T’was only a few months ago
When Kaplan from Dallas said, whoa
The time has arrived
Where growth has revived
And bond buying needs to go slow
Since then, though, the chorus has grown
As seven more members have shown
That they all agree
It’s time for QE
To end and leave markets alone
We continue to hear from more FOMC members that it is time to taper the Fed’s purchases of both Treasuries and mortgage-backed securities. Last Wednesday, of course, the big news was that Vice-Chairman Richard Clarida came out so hawkishly in his comments, not only calling for tapering bond purchases but also raising rates sooner than the median forecast had anticipated. Yesterday, three Fed speakers were all on the same page, with Boston’s Eric Rosengren the newest name added to the tapering crew (Bostic and Barkin were already known taperers.) That takes the count to at least eight (Clarida, Bostic, Barkin, Rosengren, Bullard, Daly, Waller and Kaplan) with the two most hawkish FOMC members, Loretta Mester and Esther George, on the docket for today and tomorrow respectively. It is not unreasonable, based on their respective histories, to expect both of them to call for tapering as well. That would make ten of the seventeen members as confirmed supporters of the process.
The question is, will that be enough? The Fed’s power core for the last several years has been concentrated in four members, Powell, Clarida, Williams and Brainerd. Of this group, only Clarida has publicly proclaimed it has come time to taper. And potentially, his importance is diminishing as his term ends within months and he is seen as highly unlikely to be reappointed. Rather, the talk of the town is that Chairman Powell is also losing fans in the Senate with respect to his reappointment, and that Governor Lael Brainerd is the new leading candidate to become Fed Chair. As it happens, neither of those two have come out for tapering soon, and in fact, last week, Ms Brainerd was adamant in her belief it was far too early to do so. The point is, the Fed has never been a democratic institution although it is an extremely political one. Having a majority of members agree on a view only matters if it is a majority of the right members. By my count, that is not yet the case. Perhaps come Jackson Hole in two plus weeks, we will hear the Chairman agree, but tapering is not yet a done deal.
Traders, however, see the world very differently than pundits, and certainly very differently than the Fed itself. And what has become very clear in the past several days is that traders are increasingly placing bets that tapering is coming…and coming soon. The combination of all those Fed speakers talking about tapering, the very strong NFP data as well as yesterday’s JOLTs blowout (>10 million jobs are open), and the constant stream of stories about rising wages (just this morning a BBG story on JPM raising salaries to compete to hold onto staff is simply the latest) have been sufficient to logically conclude that it is time for the Fed to begin removing accommodation. Hence, Treasury yields have backed up nearly 20 basis points from the lows seen last Wednesday morning, the dollar has risen against all its counterparts and the price of oil has fallen by more than 4%.
Looking ahead, the question becomes, is this likely to continue? Or have we reached a peak? It is not unreasonable to assume that both George and Mester will call for tapering this week. It is also not unreasonable to assume that the CPI data tomorrow is going to point to a still rising price environment, whether it ticks slightly higher or lower than last month’s 5.4% headline print. Any number in that vicinity remains far above the Fed’s average target of 2.0%. The point is that there is nothing obvious on the horizon that should cause the tapering hawks to back off, at least not until the end of the month. As such, hedgers need to be prepared for a continuation of the recent price action.
Meanwhile, a look at today’s markets shows that these recent trends remain intact. While Asian equity markets continue to follow their own drummer (Nikkei +0.25%, Hang Seng +1.25%, Shanghai +1.0%), European bourses continue to struggle (DAX +0.2%, CAC +0.1%, FTSE 100 -0.1%) as do US futures with all three major indices either side of unchanged. Asia seems to be benefitting from the view that the PBOC is preparing to ease policy further as China responds to the increased lockdowns due to the delta variant of Covid that has been spreading quite rapidly there, in addition to the fact that the Chinese authorities have not named a new target in its seemingly random crackdown of successful companies.
Bond markets, while edging higher today, have been generally losing ground. So, while Treasury yields are lower by 0.5bps this morning, they are at 1.32%, well off the lows seen last week. European sovereigns are generally a touch firmer as well, with yields down by between 0.5bps and 1 bp but they, too, have seen yields climb back a bit lately.
Commodity prices, which have been under severe pressure, are rebounding slightly this morning, although this has the appearance of a trading bounce more than a sea change in view. Commodity prices are likely to be amongst the hardest hit if the Fed really does start to tighten policy. But this morning, oil (+2.0%) has rebounded nicely although gold (0.0%) has been unable to bounce from yesterday’s massive sell-off. Copper (+0.65%) is leading base metals modestly higher and ags have bumped up a bit as well.
As to the dollar, right now it is arguably slightly stronger overall, but only just as there are a mix of gainers and losers vs. the greenback. In the G10 space, the euro (-0.1%) is continuing toward its test of key support at 1.1704, albeit quite slowly. The entire space, though, is +/- 0.2% or less, which is indicative of position adjustments rather than news driven activity.
EMG currencies are also mixed with KRW (-0.5%) the weakest of the bunch on the back of concerns over the impact of the delta variant as well as equity market outflows by international investors. PLN (-0.4%) is the next weakest as central bank comments seemed to delay the timing of a mooted rate hike. On the flip side, TRY (+0.6%) is the leader as Unemployment data there was released at a much lower than expected 10.6%.
Data today showed that Small Business Optimism has suffered lately with the NFIB Index falling to 99.7. At 8:30 we see Nonfarm Productivity (exp 3.2%) and Unit Labor Costs (+1.0%), although it is unlikely either will have a big market impact. Arguably, market participants are all waiting for tomorrow’s CPI data for the next big piece of news.
At this point, the dollar’s modest uptrend remains in place and I see no reason to believe that will change. At least not until we hear differently from Powell or the data turns much worse.
Good luck and stay safe