Monthly Archives: April 2019

Still Feeling Stressed

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The overnight data expressed
That China is still feeling stressed
But Europe’s reports
Showed growth of some sorts
Might finally be manifest

The dollar is on its heels this morning after data from Europe showed surprising strength almost across the board. Arguably the most important data point was Eurozone GDP printing at 0.4% in Q1, a tick higher than expected and significantly higher than Q4’s 0.2%. The drivers of this data were Italy, where Q1 GDP rose 0.2%, taking the nation out of recession and beating expectations. At the same time Spain grew at 0.7%, also better than expectations while France maintained its recent pace with a 0.3% print. Interestingly, Germany doesn’t report this data until the middle of May. However, we did see German GfK Consumer Confidence print at 10.4, remaining unchanged on the month rather than falling as expected. Adding to the growth scenario were inflation readings that were generally a tick firmer than expected in Italy, Spain and France. While these numbers remain well below the ECB target of “close to but just below” 2.0%, it has served to ease some concerns about Europe’s future. In the end, the euro has rallied 0.25% while European government bond yields are all higher by 2-5bps. However, European equity markets did not get the memo and remain little changed on the day.

Prior to these releases we learned that China’s PMI data was softer than expected, with the National number printing lower at 50.1, while the Caixin number printed at 50.2. Even though both remain above the 50.0 level indicating future growth, there is an increasing concern that China’s Q1 GDP data was more the result of a distorted comparison to last year’s data due to changed timing of the Lunar New Year. Remember, that holiday has a large impact on the Chinese economy with manufacturing shutdowns amid widescale holiday making, and so the timing of those events each year are not easily stabilized with seasonal adjustments to the data. As such, it is starting to look like Q1’s 6.4% GDP growth may have been somewhat overstated. Of course, China remains opaque in many ways, so we may need to wait until next month’s PMI data to get a better handle on things. One other clue, though, has been the ongoing decline in the price of copper, a key industrial metal and one which China represents approximately 50% of global demand. Arguably, a falling copper price implies less demand from China, which implies slowing growth there. Ultimately, while it is no surprise that the renminbi is little changed on the day, Chinese equities edged higher on the theory that the PBOC is more likely to add stimulus if the economic slowdown persists.

Of course, the other China story is that the trade talks are resuming in Beijing today and market participants will be watching closely for word that things are continuing to move in the right direction. You may recall the President Xi Jinping gave a speech last week where he highlighted the changes he anticipated in Chinese policy, all of which included accession to US demands in the trade talks. At this point, it seems the negotiators need to “simply” hash out the details, which of course is not simple at all. But if the direction from the top is broadly set, a deal seems quite likely. However, as I have pointed out in the past, the market appears to have already priced in the successful conclusion of a deal, and so when (if) one is announced, I would expect equity markets to fall on a ‘sell the news’ response.

Turning to the US, yesterday’s data showed that PCE inflation (1.5%, core 1.6%) continues to lag expectations as well as remain below the Fed’s 2.0% target. With the FOMC meeting starting this morning, although we won’t hear the outcome until tomorrow afternoon, the punditry is trying to determine what they will say. The universal expectation is for no policy changes to be enacted, and little change in the policy statement. However, to me, there has been a further shift in the tone of the most recent Fed speakers. While I believe that Loretta Mester and Esther George remain monetary hawks, I think the rest of the board has morphed into a more dovish contingent, one that will respond quite quickly to falling inflation numbers. With that in mind, yesterday’s readings have to be concerning, and if we see another set of soft inflation data next month, it is entirely possible that the doves carry the day at the June meeting and force an end to the balance sheet roll-off immediately as a signal that they will not let inflation fall further. I think the mistake we are all making is that we keep looking for policy normalization. The new normal is low rates and growing balance sheets and we are already there.

As Powell and friends get together
The question is when, it’s not whether
More policy easing
Will seem less displeasing
So prices can rise like a feather

Looking at this morning’s releases, the Employment Cost Index (exp 0.7%) starts us off with Case-Shiller home prices (3.2%) and then Chicago PMI (59.0) following later in the morning. However, with the Fed meeting ongoing, it seems unlikely that any of these numbers will move the needle. In fact, tomorrow’s ADP number would need to be extraordinary (either high or low) to move things ahead of the FOMC announcement. All this points to continued low volatility in markets as players of all stripes try to figure out what the next big thing will be. My sense is we are going to see central banks continue to lean toward easier policy, as the global focus on inflation, or the lack thereof, will continue to drive policy, as well as asset bubbles.

Good luck
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Mere Nonchalance

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On Friday we learned the US
Grew faster, but not to excess
The market response
Was mere nonchalance
In stocks, but the buck did depress

This morning in Europe, however,
The outcome did not seem as clever
Growth there keeps on slowing
Thus Mario’s going
To need a new funding endeavor

If you needed a better understanding of why the dollar, despite having declined ever so modestly this morning, remains the strongest currency around, the contrasting data outcomes from Friday in the US and this morning in the Eurozone are a perfect depiction. Friday saw US GDP in Q1 rise 3.2% SAAR, significantly higher than expected, as both trade and inventory builds more than offset softer consumption. Whatever you make of the underlying pieces of the number, it remains a shining beacon relative to the rest of the G10. Proof positive of that difference was this morning’s Eurozone sentiment data, where Business Confidence fell to 0.42, its weakest showing in nearly three years while Economic Sentiment fell to 104, its sixteenth consecutive decline and weakest since September 2016.

It is extremely difficult to look at the Eurozone data and conclude that the ECB is not going to open the taps again soon. In fact, while the official line remains that no decisions have been made regarding the terms of the new TLTRO’s that are to be offered starting in June, it is increasingly clear that those terms are going to be very close to the original terms, where banks got paid to borrow money from the ECB and on-lend it to clients. The latest comment came from Finnish central bank chief Ollie Rehn where he admitted that hopes for a rebound in H2 of this year are fading fast.

With that as the backdrop, this week is setting up for the chance for some fireworks as we receive a great deal of new information on both the economic and policy fronts. In fact, let’s take a look at all the information upcoming this week right now:

Today Personal Income 0.4%
  Personal Spending 0.7%
  PCE 0.2% (1.6% Y/Y)
  Core PCE 0.1% (1.7% Y/Y)
Tuesday Employment Cost Index 0.7%
  Case-Shiller Home Prices 3.2%
  Chicago PMI 59.0
Wednesday ADP Employment 181K
  ISM Manufacturing 55.0
  ISM Prices Paid 55.4
  Construction Spending 0.2%
  FOMC Rate Decision 2.5% (unchanged)
Thursday BOE Rate Decision 0.75% (unchanged)
  Initial Claims 215K
  Unit Labor Costs 1.4%
  Nonfarm Productivity 1.2%
  Factory Orders 1.5%
Friday Nonfarm Payrolls 181K
  Private Payrolls 173K
  Manufacturing Payrolls 10K
  Unemployment Rate 3.8%
  Participation Rate 62.9%
  Average Hourly Earnings 0.3% (3.4% Y/Y)
  Average Weekly Hours 34.5
  ISM Non-Manufacturing 57.0

So, by Friday we will have heard from both the Fed and the BOE, gotten new readings on manufacturing and prices, and updated the employment situation. In addition, on Friday, we have four Fed speakers (Evans, Clarida, Williams and Bullard) as the quiet period will have ended.

Looking at this morning’s data, the PCE numbers continue to print below the Fed’s 2.0% target and despite recently rising oil prices, there is no evidence that is going to change. With the employment situation continuing its robust performance, the Fed is entirely focused on this data. As I wrote on Friday, it has become increasingly clear that the Fed’s reaction function has evolved into ‘don’t even consider raising rates until inflation is evident in the data for a number of months.’ There will be no more pre-emptive rate hikes by Jay Powell. Inflation will need to be ripping higher before they consider it. And in fact, as things progress, it is entirely possible that the Fed does cut rates despite ongoing solid GDP growth, if they feel inflation is turning lower in a more protracted manner. As of Friday, the futures market had forecast a 41% probability of a Fed rate cut by the end of 2019. In truth, I am coming around to the belief that we could see more than one cut before the year ends, especially if we see any notable slowing in the US economy. (At this point, the Fed’s only opportunity to surprise the market dovishly is if they do cut rates on Wednesday, (although in the wake of the GDP data, that seems a little aggressive.)

The real question is if the Fed turns more dovish, will that be a dollar negative. One thing for certain is that it won’t be an equity negative, and it is unlikely to have a negative impact on Treasuries either, but by rights, the dollar should probably suffer. After all, a more dovish Fed will offset the dovishness emanating from other nations.

The problem with this thesis is that it remains extremely expensive for speculators to short the dollar given the still significantly higher short-term rates in the US vs. anywhere else in the G10. And so, we are going to need to see real flows exiting the US to push the dollar lower. Either that, or a change in the narrative that the Fed, rather than being on hold, is getting set to take rates back toward zero. For now, neither of those seem very likely, and so significant dollar weakness seems off the table for the moment. As such, while it was no surprise that the dollar fell a bit on Friday as profit taking was evident after a strong run higher, the trend remains in the dollar’s favor, so hedgers need to take that into account. And for all you hedgers, given the significant reduction in volatility that we have witnessed during the past several months, options are an increasingly attractive alternative for hedging. Food for thought.

Good luck
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A Victimless Crime

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Investors are biding their time
Til GDP data sublime
But what if it’s weak?
Will havoc it wreak?
Or is that a victimless crime?

In general, nothing has really happened in markets overnight. Perhaps the only exception is the continued weakness in the Shanghai Composite, which fell another 1.2%, taking the week’s decline beyond 5%. But otherwise, most equity markets are little changed, currencies have done little, and bond yields are within 1 bp of yesterday’s closes as well. The blame for this inactivity is being laid at the feet of this morning’s US GDP data, where we get our first look at Q1. What is truly interesting about this morning’s number is the remarkably wide range of expectations according to economist surveys. They range from 1.0% to 3.2% and depending on your source, I have seen median expectations of 2.0% (Tradingeconomics.com), 2.2% (Bloomberg) and 2.5% (WSJ). The problem with such a wide range is it will be increasingly difficult to determine what is perceived as strong or weak when it prints. However, my view is that we are in the middle of a market narrative which dictates that a strong print (>2.5%) will see equity and dollar strength on the back of confidence in the US economy continuing its world leading growth, while a weak number (<2.0%) will lead to equity strength but dollar weakness as traders will assume that given the Fed’s recent dovish turn, expectations for rate cuts will grow and stocks will benefit accordingly while the dollar suffers. We’ll know more pretty soon.

Returning to the China story, there are actually two separate threads of discussion regarding the Chinese markets and economy. The first, which has been undermining equities there this week, is that the PBOC is backing off on its recent easing trajectory, slowing the injection of short-term funds into the market. The massive equity market rally that we have seen there so far this year has been fueled by significant margin buying, however, if easy money is ending then so will the rally. While I am certain the PBOC will do all it can to prevent a major correction in stock prices, the tone of discussion there is that the PBOC is no longer supporting a further rise.

The second part of the story was a speech last night by President Xi regarding the Belt and Road Initiative. In it, he basically acceded to the US demands for honoring IP, ending forced technology transfer and maintaining a stable currency. Adding to that was the PBOC’s fix at a stronger than expected rate of 6.7307, reinforcing the idea that they would not seek advantage by weakening their currency. Given that the renminbi has been weakening steadily for the past seven sessions and reached its weakest point in more than two months, the PBOC’s actions have served to reinforce their desire to maintain control of the currency.

But arguably, the more important part of the speech was that it cleared the way, at the highest levels, for the Chinese to agree to numerous US demands on trade, and thus successfully conclude the trade talks. Those talks get going again next week when Mnuchin and Lighthizer travel back to Beijing. Look for very positive vibes when they meet the press.

Given that one of the key constraints in the global economy lately has been trade concerns, led by the US-China spat, a resolution will be seen as a harbinger to deals elsewhere and the removal of at least one black cloud. Will central banks then return to their tightening efforts? I sincerely doubt that we will see anything of the sort in the near term. At this point, I expect the reaction function for the central banking community is something along the lines of, ‘we will raise rates after we see inflation print at high levels for several consecutive months, not in anticipation that higher inflation is coming because of growth in another variable.’

So despite my earlier concerns that the market had already priced in a successful conclusion of the trade deal, and that when it was signed, equity markets would retreat, it now seems more likely that we have further to run on the upside. Central banks are nowhere near done blowing all their bubbles.

And those are the big stories for the day. As well as the GDP data at 8:30 we get Michigan Sentiment at 10:00 (exp 97.0), although that seems unlikely to have any impact after GDP. The dollar has had a hell of a week, rallying steadily as we continue to see weak data elsewhere (Japanese IP -4.6% last night!), and some emerging markets, notably ARS and TRY have come under significant new pressure. It wouldn’t surprise if there was some profit taking after the data, whether strong or weak, so I kind of expect the dollar to fade a little as we head into the weekend.

Good luck and good weekend
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Spring Next Year

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Interest rates shan’t
Rise ere spring next year. But might
They possibly fall?

This morning’s market theme is that things look bad everywhere, except perhaps in the US. Starting in Tokyo, the BOJ met last night and, to no one’s surprise, left their policy rate unchanged at -0.10%. They maintained their yield curve control target of 0.00% +/- 0.20% for 10-year JGB’s and they indicated they would continue to purchase JGB’s at a clip of ¥80 trillion per year. But there were two things they did change, one surprising and one confusing.

First the surprise; instead of claiming rates would remain low for an “extended period”, the new language gave a specific date, “at least through around spring 2020”. Of course, this gives them the flexibility to extend that date specifically, implying an even more dovish stance going forward. Market participants were not expecting any change to the language, but interestingly, the yen actually rallied after the report. Part of that could be because there was significant weakness in Asian equity markets and a bit of a risk-off scenario, but I also read that some analysts see this as a prelude to tighter policy. I don’t buy the latter idea, but it does have adherents. The second thing they did, the confusing one, was they indicated they would create a lending facility for their ETF portfolio. The unusual thing here is that generally, lending securities is a way to encourage short-selling, although they did couch the idea in terms of added liquidity to the market. Given they own more than 70% of the ETF market, it is clear that liquidity must be suffering, but I wouldn’t have thought bringing short-sellers to the party would be their goal.

In South Korea, Q1 GDP shrank -0.3%, a much worse outcome than the expected 0.3% growth, and largely caused by a sharp decline in exports and IP. This is an ominous sign for the global economy, and also calls into question the accuracy of the Chinese data last week. Given the tight relationship between Korean exports and Chinese growth, something seems out of place here. The market impact was a decline in the KOSPI (-0.5%), falling Korean yields and a decline in the KRW, which fell a further 0.6% and is now at its weakest point in two years. Look for the Bank of Korea to ease policy going forward.

Turning to Europe, the Swedish Riksbank left policy rates unchanged at -0.25%, as expected, but their statement indicated that there would be no rate hike later this year, as previously expected, given the slowing growth and lack of inflation in Sweden. While I foreshadowed this earlier this week, the market response was severe, with SEK falling 1.4%, although the Swedish OMX (stock market) rallied 1% on the news. You know, bad news is good because rates remain low.

One last central bank note, the Bank of Canada has thrown in the towel on normalizing policy, dropping any reference to higher rates in the future from their statement yesterday. Upon the release of the statement, the Loonie fell a quick 1%. Although it has since recovered a bit of that, it is still lower by 0.6% from before the meeting. It seems concerns over slowing growth now outweigh concerns over excess leverage in the private sector.

The other market note was the sharp decline in Chinese stocks with the Shanghai Composite falling 2.4% as traders and investors there lose faith that the PBOC is going to continue to support the economy, especially after the better than expected GDP data last week. Even the renminbi fell, -0.3%, although it has been especially stable for the past two months as the US-China trade talks continue. Speaking of which, the next round of face-to-face talks are set to get under way shortly, but there has been little in the way of news, either positive or negative, for the past two weeks.

One other thing about which we have not heard much lately is Brexit, where the internal political machinations continue in Parliament, but as yet, there has been no willingness to compromise on either side of the aisle. Of note is that the pound continues to fall, down a further 0.2% this morning and now firmly below 1.29. While there is no doubt that the dollar is strong across the board, it also strikes that some market participants are beginning to price in a chance of a no-deal Brexit again, despite Parliament’s stated aim of preventing that. As yet, there is no better alternative.

Finally, the euro is still under pressure this morning as well, down a further 0.2% this morning, which makes 1.5% in the past week. This morning’s only data point showed Unemployment in Spain rose unexpectedly to 14.7%, another sign of slowing growth throughout the Eurozone. At this point, the ECB is unwilling to commit to easing policy much further, but with the data misses piling up, at some point they are going to concede the point. Easier money is coming to the Eurozone as well.

This morning brings Initial Claims data (exp 200K) and Durable Goods (0.8%, 0.2% ex Transport). It doesn’t seem that either of these will change any views, and as we have seen all week, I expect that Q1 earnings will be the market’s overall focus. A bullish spin will continue to highlight the different trajectories of the US and the rest of the world, and ultimately, continue to support the dollar.

Good luck
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Contrite

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More stock market records were smashed
And bulls remain quite unabashed
The future is bright
With Powell contrite
As prior rate hikes are now trashed

The world is a fabulous place this morning, or at least the US is, if we are judging by the financial markets. Both the S&P 500 and NASDAQ indices made new all-time highs yesterday, with the Dow Jones scant points away from its own new record. The dollar is back to its highest point since mid-December and looks poised to rally toward levels not seen since mid 2017. Meanwhile, Treasuries remain in demand, despite all this risk appetite, as yields actually dipped yesterday and continue to hover around 2.50%. And the remarkable thing is the fact that there is no reason to believe these trends will end in the near future. After all, as we move into the heart of earnings season, the data shows that 80% of the 105 companies that have so far reported have beaten their (much reduced) estimates. Even though actual earnings growth is sparse, the fact that expectations have been reduced sufficiently to allow a no-growth result to seem bullish is the fuel for market bulls.

Beyond the earnings story, we have had a bit more positive US data, with New Home Sales rising 4.5%, instead of the expected decline. Last week we also saw strong Retail Sales data, and even though broadly speaking, the housing market seems a bit shaky, (Housing Starts and Existing Home Sales were both soft), there has been enough positive news overall to keep up momentum. And when compared to the Eurozone, where Germany’s Ifo fell to 99.2, below expectations and French Business Confidence fell to 101, its lowest point in three years, it is even clearer why the US is in favor.

Of course, there is one other reason that the US is a favored investment spot right now, the Fed. Over the course of the first four months of 2019, we have seen the Fed turn from a clear hawkish view to uber-doves. At this point, if there are two FOMC members who think a rate hike is in the cards for the rest of the year, it would be a lot. The market is still pricing in a chance of a rate cut, despite the ongoing data releases indicating things are pretty good in the US, and of course, President Trump and his staff have been consistent in their view that rates should be lower, and QE restarted. Funnily enough, given the global central bank desire to pump up inflation, and their total inability to do so for the past decade, do not be surprised to see further policy ease from the US this year. In fact, despite all the angst over Modern Monetary Theory (MMT) I would wager that before long, some mainstream economists are going to be touting the idea as reasonable and that it is going to make its way into policy circles soon thereafter.

In fact, one of the things I have discussed in the past, a debt jubilee, where debt is completely written off, seems almost inevitable. Consider how much government debt is owned by various nations’ central banks. The Fed owns $2.2 trillion, the BOJ owns ¥465 trillion (roughly $4.5 trillion) while the ECB owns €2.55 trillion (roughly $2.85 trillion). Arguably, each could make a book entry and simply destroy the outstanding debt, or some portion of it, without changing anything about the economy directly. While in the past that would have been anathema to economists, these days, I’m not so sure. And if it was done in a coordinated fashion, odds are the market response would be pretty benign. In fact, you could make the case that it would be hyper bullish, as the reduction in debt/GDP ratios would allow for significant additional policy stimulus as well as increased demand for the remaining securities outstanding. We continue to get warnings from official quarters (yesterday the IMF’s new chief economist was the latest to explain there is no free lunch) but politicians will continue to hear the siren song of MMT and will almost certainly be unable to resist the temptation.

Anyway, turning back to the FX market, the dollar has proven to be quite resilient over the past several sessions. This morning, after a rally yesterday, it is higher by another 0.2% vs. the euro. As to the pound, it has fallen steadily during the past week, a bit more than 1.2%, and though unchanged this morning, is now trading well below 1.30. Aussie fell sharply last night after inflation data disappointed on the low side and calls for rate cuts were reaffirmed. This morning, it is down 0.95% and pushing back to 0.7000, which has been a long-term support line. However, if rate cuts are coming, and China remains in the doldrums, it is hard to see that support continuing to hold.

This is not just a G10 phenomenon though, with EMG currencies also on the back foot. For instance, KRW fell 0.75% overnight and broke through key support with the dollar trading back to its highest level since mid-2017. RUB, ZAR and TRY are all lower by ~0.7% and LATAM currencies are under pressure as well.

The point is that as I have been explaining for the past months, whatever issues might exist within the US, they pale in comparison to the issues elsewhere. And looking at the economic growth momentum around the world, the US continues to lead the pack. We will get another reading on that come Friday, but until then, the data is sparse, with nothing at all released today.

I see no reason for current market trends to falter, so expect equities to rally with the dollar alongside them as international investors buy dollars in order to buy stocks. We will need something remarkably different to change this narrative, and it just doesn’t seem like there is anything on the horizon to make that happen.

Good luck
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More Not Less

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As markets return from vacation
The central banks’ tales of inflation
Continue to stress
They want more, not less
Thus, policy ease is salvation

With the market back to full strength this morning, after a long holiday weekend throughout much of the world, it seems that every story is about the overall change in tone by most major central banks. That tone, of course, is now all about the end of the nascent tightening cycle. Whether considering the Swedish Riksbank, which saw disturbingly higher Unemployment data at the end of last week thus putting the kibosh on their efforts to continue policy normalization and raise rates back up to 0.0%, or the weekend WSJ story that hypothesized how the Fed was reconsidering their framework and trying to determine new lower thresholds for easing policy, all stories point to one thing, central banks have looked in the mirror and decided that they are not going to take the blame for the next recession.

This means that we need to be prepared to hear more about allowing the economy to run hot with higher inflation and lower unemployment than previously deemed prudent. We need to be prepared to hear more about macroprudential measures being used to prevent asset bubbles in the future. But most importantly, we need to be prepared for the fact that asset bubbles have already been inflated and the current monetary policy stance is simply going to help them expand further. (Of course, central banks have proven particularly inept at addressing market bubbles in the past, so the idea that they will suddenly be able to manage them going forward seems unlikely.)

Naturally, there are calls for a switch in the mix of policy initiatives around the G10 with demands for more fiscal stimulus offset by less monetary stimulus. That idea comes right from page one of the Keynesian handbook, but interestingly, when the US implemented that policy last year (tax cuts and four rate hikes) both sets of policymakers got lambasted by the press. Fiscal stimulus at the end of a long growth cycle was seen as crazy and unprecedented while Fed hawkishness was undermining the recovery. These were the themes portrayed throughout the press and the market. When considered in that context, it seems that pundits really don’t care what happens, they simply want to be able to complain about the current policy and seem smart! At any rate, it has become abundantly clear that neither fiscal nor monetary policy is going to tighten anytime soon.

So, what does this mean for markets?

For equity markets, the world is looking incredibly bright. Despite the fact that equity markets have rebounded sharply already this year, (S&P +16%, DAX +15%, Shanghai + 28%, Nikkei +13%), given the clear signals we are hearing from global policymakers, there is no reason to think this should end. One of Keynes’ most important lessons was that ‘markets can remain irrational longer than you can remain solvent’. The point being that even if there is concern that markets have rallied to significantly overvalued levels, there is nothing to stop them from going further in the short run. Another interesting weekend article, this by Kevin Muir, highlighted the dichotomy between current retail enthusiasm for equity markets being so different from professional skepticism in the current situation. His point was one side of the argument is going to be really wrong. My take is that it is more a question of timing with an easily envisioned scenario of a further short-term rally to even more absurd valuation levels before an eventual reversal on some heretofore unseen concern (hard Brexit? US-China trade talks break down? Hot war after Iran tries to shut down the Strait of Hormuz?) The point is, there are still plenty of potential concerns that can derail things, but for now, it is all about easy money!

For bond markets, things are also looking great. After all, if there is no further policy tightening on the horizon, and inflation remains quiescent, government bonds should continue to rally. This is especially so if we see Eurozone economic weakness start to spread more widely. As to corporate bonds, low policy rates and ongoing solid economic activity point to spreads maintaining their current extremely tight levels. The hunt for yield will continue to dominate fixed income investing and that means tighter spreads across all asset classes.

Finally, for the currency markets this is a much more nuanced picture. This is because currencies remain a relative game, not an absolute one like stocks and bonds. So who’s policy is the tightest? Arguably, right now the US. Is that going to change in the near-term? While the Fed has clearly stopped raising rates, and will be ending QT shortly, the ECB is discussing further stimulus, the BOJ is actively adding stimulus, the PBOC is actively adding stimulus and the BOE remains mired in the Brexit uncertainty with no ability to tighten policy ahead of a conclusion there. In other words, the US is still the belle of the ball when it comes to currencies, and there is no reason to expect the dollar to start to decline anytime soon. In truth, given the idea that current policies are ostensibly priced into the market already, and that there are no changes seen in the medium term, I imagine that we are setting up for a pretty long period of limited movement in the G10 space, although specific EMG currencies could still surprise.

On the data front, it is particularly quiet this week, and with the Fed on the calendar for next week, there will be no more speakers until the meeting.

Today New Home Sales 650K
Thursday Initial Claims 200K
  Durable Goods 0.8%
  -ex Transport 0.2%
Friday Q1 GDP (revised) 2.1%
  Michigan Sentiment 97.0

We will see the final data point in this month’s housing story, which has been pretty lousy so far as both Housing Starts and Existing Home Sales disappointed last week. (Anecdotally, I see the slowdown in my neighborhood, where historically there have been fewer than 2 homes for sale at any given time, and there are currently 7, with some having been on the market for at least 9 months.) We also see the second look at Q1 GDP, with a modest downtick expected to 2.1%, still running at most economists’ view of potential, and clearly much faster than seen in either Europe or Japan. As I said, there is nothing that points to a weaker dollar, although significant dollar strength doesn’t seem likely either. I think we are in for some (more) quiet times in FX.

Good luck
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Still Remote

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A Eurozone nation of note
Has recently had to demote
Its latest predictions
In most jurisdictions
Since factory growth’s still remote

The FX market has lately taken to focusing on economic data as the big stories we had seen in the past months; Brexit, US-China trade, and central bank activities, have all slipped into the background lately. While they are still critical issues, they just have not garnered the headlines that we got used to in Q1. As such, traders need to look at something and today’s data was German manufacturing PMI, which once again disappointed by printing at just 44.5. While this was indeed higher than last month’s 44.1, it was below the 45.0 expectations and simply reaffirmed the idea that the German economy’s main engine of growth, manufacturing exports, remains under significant pressure. The upshot of this data was a quick decline of 0.35% in the euro which is now back toward the lower end of its 1.1200-1.1350 trading range. So even though Chinese data seems to be a bit better, the impact has yet to be felt in Germany’s export sector.

This follows yesterday’s US Trade data which showed that the deficit fell to -$49.4B, well below the expected -$53.5B. Under the hood this was the result of a larger than expected increase in exports, a sign that the US economy continues to perform well. In fact, Q1 GDP forecasts have been raised slightly, to 2.4%, on the back of the news implying that perhaps things in Q1 were not as bad as many feared.

Following in the data lead we saw UK Retail Sales data this morning and it surprised on the high side, rising 1.1%, well above the expected -0.3% decline. The UK data continues to confound the Chicken Little crowd of economists who expected the UK to sink into the North Sea in the wake of the Brexit vote. And while there remains significant uncertainty as to what will happen there, for now, it seems, the population is simply going about their ordinary business. The benefit of the delay on the Brexit decision is that we don’t have to hear about it every single day, but the detriment remains for UK companies that have been trying to plan for something potentially quite disruptive but with no clarity as to the outcome. Interestingly, the pound slid after the data as well, down 0.25%, but then today’s broader theme is that of a risk-off session.

In fact, looking at the usual risk indicators, we saw weakness in equity markets in Asia (Nikkei -0.85%, Shanghai -0.40%) and early weakness in European markets (FTSE -0.1%) but the German DAX, after an initial decline, has actually rebounded by 0.5%. US futures are pointing lower at this time as well, although the 0.15% decline is hardly indicative of a collapse. At the same time, Treasury yields are slipping with the 10-year down 4bps to 2.56% and both the dollar and the yen are broadly higher. So, risk is definitely on the back foot today. However, taking a step back, the reality is that movement in most markets remains quite subdued.

With that in mind, there is really not much else to discuss. On the data front this morning we see Retail Sales (exp 0.9%, 0.7% -ex autos) and then at 10:00 we get Leading Indicators (0.4%) which will be supported by the ongoing equity market rally. There is one more Fed speaker, Atlanta’s Rafael Bostic, but the message we have heard this week has been consistent; the Fed remains upbeat on the economy, expecting GDP growth on the order of 2.0% as well as limited inflation pressure which leads to the current wait and see stance. There is certainly no indication that this is going to change anytime soon barring some really shocking events.

Elsewhere, the Trump Administration has indicated that the trade deal is getting closer and there is now talk of a signing ceremony sometime in late May, potentially when the President visits Japan to pay his respects to the new emperor there. (Do not forget the idea that the market has fully priced in a successful trade outcome and when it is finally announced, equities will suffer from a ‘sell the news mentality.) With the Easter holidays nearly upon us, trading desks are starting to thin out, however, while liquidity may suffer slightly, the current lack of market catalysts means there is likely little interest in doing much anyway. Overall, today’s dollar strength is likely to have difficulty extending, and if we see equity markets reverse along the lines of the DAX, it would not be surprising to see the dollar give back its early gains. But in the end, another quiet day is looming.

Good luck and good weekend
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Given the Easter holidays and diminished activity, the next poetry will arrive on Tuesday, April 23.

Addiction To Debt

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A policy change did beget
In China, addiction to debt
Per last night’s report
Financial support
Continues, the bulls’ views, to whet

The data from China continues to surprise modestly to the upside. Last week, you may recall, the Manufacturing PMI report printed above 50 in a surprising rebound. Last night, Q1 GDP printed at 6.4%, a tick better than expected, and the concurrent data; Fixed Asset Investment (6.3%), IP (8.5%) and Retail Sales (8.7%) all beat expectations as well. In fact, the IP data blew them away as the analyst community was looking for a reading of 5.9%. While there is some possibility that the data is still mildly distorted from the late Lunar New Year holiday, it certainly seems as though the Chinese have managed to prevent any significant further weakness in their economy.

How, you may ask, have they accomplished this feat? Why the way every government does these days. As we also learned last week, debt in China continues to grow rapidly, far more rapidly than the economy, which means that every yuan of debt buys less growth. It should be no surprise that there is diminishing effectiveness in this strategy, but it should also be no surprise that this is likely to be the way forward. In the short run, this process certainly pads the data story, helping to ensure that growth continues. However, there is a clear and measurable negative aspect to this policy.

Exhibit A is real estate. One of the areas seeing the most investment in China continues to be real estate. The problem with expanding real estate debt (it grew 11.6% in Q1 compared to 6.4% growth for GDP) is that real estate investment is not especially productive. For an economy that relies on manufacturing, productivity growth is crucial. The more money invested in real estate, the less available for improved efficiencies in the economy. Longer term this will lead to slower GDP growth in China, just as it has done in all the developed world economies. However, as politics, even in China, is based on the here and now, there is no reason to expect these policies to change. Two years ago, President Xi tried to force a crackdown on excessive debt used to finance the property bubble that had inflated throughout China. However, it is abundantly clear that the priorities have shifted to growth at all costs. At this stage, I expect that we will see consistently better numbers out of China going forward, regardless of any trade resolution. If Xi wants growth, that is what the rest of the world will see, whether it exists or not.

Turning to the FX market, this implies to me that we are about to see CNY start to strengthen further. Last night saw a 0.40% rally taking the dollar down to key support levels between 6.68-6.69. I expect that we are going to see the renminbi start a more protracted move higher and at this point would not be surprised to see the USDCNY end 2019 around 6.30. That is a significant change in my view from earlier this year, but there has also been a significant change in the policy stance in China which cannot be ignored.

Elsewhere, risk overall has been ‘on’ as investors have responded to the better than expected Chinese data, as well as the continued dovishness from the central banking community, and keep buying stocks. If you recall several weeks ago, there was a conundrum as both stocks and bonds were rallying. At the time, the view from most pundits was that the stock market was wrong and that the bond market was presaging a significant slowdown in the economy. In fact, we saw that first yield curve inversion at the time in early March. However, since then, 10-year Treasury yields have backed up by 22bps and now sit above 2.60% for the first time in a month, while stock prices have continued to rally. As such, it appears that the bond market had it wrong, not the stock market. The one caveat is that this stock market rally has been on diminishing volumes which implies that it is not that widely supported. The opposing viewpoints are the bulls believe there is a big catch up rally in the wings as those who have missed out reach peak FOMO, while the bears believe that though the rally has been substantial, it has a very weak underlying basis, and will retreat rapidly.

As to the FX market, yesterday saw dollar strength, which was a bit surprising given the weaker than expected economic data (both IP and Capacity Utilization disappointed) as well as mixed to negative earnings data from the equity market. However, this morning, the dollar has retraced those gains with the pound being the one real outlier, falling slightly amid gains in virtually every other currency, as inflation data from the UK printed softer than expected at 1.9%, thus pushing any concept of tighter policy even further into the future.

On the data front, this morning brings the Trade Balance (exp -$53.3B) and then the Fed’s Beige Book is released this afternoon. We also have two more Fed speakers, Harker and Bullard, but that message remains pretty consistent. No change in policy in the near future and all efforts to determine the best way to push inflation up to the target level. What this means in practice is that there is a vanishingly small probability that US monetary policy will tighten any further in the near future. Of course, neither will policy elsewhere tighten, so I continue to view the dollar’s prospects positively with the clear exception of the CNY as mentioned above.

Good luck
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Clearly On Hold

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Though policy’s clearly on hold
Most central banks feel they’ve controlled
The story on growth
And yet they’re still loath
To change their inflation threshold

Amidst generally dull market activity (at least in the FX market), traders and investors continue to look for the next key catalysts to drive markets. In US equity markets, we are now entering earnings season which should keep things going for a while. The early releases have shown declining earnings on a sequential basis, but thus far the results have bested estimates so continue to be seen as bullish. (As an aside, could someone please explain to me the bullish case on stocks trading at a 20+ multiple with economic growth in the US at 2% and globally at 3.5% alongside extremely limited policy leeway for further monetary ease? But I digress.) Overnight saw Chinese stocks rock, with Shanghai soaring 2.4% and the Hang Seng 1.1%. European stocks are a bit firmer as well (DAX +0.6%, FTSE +0.4%) and US futures are pointing higher.

Turning to the central banks, we continue to hear the following broad themes: policy is in a good place right now, but the opportunity for further ease exists. Depending on the central bank this is taking different forms. For example, the Minutes of the RBA meeting indicated a growing willingness to cut the base rate further, and market expectations are building for two more cuts this year, down to 1.00%. Meanwhile, the Fed has no ability to cut rates yet (they just stopped raising them in December) but continues to talk about how they achieve their inflation target. Yesterday, Boston Fed president Rosengren posited that a stronger commitment to the symmetry around their 2.0% target could be useful. Personally, I don’t believe that, but I’m just a gadfly, not a PhD economist. At any rate, the idea is that allowing the economy to run hot without tightening is tantamount to easing policy further. In the end, it has become apparent the Fed’s (and every central bank’s) problem is that their economic models no longer are a good representation of the inner workings of the economy. As such, they are essentially flying blind. Previous relationships between growth, inflation and employment have clearly changed. I make no claim that I know what the new relationships are like, just that 10 years of monetary policy experiments with subpar results is enough to demonstrate the central banks are lost.

This is true not just in the US and Europe, but in Japan, where they have been working on QE for nearly thirty years now.

More ETF’s bought
Will be followed by more and
More ETF’s bought

“It’s vital for the Bank of Japan to continue persistently with powerful monetary easing,” Governor Haruhiko Kuroda said. As can be seen from Kuroda-san’s comments last night in the Diet, the BOJ is a one-trick pony. While it is currently illegal for the Fed to purchase equities, that is not the case in Japan, and they have been buying them with gusto. The thing is, the Japanese economy continues to stumble along with minimal growth and near zero inflation. As the sole mandate for the BOJ is to achieve their 2.0% inflation target, it is fair to say that they have been failing for decades. And yet, they too, have not considered a new model.

In the end, it seems the lesson to be learned is that the myth of omnipotence that the central banks would have us all believe is starting to crack. Once upon a time central banks monitored activity in the real economy and tried to adjust policy accordingly. Financial markets followed their lead and responded to those actions. But as the world has become more financially oriented during the past thirty years, it seems we now have the opposite situation. Now, financial markets trade on anticipation of central bank activity, and if central banks start to tighten policy, financial markets tend to throw tantrums. However, there is no tough love at central banks. Rather they are indulgent parents who cave quite quickly to the whims of declining markets. Regardless of their alleged targets for inflation or employment, the only number that really matters is the S&P 500, and that is generally true for every central bank.

Turning to this morning’s data story, the German ZEW survey was released at a better than expected 3.1. In fact, not only was this better than forecast, but it was the first positive reading in more than a year. It seems that the ongoing concerns over German growth may be easing slightly at this point. Certainly, if we see a better outcome in the Manufacturing PMI data at the end of April, you can look for policymakers to signal an all clear on growth, although they seem unlikely to actually tighten policy. Later this morning we see IP (exp 0.2%) and Capacity Utilization (79.1%) and then tonight, arguably more importantly, we see the first look at Chinese Q1 GDP (exp 6.3%).

If you consider the broad narrative, it posits that renewed Chinese monetary stimulus will prevent a significant slowdown there, thus helping economies like Germany to rebound. At the same time, the mooted successful conclusion of the US-China trade talks will lead to progress on US-EU and US-Japanese talks, and then everything will be right with the world as the previous world order is reincarnated. FWIW I am skeptical of this outcome, but clearly equity market bulls are all-in.

In the end, the dollar has been extremely quiet (volatility measures are back to historic lows) and it is hard to get excited about movement in the near-term. Nothing has yet changed my view that the US will ultimately remain the tightest policy around, and thus continue to draw investment and USD strength. But frankly, recent narrow ranges are likely to remain in place for a little while longer yet.

Good luck
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Worries ‘Bout Debt

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In DC this weekend they met
The World Bank and IMF set
They bitched about Trump
Explained there’s no slump
But did express worries ‘bout debt

Markets are on the quiet side this morning as they consolidate the gains seen on Friday. Risk continues to be in vogue and so haven currencies; dollars, Swiss francs and Japanese yen, remain under modest pressure. That said, the FX market remains broadly range bound, at least within the G10 space.

The annual World Bank / IMF meetings were held this past weekend in Washington D.C. and all the global economic glitterati were present. Arguably there were three key themes; central bank independence is paramount to successful policy and there is great concern over President Trump’s ongoing, and increasingly strident, complaints about the Fed. Secondly there continues to be broad concern over the slowing growth trajectory that was highlighted by the IMF reducing their global growth forecast yet again last week, this time down to 3.3% in 2019 from their 3.7% estimate last October. Finally, there was evidence that the massive growth in debt around the world is starting to make a few policymakers more nervous.

Of course, the question is will policymakers actually change anything that they do given their concerns? As to the first, the only hope they have is to raise the issue frequently enough so that it gains a broad consensus amongst the non-economic set. Frankly, if you asked the proverbial man on the street who was Fed Chair, or the names of any of the other governors, I would wager less than one in ten people would know any of the answers. At the same time, with the President’s constant haranguing, the Fed remains an excellent scapegoat for any weakness in the US economy going forward. As much as it galls the establishment, there is no reason to believe that this behavior is going to change throughout the rest of the Trump presidency and probably well beyond that.

Regarding the second issue, slowing growth, once again given the current stance of virtually the entire global economic central bank community, it is unclear they have any ability to do anything else. After all, the whole group is already set at ultra-easy money, with limited ability to move any further. But perhaps more importantly, it is questionable whether the central banks are the actual drivers of economic growth, as much as they would like to think they are. Arguably, economic growth comes from a combination of consumer demand and production of those goods and services demanded. The last time I checked, the Fed neither consumed very much nor produced anything (other than hot air and paperwork). All I’m saying is that the ongoing belief that central banks control the economy might be faulty. What they do control is money and financial assets, but as we have seen during the past decade, a strong rally in financial assets does not necessarily translate into strong growth.

Finally, regarding the massive increase in debt that we have seen during the past decade, they are absolutely right to be concerned about this process. As Rogoff and Reinhart explained in their classic book, This Time is Different, excessive debt is the one thing that has consistently been shown to have a negative effect on economic growth. And while the definition of excessive may be uncertain, it is abundantly clear that debt/GDP ratios >100% is excessive.

Add it all up and it seems unlikely that there is going to be a surge in economic growth in the near future, or even the medium term. Thus, when comparing the situations across the globe, the current status is likely to remain the future status.

Turning to the upcoming week, we have a fair amount of data as well as another group of Fed speakers.

Today Empire Manufacturing 6.7
Tuesday IP 0.2%
  Capacity Utilization 79.1%
Wednesday Trade Balance -$53.5B
  Fed Beige Book  
Thursday Initial Claims 205K
  Philly Fed 10.4
  Retail Sales 0.9%
  -ex autos 0.7%
  Business Inventories 0.4%
Friday Housing Starts 1.23M
  Building Permits 1.30M

In addition to this, we hear from five more Fed speakers, although none of them are the big guns like Powell or Williams. And as I have repeatedly described, the Fed story is already well known and unlikely to change unless the data really starts to adjust. Add to this the fact that now Brexit is a back-burner issue and there remains scant information on the US-China trade talks and quite frankly, this week in FX is going to be all about US equity market earnings data. If the data is good and risk is embraced, the dollar will suffer and vice versa.

Good luck
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