in of about 25% of drilling activity there.  Of course, that will be gone by Sunday and those rigs restarted, but for now, no bueno.

If we head back to the bond market, despite the strong auction results, this morning we are seeing yields rise everywhere in the world, albeit not as dramatically as yesterday.

Source: Bloomberg.com

One thing to note is that the spread between German and French debt has widened to its greatest gap since the Eurozone bond crisis in 2011 as concerns over French fiscal policies are really starting to bite.  The protests in the street there are not helping, and investors are looking forward to the presidential election next spring where both the leading candidates are talking about lowering the retirement age to 60 from the current 62.  I assure you, that will not help the fiscal situation either.

But let us consider this for a moment, why yields are rising.  Is it entirely inflation concerns or is it something else?  Earlier this week I discussed the fact that inflation breakevens remain pretty well anchored in the 2.3% to 2.5% range, indicating inflation is not the main concern.  Rather, it appears to me that the factors driving yields higher are far more positive, namely stronger growth as currently symbolized by the hyperscalers borrowing massive amounts of money for their AI efforts, but arguably a reflection of the fact that the US economy is growing strongly.  Izabella Kaminska (@izakaminska on X), former financial editor at the FT, made a very good point this morning on this subject.

In essence, running it hot means stronger private sector growth pushing demand for financing higher.  However, it should also push up tax revenues reducing requirements for government borrowing.  It can work out so they offset, but that will be tough, so there are going to be bumps.  But, with Kevin Warsh not signaling great concern over the higher yields in the bond market, rather than financial repression (President Trump’s favored strategy), perhaps we just get back to a functioning economy and market with less interference from the government…well, one can always hope!

It should not be a surprise, then, that the dollar remains a major beneficiary of the current state of affairs.  This morning it is higher yet again, albeit not dramatically so, only 0.1% against most major currencies.  But let’s talk about the strength of the dollar.  Is it really that strong?  You all know how much I love to take a longer-term view on these things and this is no different.  So, look at this chart of the DXY from barchart.com from its inception in 1974, and tell me if you think the dollar looks “strong”.

I remember getting the data and the average of the DXY is around 104.00, so we are not even there.  In fact, the greenback is in a very ordinary place.  Now, the DXY is representative of G10 currencies but not necessarily EMG currencies.  However, that story has been quite divergent depending on the currency in question.  For instance, if we look at the next two charts, we can see that movement across key currencies in this bloc have been very different.

Source: tradingeconomics.com

You can see INR and KRW, until very recently, have weakened substantially, while below, BRL and CNY have both shown real strength over the past 18 months, although had been more mixed prior to that.

Source: tradingeconomics.com

My point is, aside from the rupee, which is at long-term historic lows, we have seen all these prices before.  There is no reason to panic about the dollar collapsing or becoming “too” strong.

We get our only real data of the week this morning with Initial (exp 200K) and Continuing (1710K) Claims and Wholesale Inventories (+0.7%), although nobody pays any attention to that.  There is no doubt that market participants are nervous about a lot of things and that is why risk assets are under pressure.  If the Iran conflict escalates, I expect we will see that play out for a longer time, but I have no opinion on whether that will be the case or not.  To me, I take heart in the fact that economic activity appears to be moving along well, and ultimately, that is a huge positive for the country, and by extension, will support the dollar.

Good luck

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It’s Been Hell

Posted on by 
Despite all the angst ‘round the earth
The one thing of which there’s no dearth
Is risk appetite
As both left and right
All want to increase their net worth

However, at times it’s been hell
To choose what to buy or to sell
The dollar is strong
So, best to be long
But what if yields here quickly fell

And what about stocks, can they rise
From their now historic new highs?
And let’s not forget
The government debt
Or ‘bout a November surprise

It is very confusing these days, as if you read or listen to the news, the sky is falling.  But if you look at market prices of so many assets, things look pretty good.  Now, I understand the iron rule of media is, if it bleeds, it leads, and so in a world where getting clicks is far more important that recounting a coherent story about what is happening in the world, there is little, if any, effort to produce the latter.  Alas, while sentiment is clearly an important part of all markets, I remain enough of a curmudgeon to continue to believe that the fundamentals still matter.

So, what are those fundamentals?  Well, if we look at the economy writ large, even after a weak payroll report last week, the Atlanta Fed’s GDPNow estimate remains at 3.7% for Q3 as per the below chart.

And interestingly, despite all the positive data, notably things like the ISM Surveys, Retail Sales and Personal Spending, we continue to read headlines about problems in the economy.  A great example was yesterday’s Trade deficit which printed at a higher than expected -$105.6B, which was the worst reading since the month before President Trump’s tariffs were inaugurated last year.  But ask yourself, why is our trade deficit growing?  The answer is because the US is growing far faster than other nations and so not only are we sucking in more imports, but export markets are weak.  As it has been said before, if you want to close the trade gap, send the country into a depression, then we won’t buy any imports, although that seems like an extreme solution.

But that US economic strength shows itself in various ways.  For instance, Treasury yields continue to rise, up 5bps this morning, although that is dwarfed by moves in Europe (France +16bps, Italy +13bps, Greece +12bps, UK +10bps).  The question to ask here is, why are yields rising?  While the most recent generation of traders and economists continue to believe this is a sign of fears over inflation, or perhaps excess government debt, given the lack of movement in TIPS breakevens, it very much appears this is all about higher real rates.  Demand for capital in a growing economy seems to be driving yields higher.  Again, I harken back to my youth in markets when the strong belief was that 10-year yields should trade right around nominal GDP growth.  At 5.33%, we remain far below that level.

Investors are buying the US writ large.  You can see that in the dollar, where the euro (-0.8%) has fallen to its lowest level since May 2025 as per the below chart.

Source: tradingeconomics.com

But look at this chart.  The euro is nowhere near its lows of the past 2 years, let alone historic lows, so the idea that the dollar is overly strong remains laughable.  In fact, if the US continues to grow its economy the way it has been doing, and if investment keeps flowing into the US like it has been, the dollar can get much stronger.  While the yen has been depreciating for a long time, the same has not been the case with the euro or other G10 currencies, and I see no appetite for any official action to stem the dollar’s strength here.  If I consider the insanity of European energy policy leading to its ongoing deindustrialization, I see no reason that parity in the euro is not a real target.  Not right away, but by sometime next year for sure.  And this is especially so if the Republicans hold the House and Senate next month.

In fact, there are only two currencies that have shown any strength vs. the dollar, the BRL, which I discussed yesterday and is rallying on the back of a positive view of a Bolsonaro presidential victory in two weeks’ time, and the KRW, which has been the beneficiary of consistent inflows for investment into its semiconductor sector.  And while the euro has been the worst performer today in the G10, virtually every currency is weaker vs. the dollar this morning as the news flow continues to point to problems overseas rather than in the US.

Which takes us to equity markets and the fact that both the S&P 500 and NASDAQ made new all-time highs yesterday, although futures this morning are pointing a bit lower.  

Source: tradingeconomics.com

In fact, I think we can look at the US performance relative to that in Europe and Asia and learn the same lesson, capital continues to flow into the US.  A look at the below Bloomberg screenshot tells the story well.

Which takes us to commodity markets.  While oil is off its recent lows, it remains well below the 
$100/bbl level that sets hair on fire as you can see below.

Source: tradingeconomics.com

In fact, I couldn’t help but notice the announcement from the IRGC that they would be closing the “illegal” routes through the Strait of Hormuz shortly, of course implying the Strait is, in fact, basically open.  While President Trump has been saying this for several weeks, the media doesn’t like that outcome so has tried to refute it.  I wonder what they will say now.  Meanwhile, gold (-2.2%) continues in its funk and has been dragging silver (-3.5%) down with it.  Frankly, with real yields at 2.9%ish in the 10-year and 3.5% in the 30-year, those are pretty attractive alternatives to the barbarous relic.  While I still think they have room to rise (metals, that is) I guess now is not the time.  Copper (-0.3%) however, continues to hover just below its recent all-time highs on ongoing fundamental demand in the growing US economy.

In the end, the world is not ending, and in fact I’m positive going forward.  But then, I’m just a poet.  On the data front, on the calendar today we see EIA oil inventories with a small build expected and the FOMC Minutes at 2:00pm.  I imagine a lot of effort will go into parsing those Minutes, but the market has already decided there is no hike coming this month although they still see December as quite likely.  A backing off from equity highs is no surprise, and I do not see this as the beginning of a new trend lower.  In fact, until the election results, I think we are more likely to rally risk assets then sell them.

Good luck

Adf

Back to his Pen

Posted on by 
The poet is back to his pen
And thinking ‘bout euros and yen
And oil and gold
As bonds all get sold
While indices rise yet again

Remarkably, o’er the past week
Though headlines, to havoc, did speak
The movement of note
Showed oil got smote
While dollars have reached a new peak

I have not been keeping close tabs on markets overall during my road trip, although am back to focusing again.  But first, the news from Topeka was that, while Marvel showed beautifully, we did not get placed amid very stiff competition.

Plus, as in every judged event, there is a measure of politics involved, and I am just not politically correct!

One other issue is that today is the first day I’ve had viable Wi-Fi to work with as the previous places I stayed just didn’t have it.

So, with all that in mind, I will be brief this morning.  Prior to leaving, I left myself records of where markets closed on September 25th so I could see how much things changed.  And the truth is, not all that much, at least on net since I last wrote.

In the equity markets, while the NASDAQ made new all-time highs, it is just 2% higher than when I left.  The S&P managed a much smaller gain, 0.7% and the DJIA actually slipped a bit during the period.   Elsewhere in the equity space, Japan (+7%) was the big winner while France (-2.5%) cannot keep up as the student riots and the fiscal problems, which are bad enough to garner a top WSJ story this morning, are obviously weighing on things there.  

Of course, all the equity moves are happening within the context of the bond market, which continues to see yields climb around the world.  US yields (+11bps) are the talk of the market, but Japanese yields (+3bps and up to yet more 30+nyear highs) are also still climbing.  But arguably, the biggest news is Brazil, which in the wake of the surprising first round lead in the presidential election by Flavio Bolsonaro (son of previous president Jair Bolsonaro) where we have seen Brazilian yields collapse (-115bps) while the Brazilian stock market rocketed 7.7% in the wake of the election results

Source: tradingeconomics.com

Elsewhere, both oil (-5.1%) and gold (-2.9%) have slipped as the former continues to seesaw based on comments about the amount of oil coming out of the Strait of Hormuz, although it is clear product prices are not falling, while the latter has just lost its appeal.  Gold is a funny thing, it is a wonderful long-term store of value and has been so for millennia, but it cares not a whit about day-to-day movements in prices.  Arguably, gold has done its job as that store of value as many holders have utilized their reserves to shore up their own financial situation, thus selling the barbarous relic.  However, it remains difficult for me to look at the fiscal policies extant around the world and think that fiat currencies are going to be embraced.  

Speaking of fiat currencies, while the dollar is just that, fiat, it is also the currency of the strongest current economy around, so despite all its flaws, and all the questions about the Fed and whether they will be hiking again and what that means, and despite all the angst over the selloff in Treasuries, the dollar continues to be the safest play around.  For instance, the euro, saddled with French misery and Germany fiscal and energy incompetence (as well As Spanish insanity regarding housing policy) has slipped -1.3% over the past week while the DXY has rallied a similar amount.  Despite the Nikkei’s rally, the yen (-0.6%) has slipped as well.  In fact, the only currency of note that has performed well is, not surprisingly, BRL (+3.5%) as money is flowing to the country in anticipation of a Bolsonaro win in the runoff election at the end of the month.  That, my friends, is a serious gap opening!

Source: tradingeconomics.com 

And that’s really all I have this morning, but I will be back going forward, most days, I believe.

On the calendar, there is not a ton this week after last week’s disappointing payroll report.

TodayTrade Balance-$102B
ThursdayInitial Claims200K
 Continuing Claims1710K
FridayMichigan Sentiment47.6

Source: tradingeconomics.com

The payroll report served to reduce the probability of a Fed hike this month dramatically and it is now down to 21% from above 60% when I left.  I still don’t think they need to hike more, although the market remains convinced they will do so in December.  But December is a long time from now and much can happen in the interim.  As to the dollar, it remains the cleanest dirty shirt around.

Good luck

Adf

Doomed

Posted on by 
Is civilization now doomed
As bond yields, o’er 5%, bloomed?
Or are those who say
The end’s any day
Just hoping their clicks will have boomed?

I ask because it’s hard to square
The stock market with yields up there
The pundits explain
High yields are a bane
Investors, though, don’t seem to care

A PSA to start.  For the next several weeks FX Poetry is going to be sporadic, if it shows up at all as I will be embarking on a road trip to the Doberman Pinscher Club of America National dog show in Topeka, Kansas and following that visiting family in Texas.  We have been told that Marvel has a good chance to do well there, although the competition will be stiff.  Nonetheless, here he is.

When I have time, I will try to write, but I am confident that the markets will continue to function while I am gone.  And more importantly, I am confident that the world will not end, even if bond yields head a little higher from here.

Let’s start with bonds since that is the topic du jour.  Below is the history of 10-year Treasury prices since 1953 from the FRED database.  I have taken the month-end data and drawn both the average and median lines in as well.

Once again, I ask you is 5% on the 10-year the anomaly?  Or was 1% on the 10-year the anomaly?  Throughout this entire time, the US economy managed to get by.  Certainly, there were difficult times as rampant inflation in the 1970’s led to Paul Volcker’s dramatic efforts to withdraw liquidity from the system, thus driving rates higher which resulted in the twin recessions of the early 1980’s.  Now, to my eye, the current level of 5.18% (-2bps on the day) does not look like it is unusual.  In fact, it is firmly between the median (4.79%) and average (5.52%) levels on the chart.

And as I wrote yesterday, economic activity continues apace, in fact I would argue faster than apace.  The Trump administration is all-in on the run it hot thesis and with inflation at 3.4% and real GDP at 5.1%, that implies nominal GDP is rising at 8.5% annualized.  Even with the excessive government spending, and it is excessive, nominal GDP growth at that pace will result in a reduction in the debt/GDP ratio over time.  Remember, the budget deficit is running at 6% or so, far lower than that GDP figure.

This is by no means an ideal situation, however, it is a sustainable one.  And consider this as well, all that interest getting paid is part of the income streams for all the holders, many of whom are domestic.  Recall, a major angst among the doomporn writers is that foreigners stopped buying Treasuries.  That means domestic accounts own more and get paid more interest to recycle into the economy.  Again, not ideal but certainly sustainable.  The end is not nigh.

What about the rest of the world?  Well, while their yields are rising as well as you can see in the below chart from tradingeconomics.com, their growth rates are not keeping pace with the US.

As you can see in the below table from tradingeconomics.com, the rest of the world has a much bigger problem with rising yields than does the US.  

Our economy can clearly sustain them far better than any other economy which is one of the reasons that the equity markets in the US continue to perform so well and the primary reason that the dollar continues to perform so well.  After all, the consistent drumbeat of announcements of new factories to be built in the US from Honda and Hyundai to TSMC and Samsung and every defense and pharma company in between, not to mention Nippon Steel’s expansion of the old US Steel facilities, is driving demand for dollars.

Again, doom may get clicks, but reality is far better than they make it out to be.  And we know this because equity investors continue to be willing to hold US equities in record numbers.  Earnings in the US continue to grow, in fact fast enough to reduce some of the overvalued multiples that we have seen over the past several years.  So, while yesterday was a nonevent in US equity markets, the fact that was the outcome despite another sharp rise in yields tells you all you need to know.  Overnight, China and Taiwan were closed, but we saw gains in Tokyo (+1.3%), Korea (+0.9%), India (+0.4%) and most of the region although HK (-1.0%) and Australia (-0.4%) lagged.  

In Europe, though, the week is ending on a positive note with gains across the board (Spain +1.0%, Germany +0.7%, UK +0.3%, France +0.1%) and US futures are also higher at this hour, +0.4% or so.  And Germany managed this despite a terrible reading from the GfK Consumer Confidence survey of -30.6, far worse than last month or forecasts.

In the commodity markets, oil (-2.4%) is sliding this morning as there appear to be ongoing talks to both reopen the Strait of Hormuz and end the US naval blockade, an outcome that would likely see oil prices, and the products as well, fall sharply.  Meanwhile, gold (+0.7%) and silver (+1.6%) are bouncing a bit this morning as the chain of thought appears to be lower oil prices => lower interest rates => more attractive gold, or something like that.  Nothing has changed my long-term view on the precious metals nor on copper, which if the US economy continues to grow like it has been will see significant demand going forward.

Finally, the dollar, after a two-week run is backing off this morning on two things.  First, apparently when PM Takaichi and President Trump met, the yen was part of the discussion and last night we heard verbal intervention from FinMin Katayama taking the yen higher by 0.75%.  As to the rest of the G10, smaller gains, on the order of 0.1% to 0.2% are the order of the day.  In the EMG bloc, we are also seeing strength with KRW (+0.95%) the leader although ZAR (+0.8%) is also having a fine day as gold rebounds while the rest of the bloc, whether LATAM, CEE or APAC has seen much smaller gains, 0.3% or less.  Again, the dollar is not going to disappear or be replaced.  And frankly, I think we remain in the range of the past year for a while still.

On the data front, this morning brings Durable Goods (exp -0.4%, +0.6% -ex Transport) and then Michigan Sentiment (47.6).  We also hear from a few more Fed speakers which will almost certainly serve to reinforce the idea that they are going to tighten policy further.  Currently, the futures market is pricing a 2/3 probability of an October hike.  Personally, I wish they would stop expanding the balance sheet before hiking again, but Keynesianism won’t allow them to think that way it seems.

Wrapping up, I see more good than bad on the horizon which should be positive for risk assets.  At the same time, at 5.2%, 10-year yields are very attractive for a lot of people as an alternative to equities.  After all, the hype about the highest yields in more than 20 years means that those on a fixed income have not been able to get these yields in more than 20 years.  Historically, 5% was seen as a pretty fair return for bonds.  Maybe this is the new equilibrium.

Good luck and good weekend

Adf

Death For the Trend

Posted on by 
The five-year sale went terrib-ly
So, doomsters are all filled with glee
There was a long tail
Though not quite a fail
They claim, now, the future they see

In fact, they claim, this is the end
That bonds will have nary a friend
And stocks will get smoked
As strong growth evoked
The specter of death for the trend

Well, everybody who has been crowing about the end of the US bond market is feeling their oats today, that’s for sure after yesterday’s terrible 5-year Treasury auction that wound up with a 3.1 basis point tail, extremely long for such a short duration instrument.  (The tail is the difference between the actual outcome and the when-issued trading that takes place in the market prior to the auction.  A long tail implies that demand was weaker than expected.)  The upshot is that Treasuries sold off hard, with yields climbing upwards of 15bps in the 2-year and 11bps in the 10-year as you can see in the below chart.

Source: tradingeconomics.com

The starting point was the release of the much better than expected Flash PMI data where both Manufacturing and Services beat handily with 58.0 handles, but the price pressures indicated got the inflation story back as the key narrative.  The yield peak came at 1:00 when the auction results were announced although they slipped a few bps before the close.  And this morning, the 10-year yield is another 3bps higher along with European sovereign yields where we see France (+5bps) having the worst day but the rest of the continent, and the UK all showing yields climb 2bp to 3bps.  Neither was Japan immune to this price action with 10yr JGBs jumping 9bps overnight.  

It’s funny, for a very long time, the idea that good news was bad would have been ridiculous as a concept.  Strong growth would indicate increased profit opportunities and higher equity values.  But it started with Greenspan, when he first cut rates to, and left them at, 1.0%, for far too long and equity markets decided they liked low interest rates more than company fundamentals.  The GFC and ZIRP increased the intensity of that reaction function, and we are still feeling that pain as higher rates, especially caused by strong economic growth, are now seen as a negative for stocks.  The world is upside down.  It is, however, the world in which we live.

On top of the markets’ hard beating
Both Xi and Trump soon will be meeting
The talks are on trade
While AI is weighed
It’s doubtful, though, deals are completing

In China the ‘conomy’s split
Twixt exports of plenty of sh*t
And people at home
Who live in the gloam
And can’t change their lives e’en one bit

While here in the US the sitch
Is talk of the poor and the rich
Election day’s nearing
And though some are cheering
For Trump it could be a real bitch

While the bond market has taken up most of the space of the financial market analysis, the meeting between Presidents Trump and Xi is clearly of great importance.  Both nations have significant issues they are trying to address although in many ways they are mirror images of each other.  On a macroeconomic scale, given the Chinese mercantilist model and the excess investment into productive capacity there, they build an enormous amount of stuff for export and starve the local economy of consumption.  The result is extremely low inflation, if not deflation, while indicators like Retail Sales turn negative.  Recall, consumption represents just over 50% of the Chinese economy compared to about 70% in the US.

For instance, the below chart shows a comparison between US (gray bars) and Chinese (blue bars) retail sales over the past 3 years.  you can see just how soft Chinese activity has been domestically compared to the US.

Source: tradingeconomics.com

I have long maintained that the biggest weakness China has is that they rely on the US as the buyer of last resort and President Trump (and lately followed by many other nations) has been pushing back by imposing tariffs on much of what China sells, thus reducing those sales.  If China lacks export growth, given the domestic weakness, that becomes a huge problem for Xi.

Meanwhile, the US spends far too much, at least the government does, and while there has been a dramatic increase in investment into the US, that has brought along significant demand for credit, hence higher yields, and demand for things that are scarce, like electricity, where power increases cannot keep up with industrial demand.  The upshot here is that inflationary pressures are rising even without the impact of the large rise in oil prices since March and the Iran war began.  

Of course, Xi’s greatest advantage is he doesn’t have to face the electorate, as there is none over there, while in six weeks, Election Day may prove monumental to President Trump’s plans.  We need to watch more than markets right now as both the wars in Ukraine and Iran along with the politics are going to have major impacts for a while longer, I believe.

Turning to markets beyond the bonds, yesterday saw weakness in the US, although not quite as bad as might have been feared with losses of about -1.0%.  To keep that in perspective, even with this morning’s pre-market futures lower by -0.5%, the S&P 500 is less than 2% from its all-time high set last month as you can see in the chart below.  It’s not Armageddon quite yet!

Source: tradingeconomics.com

But the follow on in Asia was filled with red numbers as although the Nikkei (+0.8%) managed a gain, virtually every other index in the time zone fell including: China (-1.7%), HK (-0.3%), India (-1.7%), Australia (-0.7%) and all of the smaller exchanges as well.  South Korea was on holiday, so no trading there.  Meanwhile, in Europe, the picture is not so dour, although most markets there slid yesterday as well.  This morning, the DAX (-0.5%) and CAC (-0.4%) are the laggards while the other major markets are flat to slightly higher, 0.1%.  And as mentioned above, US futures are under pressure again this morning.

In the commodity markets, oil (+1.0%) is continuing its rebound off the lows from earlier this week as President Trump’s threats of annihilation of Iran has some on edge, although I have read that talks continue to find a way to end the conflict.  But precious metals have no friends right now (gold -0.6%, silver -1.25%) as between higher yields and a rising dollar, fear over debasement has given way to greed for the last basis point of yield.  Copper (+0.4%) though is starting to trade on its own terms as the strength in the US economy continues to underpin demand for the red metal.  In fact, to highlight that economic strength, a look at the Atlanta Fed’s GDPNow estimate for Q3 shows that the data supports a positive view.  It currently sits at 5.1%, far above analyst estimates as per the below chart.

Finally, turning to the dollar, as I mentioned earlier this week, a move to the top of the trading range was quite possible and we are on the way to getting there as you can see in the below chart.  The peak is 101.80, so still 0.5% away from where we are, but the recent trend is strong.

Source: tradingeconomics.com

This strength is broad based and entirely on the back of the US rate structure and growth story as markets price in a greater likelihood of a rate hike next month, now 70%, and an additional hike next year as you can see in the below cmegroup.com table.

While the movement today has been pretty uniform across both G10 and EMG currencies, we do need to start to watch USDJPY again as it is heading back to the 160 level.  Now, if the dollar is strong against all currencies, there is far less reason for intervention in the yen, but that doesn’t mean it won’t happen.

On the data front, this morning brings the weekly Initial (exp 201K) and Continuing (1750K) Claims data as well as New Home Sales (620K).  Yesterday’s data also included oil inventories, which remain more than adequate.  Something else to remember is that the SPR releases were all executed via swaps, so starting November 1, the SPR is going to get refilled over the ensuing several years and my guess is we will not hear a word about that in the future.  The diesel export ban is a terrible idea, and hopefully cooler heads will prevail.  Diesel prices are high because Ukraine continues to destroy Russian refining capacity, not because the US exports the excess over what we use.

It’s an odd thing this morning.  I have seen many stories about the imminent collapse of the stock market now that bonds are under pressure and maybe that is exactly what will happen.  But I am not getting the same level of fear from the current situation so while a correction is completely viable, I think we need a much bigger disruption to force a major downturn in risk assets.

Good luck

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