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:

Tuesday	BOJ Rate Decision	-0.1% (unchanged)
Wednesday	Flash Manufacturing PMI	48.0
	Flash Services PMI	51.0
	Bank of Canada Rate Decision	5.0% (Unchanged)
Thursday	Norgesbank Rate Decision	4.5% (Unchanged)
	ECB Rate Decision	4.0% (Unchanged)
	Durable Goods	1.1%
	Q4 GDP	2.0%
	Chicago Fed National Activity	0.03
	Initial Claims	200K
	Continuing Claims	1828K
Friday	Personal Income	0.3%
	Personal Spending	0.4%
	PCE	0.2% (2.6% Y/Y)
	Core PCE	0.2% (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