The positive vibe still remains
Encouraging stock market gains
Likewise bonds are sold
With dollars and gold
In paeans to John Maynard Keynes

As the market walks in ahead of today’s jobs report, once again poor data has been set aside and the equity bulls are leading the parade to acquire more risk assets. Stock markets are rallying, bond markets selling off and there is pressure on gold and the dollar. Granted, the moves have not been too large, but the reality is that the default market activity is to buy stocks regardless of valuation.

Let’s start with a quick look at current data expectations:

Source: Bloomberg

These are all pretty good numbers, and if the forecasts are right, it would certainly reinforce the idea that the US economy is ticking over nicely. Of course, the problem is that we have seen some pretty bad data in the past week which may call this evaluation into question. Recall Monday’s terrible ISM Manufacturing data, as well as Wednesday’s double whammy of ISM Non-Manufacturing and ADP Employment, both of which sharply disappointed. While yesterday’s Durable Goods was right on the mark, I would argue that based on the data seen this week, the US economy is clearly slowing down into the fourth quarter.

Adding to the general gloom is the data we have seen from elsewhere, notably Europe, where this morning’s German IP report (-1.7%) was the worst monthly print since April and took the year on year decline to -5.3%, the slowest pace since the financial crisis in 2009! Remember, Factory orders in Germany were awful yesterday, and the PMI data, while not as bad as expected regarding manufacturing, was much worse than expected in the service sector. The point is Europe is clearly not going to be driving the global economy higher anytime soon.

And of course, the other main engine of growth, China, has continued to present a picture of an economy in slow decline with excess leverage and financial bubbles still abundant, and with a central bank that is having trouble deciding which problem to address, excess leverage or slowing growth.

With this as a starting point, it is easy to see why there are so many bears in the market. But there is an antidote to this unrequited bearishness…the Fed! While Chairman Powell has repeatedly explained that the FOMC’s current practice of purchasing $60 billion per month of Treasury bills is NOT QE, it is certainly QE. And remember, the Fed is not just purchasing T-bills, they are also adding liquidity through overnight, weekly and monthly repo operations on a regular basis. In fact, they are taking all the collateral offered and lending money against it, not even targeting an amount they want to add. It certainly appears that they are simply adding as much liquidity to the markets as possible to prevent any of those bears from gaining traction. So in reality, it is no real surprise that risk assets remain in demand.

In fact, the Fed’s ongoing active stance in the money markets has me reconsidering my long-held views on the dollar’s future. The macroeconomic story remains, in my estimation, a USD positive, but one need only look at the dollar’s performance during QE1, QE2 and QE3 where we saw dollar declines of 22%, 25% and 16% respectively to force one to reconsider those views. ‘Not QE’ could easily undermine the dollar’s strength and perhaps, despite the ECB’s ongoing efforts, drive the dollar much lower. In conversations with many clients, I have been hard pressed to come up with a scenario where the dollar falls sharply, short of another shocking US electoral outcome where, as a nation we vote for left wing populism, à la Senator Warren or Senator Sanders, rather than our current stance of right wing populism. However, if the Fed maintains its current stance, expanding the balance sheet and adding liquidity with abandon to the money markets, there is every reason to believe that the dollar will suffer. After all, we continue to run a massive current account deficit, alongside our trade and budget deficits, and we are flooding the markets with newly issued Treasury debt. At some point, and perhaps in the not too distant future, the market may well decide the US dollar is no longer the haven asset that it has been in the past. In any case, while I consider the issues, it would be sensible, in my estimation, for hedgers to consider them as well.

And with that cheery thought, let us look forward to this morning’s market activity. My sense is that the combination of modestly higher than expected Initial Claims data during the survey week, as well as weak ISM employment sub-indices, and of course, the weak ADP number, will result in a disappointing outcome today. I fear that we could see something as low as 100K, which could see a knee-jerk reaction lower in the dollar as expectations ratchet up for more Fed monetary ease.

One other thing to keep in mind is that as we approach year-end, market liquidity starts to dry up. There should be no problems today, nor next week, I expect, but after that, trading desks see staffing thin out for vacations and risk appetite for the banks shrinks significantly. Nobody wants to risk a good year, and nobody will overcome a bad one in the last week of the year. So to the extent possible, I strongly recommend taking care of year end activity by the end of next week for the best results.

Good luck and good weekend
Adf