Monthly Archives: January 2024

Nary a Doubt

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The two things we’re watching today
Are Jay and the new QRA
The pundits are out
With nary a doubt
That easing is coming our way

But what if this faith is misplaced
And Jay, at the presser, bald-faced
Says policy ease
Is not what we please
And we’ll not get there in great haste

Reading the Fed Whisperer, Nick Timiraos of the WSJ, this morning was enlightening only to the extent that everybody he interviewed demonstrated they have no idea what will happen, and merely described what they would like to see.  Now, in fairness, I don’t think Powell himself really knows how things are going to play out as we continue to see mixed pictures on the economy.  For every strong datapoint (e.g., GDP, JOLTS, Case Shiller) indicating that there are many potential inflationary pressures extant, we see some softer data points (e.g., PCE, Empire Manufacturing, Dallas Fed) that indicate policy is excessively restrictive.  While it is very clear that the Fed will not adjust policy today, a look at Fed funds futures shows that the market is pricing in a 45% chance of a cut in March.  A month ago, that was over 70%, so Powell must be a bit happier, but 6 weeks is such a long time in this context, anything can happen between now and then.  And, oh yeah, the market is still pricing in 6 cuts this year.

Of course, long before the FOMC statement and Powell presser this afternoon, the Treasury will release its QRA and the market will learn if Secretary Yellen is going to continue down her recent path of leaning toward more T-bills and less coupons.  Based on her continuous comments that the soft landing has been achieved and inflation is no longer a problem, it seems quite clear that she wants to see the Fed cut rates soon.  After all, lower interest rates take pressure off the budget deficit, which is entirely her baby at this point.  Interestingly, she could essentially force Powell’s hand in this situation as follows:

1.     Issuing a high percentage of T-bills will lead to
2.     Reducing the RRP balances and bank reserves which will
3.     Force the Fed to respond by slowing/ending QT to prevent any systemic problems like seen in September 2019

Remember, we have already heard from Powell, as well as Dallas Fed President Lorie Logan, whose previous role was at the NY Fed overseeing the Fed’s reserve portfolio, that the time to discuss slowing or ending QT was fast arriving.  By itself, that is a policy ease, but it would also be a signal that further changes were on their way.  In fact, a continued heavy reliance on T-bill issuance would have two vectors to support the bond market; ending QT reduces the amount of bonds the market needs to absorb and reducing new supply by itself will do exactly the same thing.  At least for as long as inflation remains quiescent.  And in the end, that remains the biggest unknown, inflation.  All these plans and ideas revolve around the premise that the Fed has won its inflation fight.  But I ask you, what if they haven’t?

Too much digital ink has been spilled already on the inflation question and the two camps remain at distinct odds.  Forgetting all the conspiracy theorists who claim inflation is really 10% or more, and looking only at serious economists and analysts, while all agree that the rate of inflation has fallen from its peak levels in the summer of 2022, there is still a pretty even split between the two sides.  While I fall on the side of stickier inflation than the market is pricing, I can understand the other side of the story.  But the point is, there are two very real sides to the story and the outcome remains unwritten.  However, if inflation does remain stickier than the doves believe, it will destroy their entire thesis of why the Fed should be easing policy.  Given the stock market is making new highs regularly, I suspect investors and traders have largely bought into the ‘inflation is over’ view.  Just be careful if it’s not.

Ok, as we await today’s activities, let’s look at what happened overnight.  Following a mixed session in the US yesterday, Asian markets turned back the clock a few weeks with the Nikkei (+0.6%) continuing its longer-term rally while both the Hang Seng (-1.4%) and CSI 300 (-0.9%) revert to their losing ways.  It seems that investors simply do not believe that President Xi has either the ability or willingness to do anything to support the stock market there, at least, if not the economy.  I believe it would be a mistake to believe he is not willing, which calls into question exactly what they are going to do to prevent things from starting to impact the economy more negatively.  And perhaps we have seen the first steps.  The other noteworthy story in the WSJ this morning was about how Chinese authorities are “discouraging” negative takes on the economy from being published and instead telling news outlets to publish stories about the bright prospects there.

Moving on to Europe, the main indices have moved very little thus far today after a mixture of data showing inflation in Germany and France continue to decline but Retail Sales in Germany (-1.6%) and Switzerland (-0.8%) and Industrial Sales in Italy (-1.0%) all falling sharply in December.  Given the weak GDP data yesterday on the continent, none of this can be surprising.  Finally, US futures are mostly lower this morning, led by the NASDAQ (-1.0%) despite (because of?) what seemed to be solid earnings from Microsoft and Alphabet.  In the end, though, I sense that investors are far more focused on the QRA and FOMC right now.

Treasury yields are unchanged this morning but that is after a 4bp decline yesterday and we have seen European sovereign yields slide this morning as well, between 1bp and 3bps, which seems to be a catch up move to the Treasuries.  I must mention Australian government bonds, which saw yields tumble 13bps overnight on the back of a much softer than expected CPI reading which has the market talking rate cuts there again.  Finally, JGB yields edged 2bps higher, despite weaker than expected Retail Sales and IP data.

Oil prices (-1.1%) are backing off this morning after another positive day yesterday and a very strong month of January, where WTI rose > 9%.  (My take is that will not help the CPI data when it comes out in a few weeks’ time.)  Meanwhile, metals prices are trading near unchanged on the day as traders here are also awaiting the new information.

It should be no surprise that the dollar is, net, little changed this morning on the same premise of waiting for Godot Powell.  Looking at my screen, I don’t see any currency that has moved more than 0.3% in either direction so really no information yet today.

In addition to the QRA and FOMC meeting, we see the ADP Employment Report (exp 145K), the Employment cost Index (1.0%) and Chicago PMI (48.0).  Careful attention should be paid to the ECI as the Fed focuses on that metric for wage inflation data.  As an indication, prior to the pandemic, that index averaged around 0.6%, but since then, it is more like 1.0% on a quarterly basis.  That annualizes to more than 4% and will maintain upward pressure on inflation if it stays there.  Just something else to keep in mind.

If pressed, I believe that the QRA will show reduced coupon issuance and Powell will be more dovish than not.  While we know the Treasury is political, by definition, and will do everything in its power to stay in power and get re-elected, my take is the Fed is in that camp as well.  I would not be surprised to see a more dovish take this afternoon after the QRA this morning.  And initially, at least, that tells me the dollar will trade back toward its recent lows ceteris paribus.

Good luck
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There’ll Be No Crash

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Said Janet, I know we’ve been spending
Too much, but you’re not comprehending
I’ve plenty of cash
So, there’ll be no crash
Instead, stocks will keep on ascending

Til Wednesday, we’ll keep the suspense
But really, it’s just common sense
Chair Powell and I
Will help the Big Guy
And policy ease will commence

Well, the first shoe dropped yesterday afternoon as the Treasury explained that they would “only” be borrowing $760 billion in Q1, a solid $56 billion less than had been expected by the market as of yesterday morning.  With that significant reduction in potential Treasury issuance, the bulls went nuts and both stocks (+0.75%) and bonds (-7bps) rallied.  A cynic might believe that Secretary Yellen was trying to manipulate the stock market higher, but we all know that could never be the case.  At any rate, this sets us up for Wednesday when first thing in the morning we will see the Quarterly Refunding Announcement (QRA), where Yellen will describe the ratio of short-dated T-bills to long-dated coupon issuance, and then at 2:00, the FOMC Statement will be released with Chairman Powell speaking at the press conference 30 minutes later.

Given the excitement over yesterday’s events, I suspect that at least one of the two events tomorrow will be dovish rates/bullish equities but have no idea which way it will play out.  In the end, though, it doesn’t really matter.  Ultimately what we have learned is that Yellen is running the show, and all Powell can do is respond.  The one thing I have to wonder is, what if the government spends more than the $760 billion in Q1?  Where will that money come from, and what will the impact be on the markets?  (Obviously, they will simply borrow more, but it will not be an issue as there is no limit these days, nor for an entire year going forward.)  However, for now, that is just a concern for grumpy old men like me.

In China, though they have announced
More stimulus and stocks first bounced
It seems traders feel
Xi ain’t got that zeal
So, sellers once more have all pounced

You may recall last week when the Chinese stock market rallied sharply after a series of announcements regarding government support.  First there was the story of CNY 2 trillion of cash that would be coming home and invested in equities and then the PBOC cut the RRR by 50 basis points, freeing up another CNY 1 trillion.  These moves were supposed to demonstrate that Xi was going to fix things.  And he did…for a week.  But now, equity markets in both Hong Kong (-2.7%) and on the mainland (-1.8%) are falling again as it seems market participants have come to believe that there are too many problems for a mere CNY 3 trillion to fix.  And they could well be correct.

After all, China has been inflating their economy for decades and the property bubble they have blown is not nearly popped yet.  While this could be a modest correction in the beginning of a trend higher, I have a feeling that the fundamentals have a long way to go before they make sense for international investors.  With the European economy having stagnated for the past 5 quarters and the US moving an increasing amount of business to Mexico from China, it will be tough sledding in China, I fear.  Ultimately, I continue to believe the renminbi will suffer as it will be the most likely outlet valve.  But for now, I guess they can stand the pain.

And those are today’s stories as the market braces itself for tomorrow’s QRA and FOMC, Thursday’s BOE and Friday’s NFP data.  In the meantime, let’s recap the rest of the overnight action.

Despite the robust performance in the US yesterday, only Japan and Australia managed to show any signs of life in Asia overnight as China dragged down all the other regional markets.  This cannot be too surprising given the importance of the Chinese economy there, and if it is lagging other nations are going to struggle as well.  Europe, however, is having a much better go of it, with gains across the board, led by Spain’s IBEX (+1.25%) after both real and nominal GDP rose more than expected with inflation ticking higher alongside economic activity.  That may not bode well for the inflation story in Europe, but for now, everyone’s happy and the ECB comments have all pointed to rate cuts by the middle of the year.  As to US futures, at this hour (7:45) they are just barely on the red side of unchanged, with no market even -0.1%.

You will not be surprised that European yields slipped yesterday after the US bond rally as the combination of a prospect of lower yields in the US alongside the slightly more dovish talk from the ECB speakers was plenty of catalyst for a bond rally there.  While yields have edged back higher by 2bps or 3 bps this morning, they remain below yesterday morning’s levels.  In the US, Treasury yields have continued their decline, down another 1bp overnight while JGB yields have edged down another 1bp as well.  One other market to note, China, saw yields slip 3bps overnight and they are now at their lowest level since the early 2000’s as the market anticipated further policy ease from the government and PBOC.

Oil prices (-0.65%) are off a bit this morning as they continue to consolidate last week’s gains.  Clearly there is still concern regarding the US response to the attacks on its base in Jordan over the weekend as the intensity of that response is still completely unknown.  Weakness in China is not helping the oil market and European GDP data has also worked against the demand story, so uncertainty remains the watchword.  As to gold, it is continuing to creep higher but remains in its recent 2020/2060 trading range.  Lastly, the base metals are a touch softer this morning, but only a touch.

Finally, the dollar is a bit softer this morning after a benign day yesterday.  In a way, this is surprising as I would have expected the greenback to slide alongside Treasury yields, but I guess given the broader dovishness from ECB and other central bankers, on a relative basis not much changed.  As well, traders are reluctant to take large positions ahead of tomorrow’s big QRA and FOMC announcements.  As such, I suspect that we are going to see a very quiet session here across the board, just like we had overnight.

On the data front, while not as exciting as tomorrow, we do see Case Shiller Home Prices (exp 5.8%), JOLTS Job Openings (8.75M) and Consumer Confidence (115.0) this morning.  I keep listening to all the people who are telling me that falling housing prices are going to drive inflation lower, and the only reason the CPI and PCE calculations aren’t already lower is because they both have them at a lag.  Then I look at Case Shiller and say, what falling housing prices?  Anecdotally, in my neighborhood, we continue to see bidding wars and homes selling above asking.  If rates are really going to come down further, I suspect that will only drive that process even further.  The deflation story just makes no sense to me.  But anyway, probably not much today and all eyes are on tomorrow.

Good luck
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Not One Whit

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Both headline and core PCE
Were softer, with both below three
But under the hood
It’s not quite as good
As housing and transport are key
 
The narrative, though, will not quit
Assuring us all this is it
Rate cuts will come soon
And stocks to the moon
But so far, for proof, not one whit.
 
There is a very good analyst who writes regularly on the macroeconomic story named Wolf Richter.  In the wake of Friday’s PCE data release, he published an article that had the following table:

It is not hard to look at this table and see a bit of the reality we all face, rather than the widely touted headline numbers regarding inflation.  Housing continues to be sticky at much higher inflation rates than target, as well as transportation services, recreation services and financial services.  But even the other stuff, seems to be running above the elusive 2.0% level.  Now, this is the annualized rate of the past 6 months’ average readings.  But as I highlighted last week regarding CPI, this seems to be the new benchmark.  My point is that while the narrative is really working hard to convince us all that inflation is collapsing and the Fed is massively over-tight in its policy and needs to CUT RATES NOW, this breakdown doesn’t look quite the same.  My belief is the Fed remains on hold much longer than the market is expecting/hoping for, and that at some point, equity markets and risk assets are going to come to grips with that reality.  Just not quite yet.

Of course, maybe the narrative is spot on, and inflation is going to smoothly decline back to the 2% level while economic growth continues its recent above-trend course.  But personally, I have to fade that bet.  Based on the amount of continued fiscal stimulus, as well as the Fed’s discussion of slowing QT and their indication of rate cuts later this year, I believe that while the growth story is viable, it will be accompanied with much hotter inflation than is currently priced.  The fact that breakeven inflation rates are priced at 2.50% in the 10-year does not mean that is what is going to happen.  Just like the fact that the Fed funds futures market is currently pricing between 5 and 6 rate cuts in 2024 does not mean that is what is going to happen.  Let’s face it, nobody knows how the rest of the year is going to play out.  The one thing, however, of which we can be sure is that Treasury Secretary Yellen will spend as much money as possible in her effort to get President Biden re-elected.  That alone tells me that inflation is set to rebound.

And there is one other thing to remember, as things heat up in the Red Sea, and shipping avoids the area completely, the cost of transiting stuff from point A to point B continues to rise.  The cost is measured both in the dollars charged for the service and the extra 10-14 days it takes to complete the trip around the Cape of Good Hope in South Africa.  It seems that the Biden Administration’s foreign policy has unwittingly had a negative impact on its economic policy plans.  

In sum, when I look at both the data and the activities around the world, it remains very difficult to accept the narrative that inflation is collapsing so quickly that the Fed MUST cut rates and cut them soon.  The combination of still robust US growth on the back of excessive fiscal stimulus and the increased tensions in the oil market lead me to a very different conclusion.

With that in mind, let’s see what happened overnight.  Equity markets in Asia were mixed as Japan (Nikkei +0.8%) and Hong Kong (Hang Seng +0.8%) both rallied but mainland Chinese shares (CSI -0.9%) fell.  This was somewhat surprising as China, in their continuing efforts to prop up their stock markets, have restricted the lending of any securities for short sales while a HK court ruled Evergrande (remember them?) should be liquidated completely.  Perhaps the Chinese real estate situation is not quite fixed yet after all.  I suspect that we will see other liquidations as well before it is all over.  In the meantime, European bourses are mixed with the DAX (-0.4%) lagging while the FTSE 100 (+0.25%) is top dog today.  There’s been no news of which to speak so this seems like position adjustments ahead of the Fed’s activities later this week.  US futures, too, are mixed and little changed at this hour (7:15).

Bond markets, though, are really loving all the rate cut talk and are growing more confident that they will be coming soon as inflation collapses.  Treasury yields are lower by 3bps this morning and the entire European sovereign market has rallied with yields down an impressive 5bps-7bps today.  The only outlier is the JGB market, which saw the 10-year benchmark yield edge up 1bp.  It is much easier for me to believe that the ECB is going to cut as inflation in the Eurozone slows alongside the faltering growth story than to believe that the Fed is going to cut into an economy growing 3+%.  But that’s just me.

In the commodity markets, oil (+0.3%) continues to find support as the tensions in the Middle East expand after an attack in Jordan killed three US servicemen there.  Oil is higher by 5% in the past week and more than 11% in the past month.  It seems to me that will not help the inflation story.  At the same time, we are seeing demand for precious metals as gold (+0.5%) and sliver (+1.0%) are both rallying on the increased nervousness around the world.  Perhaps more interestingly is that copper is marginally higher this morning, something that would seem contra to the escalating tensions.

Finally, the dollar has rallied a bit this morning on net, although it is not a universal move by any stretch.  For instance, while European currencies are broadly weaker, in Asia and Oceania, we are seeing strength with AUD and NZD (both +0.4%) and JPY (+0.2%) fimer.  As to the rest of the world, it is a mixed session with minimal movement.  Feels like a wait and see situation given all the data and info coming this week.

Speaking of the data this week, there is much to absorb.

TodayTreasury Funding Amount$816B
 Dallas Fed Manufacturing-23
TuesdayCase Shiller Home Prices5.8%
 JOLTS Job Openings8.75M
 Consumer Confidence115
WednesdayADP Employment135K
 Treasury QRA 
 Employment Cost Index1.1%
 Chicago PMI48
 FOMC Meeting5.5% (unchanged)
ThursdayInitial Claims210K
 Continuing Claims1835K
 Nonfarm Productivity2.5%
 Unit Labor Costs1.7%
 ISM Manufacturing47.3
 Construction Spending0.5%
FridayNonfarm Payrolls173K
 Private Payrolls145K
 Manufacturing Payrolls2K
 Unemployment Rate3.8%
 Average Hourly Earnings0.3% (4.1% Y/Y)
 Average Weekly Hours34.3
 Participation Rate62.4%
 Factory Orders0.2%
 Michigan Confidence78.8

Source tradingeconomics.com

The first thing to understand is that this morning, the Treasury will be releasing how much funding they expect to need in Q1 of this year, currently expected at $816 billion, but Wednesday’s QRA will describe the mix of the borrowings.  Recall that last quarter, Secretary Yellen changed the mix of short-dated paper to long-dated coupons substantially and completely reversed the bond market rout that was ongoing at the time.  If she continues to issue far more bills than coupons, it should support the bond market and help continue to juice risk assets.  Any substantial increase in coupon issuance is likely to be met with a significant stock and bond market sell-off.  So, which do you think she will do?

Otherwise, looking at the other data, certainly there is no indication that housing prices are moderating.  The Fed will not change rates on Wednesday, but everyone is waiting to see if they will remove the line in their statement about potentially needing to raise rates going forward.  Perhaps there will be a little two-step where the QRA points to more bond issuance, but the Fed sounds more dovish to offset that news.  And of course, Friday’s NFP data will be keenly watched by all observers as any signs that the labor market is cracking will get the rate cut juices flowing even faster.

All in all, we have a lot of new information coming to our screens this week.  At this point, it is a mug’s game to try to guess how things will play out.  However, if we see dovishness from the Fed or the QRA (more bill issuance) then I expect risk assets to perform well and the dollar not so much.  The opposite should be true as well, a surprisingly hawkish Fed or more coupon issuance will not be welcomed by the bulls, at least not the equity bulls.  The dollar bulls will be happy.

Good luck

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Smokin’

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The GDP number was smokin’
As animal spirits have woken
The Core PCE
If higher than three
Could slay rate-cut talk that’s been spoken

Thus, if the Fed’s data dependent
The ‘conomy’s truly resplendent
So, please do explain
Why rate cuts are sane
Seems rates ought, instead, be ascendent

By now you are all aware that Q4 GDP was a significantly better than expected 3.3% SAAR, far above the 2.0% analyst forecasts and far above the Atlanta Fed’s GDPNow readings.  For everyone who is looking for that recession, thus far it still appears to be somewhere further down the road.  At some point, it is certain, there will be a recession but the when is the big question.

Now, a different question would be what is driving the economic activity that we have seen?  That answer is far easier to determine as in the equation that defines economic growth: Y=C+I+G+NX (exports-imports), the variable that is growing most consistently is the G, government spending. Simply look at the size of the budget deficit. This is not to say that government spending is not growth as measured, just that it is not organic growth that feeds on itself.  It is the organic kind that is the sign of a healthy economy.  Government spending can be analogized as gaining weight but not growing stronger, i.e. getting fat.

Regardless, though, of the reasons for the growth, it is real in the sense that more activity is taking place.  This implies that demand continues to be robust.  Since this is the case, I would ask all those who are expecting the Fed to cut rates by May at the latest, but begging for a March rate cut, why do you think that is appropriate?

First off, another way to say data dependent is to call the Fed reactive.  This means that the Fed is explicitly going to be behind the curve and react to the data they see, they are not going to pre-empt expectations for future economic outcomes.  Back in the day, when Alan Greenspan was Fed chair, he would raise rates occasionally to head off what he thought was incipient inflation, but rate cuts were then, and have always been, reactive to problems in the economy.  That is why, generally, rate decline much faster than the rise.  This cycle was quite the exception but then Chairman Powell was in denial for a very long time before he figured out he had made a mistake.  It is this reason that I believe the Fed funds outcome is bimodal, that either there will be only one or two token cuts, or we will see 300bps or more as the economy craters.  Based on yesterday’s data, I’m still in the one cut camp this year as per my 2024 forecasts.

It is important to remember that the Fed’s dot plot is not the road map, per se, it is merely a compilation of each member’s individual forecasts.  But they are just that, forecasts, and as we saw with yesterday’s GDP number, FORECASTS ARE WRONG ALL THE TIME!  There is no reason to believe the Fed or its members, who have an atrocious forecasting record, know where things are going to be later this year, let alone in 2025 or 2026.

Back to my point, to drive it home; the Fed has explained they are going to be reactive to the data when it comes to setting policy rates.  So far, the data is pointing to continued solid, above trend, economic growth and the employment situation remains strong (Initial Claims at 200K, Unemployment Rate at 3.7%).  As well, inflation remains well above their target.  Once again, I will ask, why will they be cutting rates in H1?  If they do, it implies that things have gotten a whole lot worse in a hurry, and that, my friends, will not be a positive for risk assets.

Turning to the overnight session, after a solid equity market performance in the US, where all three major indices rallied a bit, Asia took a different path as both Japanese and Chinese shares fell 1.35% or more.  Apparently, the luster of the Chinese fiscal and market support has faded a bit, but that hasn’t stopped those who got long Japanese shares in that pairs trade I discussed yesterday, from continuing to sell.  Interestingly, the data overnight showed that Tokyo CPI, on every measure, was much softer than forecast implying that the BOJ has far less need to consider tightening policy in the near future.  I would have thought that would have helped Japanese shares, but not so much.  Europe, though, is having a much better day with the CAC (+2.1%) leading the way on the back of very strong results by LVMH, the luxury goods firm.  But all the indices are higher on the continent.  Alas, US futures are a bit softer at this hour (7:00), but only just and really it is the NASDAQ which has been lagging a bit.

In the bond market, activity has been muted everywhere as investors and traders around the world await this morning’s PCE data in the US.  Treasury yields, which slid a few bps yesterday, are unchanged on the day and European sovereigns are all seeing yields drift lower by between 1bp and 3bps.  Perhaps the least surprising move is JGB yields sliding 3bps overnight on the back of that Tokyo CPI data.  As an indication of what those numbers are like, Headline and Core both printed at 1.6% Y/Y, significantly below the December readings and the lowest in nearly two years.

While oil prices have backed off a bit this morning, -0.8%, they have had an excellent week, up nearly 5% on the back of the stronger showing in the US economy, the fiscal stimulus stories in China and the fact that Ukraine was able to successfully attack a Russian oil shipping facility, closing it down and reducing supply.  In the short-term, it does feel like there are more potential catalysts to drive this price higher, but the long-term question remains open.  As to the metals markets, they continue to do very little with marginal gains or losses on a day-to-day basis as we have been trendless in gold and copper for the past several months.  We will need to see some fundamental changes in the supply/demand equation to shake out of this lethargy, but that remains true in many markets.  Data of late is a Rorschach test as there always seems to be a data point to help someone justify their view, regardless of their view.  We need to see things align more clearly for a change in either direction.

Finally, the dollar, which has been grinding ever so slightly higher over the past month or two, is a bit softer overall this morning, roughly 0.3% across the board in both the G10 and EMG blocs.  Arguably, the most important data overnight was that Tokyo CPI, but the yen is actually unchanged on the session, lagging the euro and pound, but not responding very much.  Interestingly, despite oil’s decline, NOK is slightly firmer, so this is really a modest dollar weakness story for now.  Perhaps in anticipation of a soft PCE number?

So, let’s turn to the data today.  Everything comes at 8:30 and here are the consensus views right now: Personal Income (0.3%), Personal Spending (0.4%) PCE (0.2% M/M, 2.6% Y/Y), and most importantly, Core PCE (0.2% M/M, 3.0% Y/Y).  Much has been made of comments that Governor Waller made a few weeks ago which have been interpreted as ‘knowledge’ that the M/M number would be soft, 0.1%, dragging all the other indicators with it.  As well, Treasury Secretary Yellen ostensibly explained that the recession has been avoided and the soft landing achieved so inflation is no longer a problem.  And maybe that will be the case.  But inflation is a funny thing.  It is insidious and extremely difficult to remove from an economy as complex as the United States once it is embedded there.  I have no idea where today’s data will print, but I will say that my bias is that inflation is stickier than the rate cut advocates believe.

As to the market reaction, that is also very difficult to anticipate.  Yesterday in my assessment of what would occur in response to a hot number, I was right about the dollar and oil, but not about stocks and bonds, both of which rallied.  As of now, the Fed funds futures market continues to price a 50:50 chance of a March cut.  I feel like we will need to see a very soft number today to keep that stable.  And if the M/M number is 0.3%, I would expect that March probability to shrink rapidly.  However, for now, those looking for rate cuts remain on top in the game, and they will only give up their views kicking and screaming.  Keep your ears peeled.

Good luck and good weekend
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Possibly Soaring

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So far this week, things have been boring
With data or news not outpouring
But starting today
More stuff’s on the way
With GDP possibly soaring

As well, we’ll hear from M Lagarde
Who’s promised her backbone is hard
It’s too soon to cut
As there’s still a glut
Of funds spread all over the yard

Heading into this morning’s data releases, we have had remarkably little on which to focus this week.  Flash PMI data yesterday was modestly better than expected, although manufacturing is still trending in recession around Europe and Asia.  Perhaps the biggest surprise was in the US where the manufacturing print was a solid 50.3, the first time it has been above the boom/bust line since last April.  However, that was not enough to quicken any pulses.

You can tell how dull things have been by the fact that the biggest news yesterday came from the Fed regarding the BTFP.  The BTFP (Bank Term Funding Program), you may recall, is the facility the Fed invented last March in the wake of the collapse of Silicon Valley and Signature banks.  The idea was they would lend money to the banks without the banks taking a haircut on the value of the collateral, so lending 100% of the collateral’s face value despite the fact the bonds were trading at 75 cents on the dollar.  It was designed to tide over weak banks and ostensibly had less stigma than borrowing from the Fed’s Discount Window, which is supposed to tide over weak banks.  But the funding was cheaper given the collateral price adjustment and over time, it garnered about $110 billion in utilization.  However, last November, when the market decided that the Fed was going to cut rates aggressively in 2024, the funding formula for these loans fell substantially below the IOER that the Fed pays to banks, reaching a spread of 60bps.  So, banks started using the BTFP to earn risk free cash.  Well, the Fed got tired of that game and as of today, raised the cost of funding thus eliminating the arbitrage.  And that was the most interesting thing in the markets yesterday!

But that was then.  Now we get to look ahead to a few key pieces of information starting with US Q4 GDP’s first reading (exp 2.0%) as well as Durable Goods (1.1%, 0.2% ex transport) and Initial (200K) and Continuing (1828K) Claims data.  That will be followed by the ECB’s press conference at 8:45 where Madame Lagarde will be able to reiterate her strong views that despite a very weak Eurozone economy, they have not yet solved the inflation problem and they are not going to cut rates anytime soon.  I have ignored the ECB official decision time as there is a vanishingly small probability that they will adjust rates from the current 4.0% level.

The question for market participants is whether any of this will matter, or if we still need to see the next crucial information, tomorrow’s PCE data and, of course, the FOMC meeting and press conference next Wednesday.  My sense is that much will revolve around that GDP print.  The Atlanta Fed’s GDPNow is forecasting a 2.4% print for Q4, still above the economists’ consensus, albeit not as far above as in Q3.  Given the market’s ongoing strong belief that the Fed is going to be aggressively cutting rates this year, an outcome at the GDPNow level or higher would certainly have a market impact, likely seeing a sell-off in bonds and a reduction in the probability of rate cuts going forward.  The natural extension of this would be a stronger dollar, weaker stocks and probably stronger oil prices as the demand side of the equation would be rising.

But in this topsy-turvy world where good news is bad, the converse is also likely true, a soft print will reinforce the ideas that the Fed is going to cut sooner and more aggressively which will have a short-term positive impact on stocks and bonds, although the dollar will suffer accordingly.

One of the market conversations about the Fed has been regarding the political implications of their moves and whether they may cut sooner just to try to avoid any appearance of a political bias.  But as I think about that, while the very small minority of people in this country who focus on the economy and markets will certainly have opinions on the subject, I would contend that for the vast majority of folks, whether the Fed cuts 25bps in March or May or June is just not going to change their lives nor change their vote.  Remember, monetary policy works with “long and variable” lags, so even if they do cut in March, it probably won’t start to feed through into any economic impact before the election.  The only conceivable impact would be that money-market fund yields would fall that 25bps, an annoyance but not a significant change.  My point is far too much emphasis is put on the potential political nature of this and I think it is overblown.

Turning to the overnight market activity, Chinese shares continue to benefit from the recent monetary and fiscal support that the government is adding with shares in HK and the mainland both higher by 2% overngith.  Meanwhile, Japanese shares were essentially unchanged, although that spread continues to narrow.  As to European bourses, they are softer this morning with the DAX (-0.5%) falling after weaker than forecast IFO data across the board indicating not only weak current conditions but weak prospects as well.  (As an aside, this is why it is so difficult to believe that Lagarde will hold off on rate cuts until the summer.  A weak Germany is a problem for the Eurozone.)   finally, after a mixed session yesterday, US futures are edging a bit higher as I type (7:45).

In the bond market, Treasury yields, which rose a few bps on the session yesterday, are essentially unchanged this morning but European sovereign yields are higher by 2bps across the board, perhaps in anticipation of something from the ECB.  JGB yields continue to creep higher as well, up another 2bps overnight as there is a growing confidence that the BOJ is going to exit their negative interest rate policy by April.  Right now I would still fade that bet.

Oil prices (+0.9%) have continued to rally with WRTI back above $75/bbl and Brent above $80/bbl.  Yesterday’s EIA inventory data showed surprisingly large drawdowns in crude and most distillates although gasoline inventories rose a bunch.  As well, it appears that the costs of transport are starting to drive the overall price higher with more and more shipping traffic avoiding the Red Sea.  Meanwhile, metals markets, after an ok day yesterday, are essentially unchanged this morning.

Finally, the dollar, which fell sharply yesterday, is mixed but broadly unchanged across the board.  Looking at my screen the largest move I see is KRW (-0.4%) with every G10 currency within 0.25 of yesterday’s closes.  At this point, the market is biding its time for today’s data as well as tomorrow’s PCE and next week’s FOMC meeting.  Unless that GDP number is a big miss in either direction, which I outlined above, I suspect a very quiet session here.

Right now, we are in a wait and see mode, so, let’s wait and see what the data brings and we can evaluate after the releases.

Good luck
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Seems Like a Crisis

Posted on by

The Chinese have not finished yet
Their efforts to counter the threat
Of weaker stock prices
Which seems like a crisis
So new triple R rates were set

But one thing I don’t understand
Is while CCP’s in command
Just why do they care
‘Bout stocks anywhere
Perhaps communism ain’t grand

Yesterday, the Chinese government announced that there would be up to CNY 2 trillion of support for Chinese equity markets in their latest effort to stanch the 3-year bear market.  But apparently, that was not enough as last night Pan Gongsheng, the PBOC governor, announced they were reducing the Reserve Requirement Ratio (RRR or triple R) in order to free up additional loan capacity for the banks.  The move, a 0.50% cut in the ratio will ostensibly release another CNY 1 trillion into the economy.

There are two issues I’d like to address here.  First, given the property market in China remains under significant pressure as activity still seems to be lethargic, at best, and the economy overall is not really expanding at a significant pace, why do they think that allowing more loans will encourage people to take more loans.  After all, last week, they left the Loan Prime Rates unchanged, so were not trying to encourage more activity, and it is not clear that loan capacity has been a constraint in any manner during the past several years.  As global growth remains slow overall, it is entirely possible, if not likely, that there is just reduced demand for Chinese manufactures around the world right now.

The second issue is a bigger picture question, why does the Chinese Communist Party care at all about the stock market?  After all, a reading of Das Kapital would explain that there is no place for private ownership at all in a communist system and by extension, no place for shareholders.  The state is supposed to own everything.  My conclusion is that Xi, and the entire CCP, are full of s*it regarding their belief in communism.  In fact, I would contend that is true for every communist regime on the planet.  Rather, those in charge in communist regimes merely see it as the most effective way to command all the power and wealth personally and could care less about the concepts Marx espoused.  In the end, I would argue that the human condition is one where acquiring as much power and wealth as possible is the driving goal for most people.  While many people have much smaller ambitions, the sociopaths who rise to leadership roles in politics know no bounds as to what they believe is their due.  Just sayin!

Regardless of the underlying rationale, though, the PBOC had the desired impact as both the Hang Seng (+3.6%) and the CSI 300 (+1.4%) rallied sharply on the news.  As well, the Nikkei (-0.8%) slid a bit further as it seems there had been a growing position by CTAs and hedge funds in the long Japan/short China trade which I illustrated yesterday.  If China is rebounding, I expect that Japanese shares will have further to slide in the near-term.  As well, after another day with some record high closings in the US yesterday, European bourses are all in the green nicely this morning with the DAX (+1.3%) leading the way although the other main indices are also higher by about 1%.  The laggard here is the UK (+0.4%) and I attribute this movement to the Flash PMI data which was released this morning showing that continental growth continues to slide, hence increasing the chance of a rate cut sooner, while UK data was a bit better than expected, and well above 50 across the board, implying the BOE will lag any rate cuts going forward.  And happily, as I type at 8:00, US futures are all nicely in the green as well.

In the bond market, Treasury yields are a touch softer this morning, down 2bps, but still hanging right around the 4.10% level which has been a pivot for the past week.  European sovereigns have seen yields decline about 3bps across the board after that soft PMI data, while UK Gilts have moved the other direction on the stronger data there.  Of more interest, I think, is that JGB yields have jumped 5bps overnight and are now back above 0.70%.  It seems that there is an evolution in thinking regarding Ueda-san’s comments after the BOJ meeting Monday night, and the belief that they will be exiting NIRP in April is growing stronger.  We shall see.

Commodity prices are higher across the board this morning with oil (+0.3%) continuing to find support, arguably from the troubles in the Middle East, although some short-term issues like the shuttering of a Russian export terminal after a Ukrainian attack have also had an impact.  But metals markets are universally higher this morning as well, with gold (+0.25%) far less impressive than copper (+2.0%) or aluminum (+0.9%) as positivity from the Chinese RRR cut and the potential for stronger growth on the mainland feed through the markets.

Finally, the dollar is under pressure this morning across the board.  This is true in the G10 bloc with the euro and pound both firmer by 0.5%, while the yen (+0.8%) and CHF (+0.8%) are having even better days.  Similarly, the EMG bloc has seen gains across the board with the leader ZAR (+1.1%) on the back of those metals gains, but strength in PLN (+0.8%), CZK (+0.7%) and HUF (+0.65%) showing their high beta with respect to the euro, and gains in APAC currencies (KRW +0.4%, SGD +0.3%, CNY +0.3%) and LATAM currencies (MXN +0.6%, BRL +0.8%) as it is unanimous regarding the dollar’s weakness.

On the data front, today brings only the Flash PMI data (exp 47.9 manufacturing, 51.0 services) and the EIA oil inventories.  There are no Fed speakers due to the quiet period, so I foresee market activity focused on equity earnings releases although none of the big names are due today.  Right now, the dollar is under pressure amid ongoing belief that the Fed is going to cut ahead of other central banks.  Until that story changes, I expect that we could see a bit more dollar weakness.  But in the end, tomorrow’s GDP and Friday’s PCE data are going to really drive views.  Look for a quiet one today.

Good luck
Adf

Others to Blame

Posted on by

Apparently, President Xi
Is not very happy to see
That stocks made in China
Have lost all their shine-a
So, feels he must buy by decree
 
The upshot is two trillion yuan
Is what he will spend, whereupon
He’ll then get to claim
Twas others to blame
Though it’s his ideas that keep on
 
Last night the BOJ meeting was the non-event that was widely expected.  There was no change in policy and when looking at their forecasts, if anything they lowered their inflation views a touch for next year, thus reducing the chance of a policy change even more.  The follow-on commentary was not very inciteful either, explaining that they are prepared to take additional easing measures if necessary but uncertainties on the price outlook are high.  In other words, we still don’t know how to achieve our goal of sustainable 2% inflation so we’re going to watch a bit longer.
 
The punditry has decided that Ueda-san is going to adjust policy at the April meeting after the spring wage negotiations have been completed, but personally, i don’t believe he feels a compelling need to do anything absent a major decline in the yen from current levels.  After all, the economy is still ticking over nicely and the stock market has been rallying consistently for a year and is back at 34-year highs, approaching the 1989 bubble peak.  However, if USD/JPY were to trade back above 150 again and start to move more quickly, I suspect that might be the catalyst the BOJ and Ueda-san need to change their tune.
 
Arguably, of far more interest last night was the news that China is now considering a support package for the stock market there!  (For a communist country, it is quite ironic how much Xi Jinping cares about the most capitalistic institution there is, the stock market.)  The headline number is CNY 2 trillion (~$278 billion) which will be sourced from Chinese state-owned companies (SOEs) overseas and ostensibly will flow into the offshore market for Chinese shares as well as the Hang Seng in Hong Kong.  The below chart, courtesy of Weston Nakamura’s excellent substack is quite explanatory as to why Xi may be feeling some pressure.

 

The dramatic widening of the spread between Hong Kong and Japanese shares has been remarkable in the first three weeks of 2024, a substantial acceleration of what we have seen since November of last year.  My sense is Xi is taking it personally that the world is dismissing China as a serious global player as evidenced by the fact that nobody wants to invest there at all.  Obviously, there are sanction and tariff issues as well as a comprehensive effort by many western companies to reduce their reliance on China as part of their individual supply chains, but I guess this has become too much to bear for President Xi. 

While this mooted number is twice as large as the previous discussions, it remains to be seen if it will be effective beyond the knee-jerk response by the Hang Seng today (+2.6%).  After all, the Chinese property market is still a disaster, and all the other problems remain intact.  Chinese share prices have been falling for 3 years now, and my sense is it will take real policy changes rather than a buying spree by SOEs to change any views.  Perhaps communist-based stock markets are an oxymoron after all.

Away from those two stories though, not very much is ongoing.  Mainland Chinese shares also rose, but far less, just 0.4%, while Japanese shares were essentially unchanged on the day after the BOJ’s meeting.  In Europe, equity markets are a touch softer, although only about -0.2% or so across the board and after yet another positive day in the US yesterday, US futures are pointing slightly higher at this hour (7:45), about 0.2%.

In the bond market, yesterday’s price action is being reversed with yields across the US (+2bps) and Europe (+2bps across virtually all nations) backing up a bit.  As there continues to be a lack of data on which to trade, this price action seems almost like a classic risk-on take, with equities higher, the dollar softer, and bonds falling in price as well.  However, given that the movement is just 2bps, I would not get excited about any new information here.

In the commodity markets, oil (-0.75%) is slipping a bit this morning, but has been performing pretty well over the past week on the back of the ongoing tensions in the Middle East.  However, we are seeing positive price action in the metals space this morning with gold (+0.2%) and copper (+0.5%) both pushing a bit higher.

Finally, the dollar is mixed this morning, with no consistency across either the G10 or EMG blocs.  CNY (+0.3%) has rallied on the strength of the financing package while ZAR (+0.8%) is benefitting from the metals complex rally, as is CLP (+0.35%) and AUD (+0.25%).  However, the euro (-0.2%) is sliding along with several EMG currencies, notably PLN (-0.75%) and MXN (-0.5%), as idiosyncratic stories drive markets this morning rather than a broad dollar narrative.

The only marginal piece of data this morning is the Richmond Fed Manufacturing Index (exp -11), yet another manufacturing index that has been performing quite poorly.  Interestingly, there was a Twitter (X?) thread this morning from Anna Wong (@annaeconomist), a senior economist at Bloomberg, describing some potential reasons as to why the Initial Claims data, which has been running far lower than the recessionistas expect due to eligibility issues and the fact that UI pays so little, people would rather driver for Uber than collect.  This is another indirect sign that the economy is not nearly as positive as many, especially the soft-landing proponents and equity bulls, would have you believe.  Food for thought.

As to the rest of the day, given the lack of other data as well as the anticipation of the Thursday and Friday info on GDP and PCE, I anticipate a quiet session overall.  Momentum remains higher in stocks, but bonds are uncertain, and the dollar is mixed.  Don’t look for too much movement in either direction here today.

Good luck

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With Conceit

Posted on by

On Friday, two final Fed speakers
Explained they are both simply seekers
Of lower inflation
Hence, justification
That they’re simply policy tweakers
 
We now have nine days til they meet
When both bulls and bears will compete
To offer their vision
While casting derision
On each other’s views with conceit
 
It appears to be a slow day to start what has the potential for quite an interesting week.  While the Fed is in their quiet period, we have central bank meetings in Japan, the Eurozone, Norway and Canada as well as the first look at Q4 GDP and the all-important December PCE data.  As I said, while it is slow today, there is much to anticipate.

But first let’s finish up last week, where the equity rally continued unabated despite continued pushback from Fed speakers.  Notably, SF’s Mary Daly, who is usually a reliable dove, was very clear that it is too soon to consider cutting interest rates.  Her exact words, “We need to see more evidence that it is heading back down to 2% consistently and sustainably for me to feel confident enough to start adjusting the policy rate,” seem pretty clear that she is not ready for a cut yet.  Meanwhile, Chicago’s Austan Goolsbee was similarly confident that it is premature to consider cutting rates any time soon.  

Arguably, of more importance is the fact that the Fed funds futures market is now pricing in slightly less than a 50% probability of a rate cut in March and about 5 rate cuts this year, rather than the 6 to 7 cuts that were in the price ten days ago.  So, we heard a great deal of jawboning to remove just one rate cut from the market perception.  For the life of me, I cannot look at the recent CPI data as well as the situation in the Red Sea and the Panama Canal, where though caused by different situations, show similar outcomes in forcing a significant amount of shipping volumes to change their route to a longer, more costly one and see lower inflation in our future.  I understand that there was a disinflationary impulse, but to my eye that has ended.

Now, it is entirely possible that we see the rate of inflation decline on the back of a recession, but that is not the market narrative at this point.  Rather, the market appears to be priced for the perfection of a soft landing, where the Fed will be able to tweak rates lower while inflation continues to soften, and unemployment remains low.  Alas, I still see that as a pipe dream.  As I have written in the past, it seems far more likely that we see either one rate cut as the economy continues to perform and inflation remains stubborn or 10 or more amidst a sharp slowdown in economic activity and rising unemployment, but five doesn’t seem correct to me.

In the meantime, today is a waiting game for all the things yet to appear this week.  Looking at the overnight activity, we continue to see the dichotomy between China and Japan with the former seeing its equity markets continue to crater (CSI 300 -1.6%, Hang Seng -2.3%) while the latter has made yet another new 34 year high (Nikkei +1.6%).  Last night, the PBOC left their key Loan Prime Rates unchanged, as expected, but still a disappointment to a market that is desperate for some stimulus from the government there.  So far, all the activity has been directly in the financial markets where the Chinese have banned short-selling and “advised” domestic institutions to stop selling any equities, and yet the markets there continue to underperform.  Perhaps President Xi will decide that common prosperity requires fiscal stimulus of a significant nature, but that has not yet been the case.  Both the Hang Seng and mainland markets have fallen precipitously, but there is no obvious end game yet.  Meanwhile, European bourses are all in the green, on the order of 0.5% while US futures are higher by a similar amount at this hour (7:45).

Bond markets are having a better day around the world today with yields falling everywhere.  Treasury yields are the laggard, only down by 3bps, while European sovereigns have fallen 5bps and even JGB’s fell 1 bp overnight.  Perhaps it is the sterner talk by central bankers regarding rate cuts (ECB speakers have also pushed back hard on the idea that rate cuts are coming in March, with the June meeting the favorite now), which has investors becoming more comfortable that inflation will continue its recent declines.  As there has been exactly zero data released today, that is the most rational explanation I can find.

In the commodity markets, quiet is the word here as well with oil (+0.35%) edging higher, thus holding onto last week’s gains, while metals markets are mixed.  Gold is unchanged on the day; copper is modestly softer, and aluminum is modestly firmer.  As has been the case for the past several weeks, there is not much information to be gleaned from these markets right now.  I expect that over time, we will see commodity prices trade higher as the decade long lack of investment in the sector plays out, but in the short-term, there is little on which to see regarding price trends, absent a major uptick in the Middle East dynamics.  After all, even avoiding the Red Sea hasn’t had much impact.

Lastly, the dollar is mixed overall.  Against its G10 counterparts, JPY, GBP and NZD all have edged higher by about 0.2%, but we are seeing similar weakness in NOK and AUD.  In the EMG bloc, we actually see a few more laggards than leaders with ZAR (-0.8%), HUF (-0.5%), and KRW (-0.4%) all suffering a bit on the session while CLP (+0.5%) is the leading light in the other direction.  Ultimately, the big picture here remains the dollar is tied to the yield story and if the Fed really does maintain higher for longer, the dollar will find support.

As mentioned above, there is a lot of data to digest this week as follows:

TuesdayBOJ Rate Decision-0.1% (unchanged)
WednesdayFlash Manufacturing PMI48.0
 Flash Services PMI51.0
 Bank of Canada Rate Decision5.0% (Unchanged)
ThursdayNorgesbank Rate Decision4.5% (Unchanged)
 ECB Rate Decision4.0% (Unchanged)
 Durable Goods1.1%
 Q4 GDP2.0%
 Chicago Fed National Activity0.03
 Initial Claims200K
 Continuing Claims1828K
FridayPersonal Income0.3%
 Personal Spending0.4%
 PCE0.2% (2.6% Y/Y)
 Core PCE0.2% (3.0% Y/Y)

Source: tradingeconomics.com

So, the end of the week is when we get inundated, although the Eurozone Flash PMI data comes on Wednesday as well.  But without a major data miss, all eyes and ears will be on the central banks right up until we see Friday’s PCE data.  Regarding that, there is a growing expectation that the core number will be quite soft, with many pundits calling for an annual number below 3.0% on the core reading.  However, given what we have seen from inflation readings everywhere, including the slightly hotter than forecast CPI numbers, I would fade that view.

The one thing of which I am confident is that if the Core PCE print is soft, you can expect the futures markets to price 6 or 7 cuts into this year and more cuts everywhere with the concomitant rise in both stock and commodity prices, especially given the Fed’s inability to push back immediately.  However, my view is that the world of today is not the world of the past 15 years, and that higher inflation and higher interest rates are an integral part of the future.  As well, unless there is a financial crisis of some sort, where more banks are under pressure like last March, I remain in the very few rate-cuts camp and think the equity rally has an expiry date before the summer.  As to the dollar, I think it holds up well in that circumstance.  While I changed my view based on the Powell pivot at the December FOMC meeting, the data has not backed him up, at least not yet.

Good luck

Adf

Quite Restrictive

Posted on by

The Fed keeps on spinning the tale
They’re watching like hawks so that they’ll
Be able to jump
In case Donald Trump
Does not look like going to jail
Be able to act
And not be attacked
If ‘flation forecasts start to fail
 
Twas Bostic’s turn yesterday to
Explain that the policy skew
Is still quite restrictive
Though that’s not predictive
Of what they may finally do
 
Atlanta Fed President Raphael Bostic was the latest FOMC member to regale us with his views on current policy settings amid two speeches yesterday.  The essence of his comments lines up with what we have heard for the past two weeks; policy is sufficiently restrictive to help drive inflation down to their 2% target, but they will be vigilant if that is not the outcome.  One of the things that he mentioned, and that has been a really popular chart crime over the past few months, at least for the doves, is he discussed annualizing the most recent three months of PCE data and the most recent 6 months of PCE data as proof that they are doing a good job.  In fact, in one of his two presentations, he used the following chart:

Unquestionably, if you look at the orange line, which represents the annualized value of the past 3 months, it shows that PCE is “now” running below their target.  But let me ask you a question, looking back to H1 of 2022, when inflation was peaking.  Both the 3-month and 6-month changes were well above the annual number at the time.  Do any of you remember the focus on those short-term nonsense numbers?  Me neither.  My point is the only number that matters is the actual annual one as that is their target.  Any indication that it is flattening or turning higher, just like the CPI data did earlier this month, is going to put paid to this story.  While I have no idea where next week’s data is going to print, we must be wary of the narrative spin on the actual data.  If we know one thing about the Fed, by definition, they are reactive.  That is what following the data means.  If they were predictive, they would move before the data, but they never do that. 
 
So, all this talk of cutting before inflation gets too low is not monetary policy.  However, we cannot rule out a cut based on the political implications as they view rate cuts as a way to boost the economy and try to ensure the current president is re-elected rather than the likely Republican candidate gets back in.  Alas, for now, we will have to live with the spin.  Today we hear from two more Fed speakers, SF’s Mary Daly and Governor Michael Barr.  I suspect we will hear exactly the same message from both.  Too early for cuts, but they are ready when the time comes.
 
Meanwhile, across the pond, the preponderance of ECB speakers has been very clear that March is off the table for a rate cut but June seems to be what they see as likely.  Here, too, they see the trend as their friend, but inflation readings are still nowhere near their 2.0% target.  However, it is clear that the pain of higher rates is having a much larger impact on Europe than on the US as GDP data continues to deteriorate.  Germany is in recession and much of the rest of the continent is on its way.  The benefit for Madame Lagarde is that the Europeans did not inject nearly as much stimulus during the Covid years as the US, so it is likely the Eurozone economy is following a better-known path.  In the end, though, they are very anxious for the Fed to get started as they really want to start cutting rates, I believe, but with inflation still far above target and the Fed still holding on, they would have no rational explanation for their actions.
 
One last thing to note is CPI in Japan was released last night and it fell to 2.6% headline and 2.3% core.  Any idea that the BOJ was going to need to tighten policy in the near-term to fight too high inflation has been dissipating quickly.  It turns out that they may have been correct to leave policy unchanged as now they do not need to do anything to be in the right spot.  The market response mostly made sense as the yen weakened with the dollar now above 148, while the Nikkei rose another 1.4% and is pushing those recent 30+ year highs.  The weird thing, though, was the JGB market which saw yields rally 4bps, back to their highest level in a month.  I have been unable to find any solid explanation for this move as certainly it is not fundamental.
 
Anyway, let’s look at the rest of the overnight session to see how things are feeling as we close the week.  After a solid US equity session yesterday, most of Asia had a good go of things with rallies pretty much everywhere except China and Hong Kong.  The equity markets in both those nations have been under significant pressure lately and show no signs of turning.  While the market is not the economy, President Xi has already called for the end of short sales and is now leaning on domestic institutions to not sell at all.  With the property market already in the tank, a rapidly declining stock market is not a good look for the concept of prosperity for all.  Europe, though, is modestly higher this morning and US futures are also in the green following yesterday’s session.
 
In the bond markets, Treasury yields are little changed on the day, but remain above the 4.10% level that some are calling a key technical spot.  European sovereigns, though, are all rallying more aggressively with yields falling between 3bps and 7bps despite what are continuous calls for the ECB to maintain tight policy for longer than the market is pricing.  Perhaps investors are feeling better about inflation prospects if the ECB holds the line.
 
After a rally yesterday, oil prices are essentially unchanged this morning.  The unrest in the Red Sea continues with the Houthis firing more missiles and fewer and fewer ships willing to transit the area while yesterday’s tit-for-tat Iran-Pakistan missile attacks are now merely history.  The fact that oil remains below $74/bbl implies it is not really pricing any possibility of a larger Middle East conflict.  That seems pretty hubristic to me as the probabilities seem to be far larger than zero.  As to the metals markets, both precious and base metals are firmer this morning in sync with softer yields and a softer dollar. 
 
Speaking of the dollar, while it is ever so slightly lower on a DXY basis this morning, it continues to hold the bulk of its gains for the past month.  Versus G10 currencies, the picture is mixed with GBP (-0.2%) underperforming after absolutely abysmal Retail Sales data was released this morning, but the rest of this bloc is higher by about 0.2% or so on average.  In the EMG space, the direction is broadly for currency strength, but the movement remains modest at best, on the order of 0.1%-0.3%.  In other words, not much is going on here.
 
On the data front, yesterday brought a mixed picture with Housing data slightly better than expectations, although starts fell compared to last month.  Initial Claims printed at 187K, their lowest in a very long time, but Philly Fed was at a worse than expected -10.6, not as bad as Empire State, but still not too bullish!  Today brings Michigan Sentiment (exp 70.0) and Existing Home Sales (3.82M) as well as the above-mentioned Fed speakers.  After today, the Fed is in their quiet period, so we will have to make up our own minds as to what the data means.
 
For now, the market seems quite comfortable buying dips and as evidenced by the Fed funds futures market, is still pricing a 55% chance of a March cut.  While that probability is shrinking slowly, there are still 6 cuts priced in for the year.  At this point, my thesis of the market fighting the Fed for the first half of the year before capitulating to higher inflation prospects and higher yields amid slowing growth remains my best guess.  But that is just me.  Absent something really surprising from Daly or Barr, I suspect that there will be limited price movement going into the weekend.
 
Good luck and good weekend
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Looks Askance

Posted on by

On Wednesday, twas John Williams chance
To help explain, though at first glance
Inflation is sinking
No Kool-aid, he’s drinking
So, at cuts, he still looks askance

And backing him up in this view
Was Retail Sales, which really grew
There’s no indication
That US inflation
Is going to fall down near two

The pushback by FOMC speakers continued yesterday as NY Fed president Williams was the latest to explain that although things were heading in the right direction, the committee was unlikely to cut rates anywhere nearly as quickly as the market is pricing.  Here are the money lines, “My base case is that the current restrictive stance of monetary policy will continue to restore balance and bring inflation back to our 2 percent longer-run goal. I expect that we will need to maintain a restrictive stance of policy for some time to fully achieve our goals, and it will only be appropriate to dial back the degree of policy restraint when we are confident that inflation is moving toward 2 percent on a sustained basis.” [Emphasis added]. Once again, the idea that the Fed is going to cut rates in March seems awfully remote, at least based on what they are telling us.

Now, it is entirely possible that the data starts to deteriorate more rapidly with growth clearly falling and Unemployment starting to rise more rapidly and if that were to occur, I think a March cut would not be impossible.  But then yesterday we saw a much better than expected Retail Sales print, (headline +0.6%, ex autos +0.4%) with the Y/Y growth up to 5.6% (nominal).  Data like that is not indicative of a collapse in economic activity.  The fact that much of it is reliant on a combination of massive fiscal stimulus and increased credit card debt does not mean the growth is false.  It merely sets up for weakness later.

In the end, the Fed funds futures market is backing away a bit further from that March rate cut with the probability reduced to 61% now from 70% just a week ago.  It can be no surprise that between the Williams comments and the stronger data, Treasury yields backed up 5bps and equity markets suffered a bit more, down about -0.5%.

To me, the key question is, at what point will the market accept that 6 rate cuts are not the most likely outcome this year?  Clearly, they are not ready to do so yet, although based on the equity market performance so far this year, there is a little bit of nervousness, at least, making its way through the investment community.  Analyzing the price action over the past month and considering the information that we have gotten since the last FOMC meeting, the outlier seems to be Powell’s dovishness at the press conference, not the macroeconomic data nor the commentary from other Fed speakers.  Of course, Powell’s voice is clearly the most important, but when both Waller and Williams, his two top lieutenants, reiterate that maintaining restrictive policy is the right move for now, I have to believe that the next FOMC statement is going to reiterate that stance.

What does all this say about the future?  Well, since everything is data dependent, or at least that’s what they tell us, then we need to continue to watch the data to help understand the reaction function.  The problem is that there is no consistency in the data.  For instance, in addition to yesterday’s strong Retail Sales data, we saw stronger than expected NFP and higher than expected CPI readings, all three being critical real data points.  On the flip side, we have seen weaker than expected ISM data, both manufacturing and services and Tuesday’s Empire State Manufacturing Index fell to -43.7, a level only exceeded by the Covid readings in early 2020.  In fact, that index has fallen more than 50 points in the past two months.  The upshot is that we continue to see negative survey data and solid real data.  So, I ask you, which set of data is the Fed watching more closely?

FWIW my assessment of the situation is as follows: the Fed is aware of the goldilocks narrative but has not bought into it at this stage, at least not Powell and his two key lieutenants, and they are the ones that matter. Whatever the survey data, if the hard data holds up, they are going to maintain policy right where it is.  While we know they care about surveys (look at their focus on inflation expectations), I think Powell is still very afraid of being Arthur Burns redux.  Right now, it looks like the outlier was the Powell press conference, not all the push back.  I changed my entire thesis based on that pivot and that may have been a mistake.  However, if we start to see weaker hard data, so Housing softens, PCE is soft, GDP misses expectations or something like that, look for goldilocks to make a return.  Otherwise, regardless of the survey data, I fear risk assets are going to have trouble as are bond markets which have priced in a lot of rate cuts.

Speaking of push back, we continue to hear ECB speakers on the same page as the Fed, rate cuts are not coming on the market’s current timeline.  June seems to be the earliest it will happen there unless the Fed cuts sooner.  I continue to believe given the very weak growth profile in Europe that Madame Lagarde is quite anxious to get started cutting rates, but she knows she cannot do so yet.  I imagine that Interpol will have an APB out on goldilocks pretty soon as they want to capture her and keep her in the public’s eye.

One other thing to mention away from the financial markets is what appears to be a further escalation of fighting in the Middle East.  Last night, Pakistan retaliated against Iran with missile strikes of their own, ostensibly killing Pakistani militants who were based in Iran.  Whatever the rationale may be for these moves, the one truism is that things in the Middle East are getting more dangerous and that is going to pressure oil prices higher.  We have seen that this morning, with small gains, but I would suggest that will be the direction of travel if this keeps up.

Ok, on to markets where yesterday’s lackluster US equity performance was largely ignored as Japanese stocks were just barely lower, Chinese and Hong Kong stocks finally rebounded a bit and the rest of APAC saw more gainers than losers.  European markets are firmer this morning, in what could well be a trading bounce as there was no data to encourage the process and US futures are firmer at this hour (7:30) by about 0.5%.

After yesterday’s continuation bounce in yields, this morning we are seeing a bit of a pullback with Treasury and most European sovereign yields lower by about 2bps.  The one outlier is Japan, where JGB yields picked up 3bps, although that could well be a delayed response to yesterday’s Treasury price action as the Japanese data overnight was quite soft (Machinery Orders and IP both falling in November) and not indicative of tighter policy in the future.

Aside from oil’s modest gains, gold has rebounded a bit this morning, up 0.5%, arguably on the increased tensions in Iran/Pakistan but the base metals are under pressure today.  Lately, it is very difficult to glean much information from the base metals as confusion over whether Chinese growth is real, and how overall growth is progressing seems to be keeping traders on the sidelines.

Finally, the dollar is backing off its highs from yesterday, but the movement has not been large, about 0.2% broadly across both G10 and EMG currencies.  The most noteworthy outlier is ZAR, where the rand has rallied 0.85% on the back of that gold strength.

On the data front today, Housing Starts (exp 1.48M), Building Permits (1.426M), Initial Claims (207K), Continuing Claims (1845K) and Philly Fed (-7) all show up at 8:30.  As well, Atlanta Fed president Raphael Bostic speaks twice today, early and late, so it will be very interesting to hear if he is going to push back further on the Powell pivot or agree with it.

Today brings both hard and survey data, so if it all lines up one way or the other, perhaps it will be a driver.  But my take is we will continue to see a mixed picture and so will be highly reliant on Fedspeak as after Bostic today, we get Daly and Barr tomorrow and then the quiet period.  I think a risk rebound is in order just because things have been weak.  But I am worried about the longer-term trend now that Powell is seeming more and more like the outlier, not the driver.

Good luck
Adf