Monthly Archives: January 2024

Somewhat Miffed

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The Minutes did naught to explain
Why Jay might need raise rates again
But if we all harken
The Fed’s Thomas Barkin
The future seems cloudy with rain
 
So, now it seems Jay’s somewhat miffed
As he and his team try to shift
The views he expressed
That rate cuts were blessed
And markets did act sure and swift

 

Remember the certainty with which market participants determined that the Fed had not only finished raising interest rates, but that they would be cutting them quite soon?  That is so last year!  It seems that after a powerful Santa Claus rally that was inaugurated by Secretary Yellen’s move to issue more T-bills and less coupons, and then seemingly confirmed at the December FOMC meeting, where the dot plot showed no more rate hikes and a median expectation of three cuts this year, and where Chairman Powell, when given a chance to push back on this new narrative in the press conference, went out of his way to embrace the ‘rate cuts coming soon’ narrative, the Fed is no longer happy about the situation.  Instead, now they seem to want the market to ratchet back these expectations for a quick decline in interest rates.  At least, that’s what we heard from Richmond Fed president Tom Barkin yesterday, “The FOMC’s December meeting got a lot of attention. We acknowledged the progress on inflation and explicitly reaffirmed our willingness to hike if necessary.”  [emphasis added].

Meanwhile, the Minutes seemed to lean more hawkish than not, “It was possible that the economy could evolve in a manner that would make further increases in the target rate appropriate.  Several also observed that circumstances might warrant keeping the target range at its current value for longer than they currently anticipated.”  Arguably the best line, though, was “Participants generally perceived a high degree of uncertainty surrounding the economic outlook,” which is likely the most honest statement they have ever made.  In the end, the Minutes didn’t sound very dovish to me, but as I mentioned above, the press conference came across far more dovishly.  One other thing to note is that they mentioned QT for the first time in quite a while.  It seems that they recognize the incongruity of shrinking the balance sheet while cutting interest rates, so they have begun to consider how to message any changes there.

With this new information being absorbed, the market is now in the process of re-evaluating the idea that rate cuts are going to happen as quickly and as substantially as thought just a week ago.  At this time, there is just a 10% probability of a cut at the end of this month (it was nearer 20% last week) and the March probability is down to 70% (it was 79% last week) though the market is still pricing in 6 cuts in 2024.  FWIW, that seems outside the bounds of how things will ultimately play out, and I maintain that while a cut could easily be made by the May meeting, I do not foresee inflation cooperating which will force a lot of rethinking.

To summarize the Fed story, the market has sensed a disturbance in the easing force that had been widely assumed and a key driver of the late 2023 risk rally.  This morning, markets have stabilized after two consecutive negative days to open the year.  As such, let us keep our eyes peeled for more, new and, potentially non-narrative, information going forward. 

Looking at the latest data releases overnight and this morning, they consisted of the Services PMI data as well as German state inflation.  Regarding the former, both Australian and Japanese data were soft although Chinese data was better than expected with the Caixin Services PMI printing at 52.9, continuing its rebound from summer lows.  Across Europe, Italian (49.8), French (45.7), German (49.3) and the Eurozone composite (48.8) all showed contractionary numbers although the UK (53.4) vastly outperformed.  As to the German state-by-state inflation readings, every one of them bounced sharply from last month’s recent lows and the market is looking for a sharp rebound in the national CPI to 3.7% later this morning.  As I have written before, that combination of rising inflation and weak growth is a tough situation for Madame Lagarde.  My money is still on her to address the growth rather than the inflation, although she will likely wait until the Fed moves before doing so in Frankfurt.

With all this in mind, let’s take a look at the overnight market activity.  In Asia, the picture was mixed although there was more red than green on the screen.  While the Nikkei (-0.5%) fell, other Japanese indices held their own, and we saw some strength in Indian shares as well.  However, China remains under pressure, despite the stronger than anticipated PMI reading and that has been weighing on South Korea, Hong Kong and Australia overall.  However, in Europe, we are seeing modest gains this morning, only on the order of 0.1% or 0.2%, but green is more pleasant than the red of the past two days.  As to US futures, they are little changed at this hour, although again, better than their recent performance.

In the bond market, from the time I wrote yesterday morning, yields fell through the rest of the session by nearly 7bps in the 10yr Treasury market, and this morning, they have bounced back from the closing levels by 4bps.  We have seen similar price action throughout Europe where yesterday’s declines to closing lows have been reversed and we are now between 6bps and 9bps higher than the end of Wednesday’s session.  JGB yields, though, remain anchored at 0.60%, unchanged.

Oil (+1.0%) is continuing to rebound as the situation in the Middle East seems to be getting more complex.  The Houthis continue to attack Red Sea shipping, Israel killed a Hezbollah leader in Lebanon, potentially widening the conflict and there was a terrorist bombing in Iran (with the best guess it was internally executed by an unhappy faction) which can only serve to increase the overall tension levels.  While the broader weakness we have seen in this space is likely a response to weaker overall economic activity, especially in China, at some point, that activity will pick up and I expect oil prices to do so as well.  In the metals complex, base metals are under further pressure this morning, with both copper and aluminum down -0.6% or so, although gold (+0.2%) is bucking that trend, perhaps on the back of the dollar’s marginal weakness this morning.

Speaking of the dollar, as measured by the DXY it is -0.2% softer this morning with pretty uniform losses vs the major G10 and EMG currencies.  The one exception is the yen (-0.6%) which continues to suffer based on the idea that the BOJ will not be able to consider interest rate normalization in the wake of the recent earthquake on the country’s west coast.  In truth, the dollar seems to be quite the afterthought in markets right now, with much greater focus on the bond market and central bank actions as the drivers.  While I would carefully watch if the dollar starts to break these correlations, I don’t see it as a key driver right now.

On the data front, we see a few things this morning, starting with ADP Employment (exp 115K) and then Initial (216K) and Continuing (1883K) Claims.  As well the Services PMI data is released later this morning (51.3) and finally we get the EIA oil inventories with another large draw of 3.7 million barrels expected which ought to continue to support the black, sticky stuff.

There are no Fed speakers on the calendar although we must all be watchful for the pop-up CNBC interview if they feel their message, whatever it may currently be, is not getting proper attention.  While the first two sessions of the year were certainly uncomfortable for risk assets, I do not believe that my idea of a solid first half followed by more evident problems in the second half of the year has been dismantled.  Clearly, tomorrow’s NFP data will be critical, and we will discuss it ahead of the release.  Until then…

Good luck

Adf

Dragged Through the Mud

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The year started out with a thud
As equity markets saw blood
The bond market fell
And oil’s death knell
Was sounded, whilst dragged through the mud
 
The question we now must address
Is, are markets set to regress?
Or, is this a blip
O’er which we can skip
Without adding too much new stress?

 

Has the narrative already changed?  That seems to be the question we really need to ask after just one day of trading in 2024.  It seems hard to believe that the macroeconomic fundamentals have changed very much, especially since we have not gotten any substantial data yet.  While ISM Manufacturing (exp 47.1) and JOLTS Job Openings (8.85M) are due later this morning, it beggar’s belief that the market is anticipating much there.  Sure, we get the payroll report on Friday, but given the goldilocks, soft-landing scenario had seemed to be the prevailing theory, have we actually seen anything that would change that view?

Of course, it is possible that market participants are fearful that the FOMC Minutes, which are released at 2:00 this afternoon are not going to reconfirm their broadly dovish views.  You may recall that at the December FOMC meeting, Chairman Powell did nothing to disabuse the markets of the idea that the Fed had not only finished tightening, but that it was getting set to ease.  From that point, the Fed funds futures market has priced in a total of six rate cuts for 2024, twice the number the median dot plot numbers showed and a pretty dramatic easing, especially if the economy does not fall into recession.

There is, of course, another possible rationale for yesterday’s weak start in risk assets; they were wildly overbought.  Since that Fed meeting in the middle of December, stocks had rallied sharply (S&P 500 +3.4% at its peak), 10-year yields fell 40bps at their trough and the dollar, as measured by the DXY, had fallen more than 2%.  The peak (trough) was seen immediately after Christmas, and we have been drifting back since then.  In fact, I think it is fair to say that markets got a bit exuberant in the wake of the FOMC meeting.

But as we get back to fully staffed trading desks and investment managers are back from their holiday breaks, I suspect that price action is going to moderate a bit while volumes improve.   As I tried to make clear yesterday, I believe that the recent uptrend in risk assets will continue broadly until we see enough data to change opinions.  There remains a pretty large group of analysts who are in the “inflation is going to 1%” camp and that will allow (force?) the Fed to cut rates more aggressively to prevent real interest rates from becoming too restrictive.  As that is a pleasing narrative, and one that the current administration would really like to see evolve, I expect that we will hear a lot about that for a while.  And maybe that is what will come to pass.

However, my suspicions and fears are that 2024 will be less idyllic than those goldilocks scenarios that are being painted by the soft-landing crowd.  I find it difficult to believe that amongst all the potential big picture problems, including escalation of the Middle East war, the Ukraine war, China’s recent threats about reunification of Taiwan, and the more than 40 elections that are due this year, culminating in the US election, there won’t be at least a few major hiccups.  In fact, the ongoing unhappiness in the US electorate is likely to be one of the biggest issues driving what I believe will be risk aversion before the year ends.  But that has not yet manifested itself, so we are likely to have interesting times ahead.

In the meantime, let’s look at the overnight price action.  After the weak US equity performance, APAC markets mostly fell, with only Japan (Nikkei -0.2%) really holding in well.  European bourses this morning are all lower, on the order of -1.0%, with the CAC (-1.5%) really suffering and US futures all in the red, led by the NASDAQ (-0.7%) although the others are down about -0.35% at this hour (7:45).  Clearly, there has been no joy yet.

As to the bond market, this morning has seen Treasury yields back up a further 4bps and they are now at 3.97%, well off the lows seen post-Christmas.  European bond markets have seen less aggressive rebounds in yields as the economic picture on the continent remains more dire than here in the US.  Arguably, the ECB has a much tougher job than the Fed right now as the inflation data in Europe remains higher than in the US while economic activity is clearly slowing much more rapidly.  (I guess if they had pumped as much fiscal stimulus into their economy as we did into ours, they wouldn’t be in this situation.  Of course, the debt situation might be worse…). Ultimately, however, I expect that the lack of growth is going to dominate the mindset in Europe and that Madame Lagarde will be cutting rates as soon as she can.  One last thing, Japan.  Remember all the stories in December about how the BOJ was getting set to normalize policy (i.e., return rates to positive territory) and that Japanese investors would be repatriating money soon?  Well, this morning 10-year JGB yields are at 0.60%, far below the 1.00% former YCC cap and the new reference rate and showing no signs of doing anything unusual.  

Turning to the oil market, while it is rebounding this morning, +0.8%, it has been under significant pressure lately despite what appears to be a serious increase in the military posture in the Red Sea amid Houthi rebel attacks on ships and the US Navy responding more aggressively.  In fact, Maersk, the largest shipping company in the world, has once again indicated it will not transit the Red Sea, an outcome that can only negatively impact the cost basis for shipping, and ultimately push upwards on inflation.  This is an area where we need to keep a close eye for new developments.  However, this morning the metals markets are under pressure as gold (-0.65%) is giving up some of its recent gains, although remains well above the $2000 level.  But we are seeing weakness in the base metals as well, with both copper and aluminum under pressure this morning.

Perhaps a key driver of the metals markets has been the fact that the dollar has continued its rebound with the DXY higher by 0.3% this morning, having rallied 1.5% from its recent post-Christmas nadir.  This has been a broad-based dollar rally with gains against both G10 and EMG currencies as it seems to be a dollar story.  The best I can figure is that there is concern/anticipation that the Minutes are going to sound more hawkish than people remember the meeting and press conference.

On the data front, we see the following:

TodayISM Manufacturing47.1
 ISM Prices Paid47.5
 ISM Employment 46.1
 JOLTS Jobs Openings8.85M
ThursdayADP Employment115K
 Initial Claims216K
 Continuing Claims1883K
FridayNonfarm Payrolls168K
 Private Payrolls130K
 Manufacturing Payrolls5K
 Unemployment Rate3.8%
 Average Hourly Earnings 0.3% (3.9% Y/Y)
 Average Weekly Hours34.4
 Participation Rate62.7%
 ISM Serv ices52.6
 Factory Orders2.1%

Source: Tradingeconomics.com

Interestingly, only Richmond’s Thomas Barkin is scheduled to speak this week, first this morning and then on Friday afternoon as well.  

Absent a new escalation in the Middle East, though, I would look for a little more profit-taking ahead of the payroll data.  However, I continue to believe the market is going to push for the bullish framework for a few months at least which means equities will rally, yields will slide, and the dollar will fall as well.

Good luck

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Chairman Powell Has Struck Out

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(With apologies to Ernest Lawrence Thayer)

The outlook’s quite uncertain for the ‘conomy this year
As there are those with strong belief the future’s bright and clear
But just as many seem to take a different view instead
And what they see is awful, with recession dead ahead.

The key discussion centers on inflation and its course
And whether central bankers, tighter money still endorse.
The bulls believe the Fed is done, with rate cuts coming soon
Thus, other central banks will quickly sing that selfsame tune.

The bears, however, see that global structures have now changed,
With tariffs and near-shoring rising, free trade’s now estranged.
The upshot is the bears believe that higher’s still for longer
As pricing pressures bubble thus, inflation grows much stronger.

The funny thing about this split in views is that both sides
May find that for a time this year their views will be good guides.
I think the bulls will run the show for quarters one and two
But as the year progresses weaker outcomes will come due.

Now let’s consider how the year is likely to begin;
With visions of soft-landings leading bulls to go all-in.
They see inflation sliding down to two or even one,
As yields on 10-year bonds fall back to Three before they’re done.

In sync with this they’re certain that the Dow and S&P
Will make new highs o’er 40K and 5K ‘spectively.
The dollar, in this view, has seen its highs for years to come
And so, they think the DXY, to Ninety-Five, will plumb.

This means the euro ought to trade as high as One Two-Oh
While dollar yen descends below One Thirty midst great woe
The pound is like to rise above One Forty in this wave
And pesos and reals explode as these, investors, crave.

The final data point for Goldilocks to make her case
Is oil needs to settle here and simply stay in place.
So, while good growth ought help support demand for Texas Tea
More oil will be pumped by nations recently set free.

This means the current policies where sanctions have relaxed,
Will show that barrels pumped will not have waned, but rather waxed.
And one last thing, the price of gold, will rally to new highs
As low real rates and central banks will lead gold bears’ demise.

I must admit that this sounds great if it can last all year
Alas, there are some issues which are likely to appear.
Come summer solstice cracks in this façade will start to show
And as the year winds down I fear unhappiness will grow.

The causes, proximate, will have to do with lags in time
As rate hikes o’er the past two years have changed the paradigm.
And though we’ll surely see the Fed and ECB respond
Twon’t be in time to stop the selling of the ten-year bond.

Instead, as growth conditions slacken each and every day,
The rate cuts will not be enough to halt the growth decay.
As well, a problem central banks are likely still to face
Is that inflation will go back above their target pace.

Stagflation is an awful word as it describes a state
Where prices rise too fast while growth just cannot germinate.
And this, dear friends, is what I fear will come to pass this year
By Christmas, bonds and stocks will fall while metals hit high gear.

So, what can we expect as Twenty-Four plays out in time?
The second half is likely to create a different clime
Than what we saw through June, when everything was filled with cheer
And stocks made record highs with greed ascendant over fear.

Instead, as summer turns to fall, inflation will come back
And late Q3 Chair Powell will have started to backtrack,
So rather than more rate cuts a new message will be sent
A pause, or maybe rate hikes are the future fundament.

This news will not be taken by the markets with aplomb
Instead, the first half rally will collapse like Pets.com.
And with inflation creeping higher Jay will have to choose
Twixt prices or the market, either way he’s sure to lose.

Some folks believe the ‘lection in November will impact
The Fed, though Jay will surely claim their mandate’s what they’ve tracked;
Now, if they fight inflation then the Dems will surely scream
But if they help the markets rise, poor Jay, the Pubs, will ream.

This means we need look deeply into Powell’s inner thoughts
And see if Arthur Burns or Chairman Volcker calls the shots;
My money’s on the tall one which means tighter policy
As only that can help cement Jay’s hero’s legacy.

With this in mind we’re like to see stocks peak sometime in June
And for the rest of Twenty-Four we’ll watch those markets swoon.
So, from the heights, Dow Forty K and Five K S&P
To Thirty K and Three-point-Five K Spooz, I do foresee.

As to the bond, despite the fact that growth will be lackluster,
Inflation won’t cooperate and so, Jay will be flustered.
While we may see one Fed funds cut before the summertime
The back end of the market will reverse, and yields will climb.

Come Christmas time I see the bond will yield ‘bout Five point Five
And all those levered bets are not too likely to survive.
As to the dollar, it should find its footing in the summer
And start to rise, which for the shorts, will really be a bummer.

So, think about a euro back ‘neath One Oh-Five or less;
And Dollar Yen above One Fifty, midst Ueda’s stress,
As poor Kazuo will not get to normalize his rates
And so, investment from Japan will flow back to the States.

The pound will suffer too, as like in Europe, growth will lag
And so, below One Twenty t’almost certainly will sag.
Emerging market currencies will have a better run
As rates are more supportive and no cuts need be undone.

In fact, when winter solstice on the calendar appears
Reals and pesos won’t have moved from where they closed last year.
Let’s now turn to the stuff that we can touch and see and smell;
Commodities like oil, though, for not too long we’ll dwell.

In concert, and a reason for inflation’s resurrection
Demand for oil only goes in one long-term direction.
So, more demand will drive the price back to One Hundred bucks
And if a wider war breaks out its June ‘Oh Eight redux.

The final price that I foresee in this unnerving tale
Is gold which ought to sparkle as most fiat moneys fail.
The Relic that’s called Barbarous will head above 3K,
And after this there’s just one thing I’ve really left to say.

Oh, somewhere in this great big world the sun is shining bright;
The ‘conomy is growing and inflation’s very slight.
But here at home stagflation is what Jay has brought about
There’ll be no joy in ‘Twenty-Four, Chair Powell has struck out!

To all my readers near and far, please know my sole intent
Is offering my viewpoint and it always is well-meant.
So, as we all embark upon Two Thousand Twenty-four
I thank you all for reading, for its you I all adore.

Thanks and Happy New Year
Adf