Monthly Archives: April 2024

Yellen’s Lifeblood

Posted on by

The QRA was quite the dud
Though mentioned, in Q3 a flood
Of new bonds are coming
To keep the gov humming
As debt is Ms Yellen’s lifeblood
 
So, now all eyes turn to the Fed
With doves looking on with much dread
According to Nick
Chair Powell will stick
With Higher for Longer ahead

 

Below is the actual QRA release from the Treasury which I thought would be useful to help everyone understand how benign the statement seems, although it has great importance.  

WASHINGTON – The U.S. Department of the Treasury today announced its current estimates of privately-held net marketable borrowing[1] for the April – June 2024 and July – September 2024 quarters. 

  • During the April – June 2024 quarter, Treasury expects to borrow $243 billion in privately-held  net marketable debt, assuming an end-of-June cash balance of $750 billion.[2]  The borrowing estimate is $41 billion higher than announced in January 2024, largely due to lower cash receipts, partially offset by a higher beginning of quarter cash balance.[3]
  • During the July – September 2024 quarter, Treasury expects to borrow $847 billion in privately-held net marketable debt, assuming an end-of-September cash balance of $850 billion.

During the January – March 2024 quarter, Treasury borrowed $748 billion in privately-held net marketable debt and ended the quarter with a cash balance of $775 billion.  In January 2024, Treasury estimated borrowing of $760 billion and assumed an end-of-March cash balance of $750 billion.  Privately-held net marketable borrowing was $12 billion lower largely because higher cash receipts and lower outlays were partially offset by a $25 billion higher ending cash balance.  

Additional financing details relating to Treasury’s Quarterly Refunding will be released at 8:30 a.m. on Wednesday, May 1, 2024.

The market response was muted, at best, as bonds barely budged throughout the day.  Clearly, the surprise that we received back in October was not part of today’s message.  Two things I would note are first, Q3 borrowing is a huge number, $847 billion expected, although it seems to have been largely ignored; and second, the action really comes tomorrow when Yellen will describe the mix of coupons and T-bills that she plans to issue this quarter.  However, given the Q2 numbers are so much smaller than either Q1 or Q3, while there may be some signaling effect, the actual impact on the fixed income markets seems likely to be muted.

Which takes us to the FOMC meeting that begins this morning and will conclude tomorrow at 2:00pm with the statement and then Chairman Powell will hold his press conference at 2:30.  But I have a funny feeling we already know what is going to happen as this morning’s WSJ had an article from the Fed whisperer, Nick Timiraos, explaining that higher for longer was still the play and that while there was no cause yet to consider rate hikes, the recent inflation data has done nothing to convince the Chairman that cuts are due anytime soon.  Now, this seems obvious to those of us paying attention given that the data continues to show a far more robust economy than many had anticipated, and more importantly, there has not been any type of inflation related print that indicated price pressures are abating very quickly.  Of course, one never knows what will happen at the presser, but it seems highly unlikely that the committee is in the mood to cut rates.

On this subject, if there is a move toward the dovish side, either with the statement or things Powell says in the press conference, I would take those very seriously as that would imply the Fed is no longer worried about inflation, per se, but more about doing what they perceive will benefit the current administration.  That would be hugely negative, in my view, for both the dollar and the bond market, although stocks and commodities would likely benefit greatly.  Ironically, it is not clear to me that cutting rates is going to be any help to President Biden as it is not going to change mortgage rates very much, and certainly not going to reduce credit card rates, so all it is likely to do is feed more inflation.  But one of the underlying narratives seems to be that a rate cut helps Biden’s election chances.  

Ok, with the Treasury and Fed out of the way, let’s look at overnight price action.  After modest gains in the US yesterday, most Asian equity markets performed well, although mainland Chinese shares were under some pressure (CSI 300 -0.5%).  This is interesting given the stories that the Chinese government is considering stepping up its support for the economy there with more borrowing at the national and local levels (total of ~$680B) to support overall activity as well as the property market.  I would have thought that was a positive, but I would have been wrong.  In Europe, preliminary GDP data showed that the economy across the major nations was not quite as bad as last quarter, but certainly not showing much strength.  Perhaps we are bottoming, but there is no V-shaped rebound coming.  Ultimately, equity markets on the continent are all lower as a result, with losses ranging from tiny (CAC -0.1%) to larger (IBEX -1.3%).  As to US futures, they are essentially unchanged this morning.

Meanwhile, bond yields are edging higher this morning with Treasuries (+1bp) just barely so, but all of Europe seeing yields rise by 3bps.  Perhaps investors are growing concerned that a rebound in growth in Europe is going to force rates higher, but the data this morning was really minimal.  In truth, I wouldn’t make much of today’s moves and rather focus on the trend since the beginning of the year where yields everywhere have rebounded following Treasuries.

In the commodity markets, oil (+0.4%) is bouncing slightly this morning after a couple of weak sessions as there appears to be a growing narrative that a ceasefire in Gaza is closer to being negotiated.  At least that’s the story making the rounds.  I will believe it when I see it actually happen.  But metals markets are under pressure this morning with all the main ones sharply lower (Au -0.8%, Ag -1.5%, Cu -1.0%, Al -0.5%).  Now, given how far these have moved higher over the past month, it should be no surprise there is a correction.  Has this changed the longer-term narrative?  I think not, but remember, nothing goes up in a straight line.

Finally, the dollar is modestly stronger this morning as the yen (-0.4%) starts to give back some of its intervention inspired gains from yesterday.  Apparently, the MOF spent ¥5.5 trillion (~$35B) in their activities yesterday and we are more than 1% lower (dollar higher) than the yen’s post intervention peak.  I expect that we will continue to see this move, especially if the Fed maintains its current policy stance.  Elsewhere, commodity currencies are under pressure (AUD -0.5%, ZAR -0.4%) on the back of the weaker metals prices while financially oriented currencies have shown much less activity, with all of them somewhere on the order of 0.2% weaker.  As I wrote above, a substantive change by the Fed will have an impact on the dollar, I just don’t see that happening this week.

On the data front, there are a few things released this morning as follows: Employment Cost Index (exp +1.0%), Case-Shiller Home Prices (6.7%), Chicago PMI (44.9) and Consumer Confidence (104.0).  The ECI is something to which the Fed pays close attention as one of the best measures of the wage situation in the US.  As you can see from the below chart, while those costs have been declining, they remain well above the pre-pandemic levels and thus remain a concern for the Fed.  And a move back to 1.0% would indicate things have stopped declining.

Source: tradingeconomics.com

That’s really all we have today as the market awaits tomorrow’s Fed as well as Friday’s NFP data.  My take is there is very little chance the Japanese come back into the market soon, and so a grind higher in the dollar remains my base case.

Good luck

Adf

‘Voiding a Crisis

Posted on by

There once was a fellow named Jay
Whose job, as it works out today
Is managing prices
And ‘voiding a crisis
A mandate from which he can’t stray
 
The problem he has, as it stands
Is others are tying his hands
So, prices keep rising
And he’s now realizing
He’s no longer giving commands

Friday’s PCE data was not as hot as some had feared, but certainly showed no signs of cooling.  To recap, the M/M numbers for both headline and core were 0.3%, as expected, although at the second decimal they must have been higher because both Y/Y numbers were higher than expected at 2.7% headline and 2.8% core.  As can be seen in the chart below from tradingeconomics.com, both the core (blue line) and headline (gray line) have the appearance of having bottomed.

While things certainly could have been worse, especially based on the price deflator data we saw in the GDP report, this cannot have helped Chair Powell’s attitude.  Remember, too, that 0.3% rises annualize to a bit more than 3.6%, far higher than the ostensible target.  The inflation fight has not yet been won by the Fed although I expect that we are going to hear a lot of commentary going forward that it has.  Wednesday brings the FOMC meeting, something on which we will touch tomorrow, and obviously a critical aspect of the discussion.  One other thing, given the data was not as hot as feared, it took until yesterday for the Fed whisperer to write his article, which was focused on the long-term neutral rate rather than inflation per se.

Did they sell or not?
Looking at charts, possibly
But they’ll never say

The next story of note was the fact that USDJPY trade above 160 last night, during the early hours of the session.  As can be seen from the below chart from yahoo finance, it seemed to have touched 160.216 before slipping back to the mid-159’s and then collapsing a few hours later, back to its current state just below 156.

Something to remember is that it is golden week in Japan, with the nation on holiday yesterday so banks were, at most, running skeleton staffs of junior traders and market liquidity was significantly impaired.  But the question today is, did the BOJ intervene on behalf of the MOF.  From what I have been able to glean, there was significant selling by the big three Japanese banks, certainly a sign that intervention was possible.  Of course, the chart shows how sudden the decline was, also an indication that it could have been intervention.  The best explanation I have heard for the initial move above 160 was it was some bank(s) running stop-losses at the level, as well as triggering barriers there in the options market.  At this hour (6:15), the yen has appreciated by 1.6% from Friday’s closing levels.  However, I sincerely doubt that we have seen the end of the weakness in the yen.  This is especially true if Chair Powell comes across as more hawkish on Wednesday, something that is clearly quite possible.

The last thing to note for today
Is Yellen and her QRA
How much will she borrow?
And Wednesday, not ’morrow
We’ll learn if more bonds are in play

This brings us to the Quarterly Refunding Announcement (QRA) to be released at 3:00 this afternoon.  While historically, the only people who cared about this report were bond market geeks, it has gained a significant amount of status since the October 31st announcement where the Treasury indicated it would be issuing less debt than had been expected.  That led directly to the massive bond market rally at the end of last year as well as the concomitant stock market rally.  Looking at the below chart from tradingeconomics.com, it is pretty clear when things turned around, and it was right when the QRA came about.

Once we know the borrowing plans from this afternoon, we will learn on Wednesday the mix of borrowing that will be coming, and whether Secretary Yellen will continue to issue a more significant amount of debt in T-bills, or if she will try her hand at notes and bonds again.  Given that yields have been climbing lately, I suspect there will be more T-Bill issuance than is the historic norm, which has been about 20% of total borrowing, but perhaps not the 80% she issued last quarter.  Ultimately, the real concern today is that the estimated borrowing numbers could be larger than current forecasts, and perhaps just as importantly, the question of just how much was borrowed last quarter.  The sustainability of this process is starting to be called into question although I don’t expect anything to happen quite yet.  

Ok, that’s enough for one day!  A quick recap of the overnight session shows that Chinese shares rallied on the back of news from Beijing that the government was relaxing some regulations in the property sector.  In fact, that was sufficient to help all Asian equity markets higher on the order of 0.5% – 1.0%.  Meanwhile, European bourses are mixed this morning with both the DAX and CAC little changed, the FTSE 100 edging higher by 0.5%, but other continental exchanges under pressure.   As to US futures, they are very modestly higher this morning after Friday’s rally.

In the bond market, after modestly higher yields on Friday, this morning is seeing Treasury yields slip 4bps and European sovereigns fall between 5bps and 7bps.  Clearly, there is not much concern that the QRA is going to indicate massive new borrowing, but I guess we will know this afternoon.  

Commodity prices are on the quiet side this morning with oil basically unchanged, as is gold as both hold onto last week’s gains.  However, copper (+0.5%) continues to rally and is now just $0.30/pound below its all-time highs of $4.89.  There are many stories regarding the copper market with some discussing hoarding by the Chinese and others focused on the needs of the ongoing ‘energy transition’ which will need significant amounts of the red metal to electrify everything.  While it has run up quite quickly of late, I must admit the long-term view remains positive in my mind between the absence of new mines and the needs of the transition although a pullback would not be a surprise.

Finally, the dollar, aside from vs. the yen, is generally lower across the board.  While it remains in the upper end of its recent trading range, it appears the sharp decline in USDJPY has had knock-on effects elsewhere. The financial currencies, like EUR (+0.3%), GBP (+0.4%) and CHF (+0.3%) are all firmer as are the commodity bloc (NOK +0.3%, ZAR +0.45%, AUD+0.5%).  In fact, I am hard-pressed to find a currency that is underperforming the greenback.  Positioning in dollars has been quite long lately so ahead of this week’s FOMC meeting as well as the NFP on Friday, it is quite likely that we are seeing a little reduction in those positions.  However, we will need to see a change in the data to change the longer-term view.

Obviously, there is a ton of stuff coming out this week.

TodayQRA 
TuesdayEmployment Cost Index1.0%
 Case Shiller Home Prices6.7%
 Chicago PMI44.9
 Consumer Confidence104.0
WednesdayADP Employment 179K
 ISM Manufacturing50.1
 JOLTS Job Openings8.68M
 FOMC Rate Decision5.50% (unchanged)
ThursdayInitial Claims212K
 Continuing Claims1782K
 Nonfarm Productivity0.8%
 Unit Labor Costs3.2%
 Factory Orders1.6%
FridayNonfarm Payrolls243K
 Private Payrolls180K
 Manufacturing Payrolls7K
 Unemployment Rate3.8%
 Average Hourly Earnings0.3% (4.1% Y/Y)
 Average Weekly Hours34.4
 Participation Rate62.7%
 ISM Services52.0

Source: tradingeconomics.com

In addition to all this, on Friday we will hear from two Fed speakers, Williams and Goolsbee, and I imagine if they are unhappy with the market response to their messaging on Wednesday, we will hear from more.

Ultimately, this is an important week to help us understand how things are going in the economy and how the Fed is thinking about everything.  As long as payrolls continue to hang in there, any chance of Fed dovishness seems to diminish by the day.  But stranger things have happened.  As to the dollar, today’s position adjustments make sense and I suspect there will be a few more before the big news hits on Wednesday and Friday.  Til then, I think all we can do is watch and wait.

Good luck

Adf

Stagflation

Posted on by

Call rates will remain
Zero to Point-one percent
We’ll still purchase bonds

 

In a move that clearly captured my heart, the BOJ left policy on hold last night, as widely expected.  But the key is that the policy statement, in its entirety, is as follows:

I would contend they could have used my haiku above and completely gotten the message across!  This is the best central bank move I have seen in forever, an economy of words with limited discussion about their views of the future.  But that the Fed would be so terse in their statements.  By forcing investors and traders to consider all the issues and the best, or at least possible, ways in which the central bank can achieve their stated goals, positioning would be substantially reduced because nobody would think the central bank ‘had their back’.  This would prevent another SVB-type collapse, and probably go a long way to reducing the massive wealth inequalities that central banks have fostered since the GFC.  Just sayin’!

The market response to this, and the subsequent Ueda press conference was to sell the yen even more aggressively, with USDJPY touching yet further new 34-year highs at 156.80, higher by more than one full yen (0.7%) and JGB yields climbed to 0.92%, slowly approaching the big round number of 1.00%.  FinMin Suzuki was out trying to talk the yen higher (dollar lower) with the following comments, “the weak yen has both positive and negative impacts, but we are more concerned about the negative effects right now.”  Those comments were sufficient to drive USDJPY down about 90 pips in a few minutes, but as of right now (6:20), the dollar is back to its highs.  As long as the Fed and the BOJ remain on different wavelengths, the yen will not be able to rally, trust me.

The GDP data surprised
By showing less strength than surmised
But really, for Jay
The prob yesterday
Was PCE so energized

This brings us to the GDP data yesterday, which missed badly at 1.6%.  However, that was not the worst part of the report.  Alongside the GDP data, there is a PCE calculation, that while not the one on which the Fed focuses, is still a harbinger of how things are going.  That number was higher than expected with the Core rising 3.7% Q/Q, up from 2.0% in Q4.  The upshot of this data was that growth is slowing and inflation is rising, exactly the opposite of the Fed’s (and the administration’s) goals and moving toward the concept of stagflation.

While quoting oneself is not the best etiquette, I think it makes some sense here as I described this exact situation back in January as follows:

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.

It should be no surprise that both bonds and stocks fell yesterday as market participants are growing concerned that the Fed has lost control of the narrative.  After all, the last time we had stagflation, Chairman Volcker chose to fight inflation first by raising the Fed funds rate to 21% and driving the economy into a double-dip recession from 1980-1982.  But the debt/GDP ratio at the time was just 30% or so and the government could afford it.  That is not the case today, and quite frankly, there are exactly zero politicians on either side of the aisle who can tolerate a recession of any type, let alone a double dip.  My guess is that all hands will be pushing to increase the rate of growth and let inflation rip because given the current drivers of inflation (commodity prices, near-shoring and demographics), it is not clear the Fed can do anything about it anyway.  Don’t you feel better now?

All this leads us to this morning’s PCE data (exp 0.3% M/M for both headline and core, 2.6% Y/Y for both readings) as well as Personal Income (0.5%) and Personal Spending (0.6%).  Given yesterday’s outcomes and the fact that the Bureau of Economic Analysis produces both sets of numbers, the whisper number is clearly higher.  If that should manifest, I suspect that the price action from yesterday, lower stocks and bonds, is very likely to continue despite the after-market rally of both Google and Microsoft on better-than-expected earnings data.  I also suspect that before noon, the Fed whisperer, Nick Timiraos, will have an article out in the WSJ to give some Fed perspective as they are currently muzzled in their quiet period.            

I don’t think there’s anything else to say about this, so let me recap the overnight session, at least the parts I have not yet discussed.  While the US equity session did not finish on its lows, all three major indices were lower by at least -0.5% on the day.  However, the same was not true in Asia with the Nikkei (+0.8%) responding positively to the fact that tighter monetary policy was not on its way, while Chinese (+1.5%) and Hong Kong (+2.1%) shares positively ripped on the back of the strong tech earnings in the US.  As to European bourses, they are all in the green this morning, with Spain (+1.1%) leading the way but all higher by at least +0.5%.  Lastly, US futures are pointing higher as well after the strong earnings numbers overnight, up by +1.0% or so at this hour (7:20).

After jumping 8bps in the wake of the GDP data yesterday, 10-year Treasury yields slid a bit and finished the day up 5bps.  This morning, they have given back two more basis points, but still trade right at 4.70%.  If this morning’s data is 0.4%, watch for another sharp move higher in yields today.  European yields pretty much followed the US yesterday, all closing higher by between 4bps and 6bps, and this morning they are lower by similar amounts, right back to where they started.

Oil prices (+0.5%) are climbing higher again, seeming to have found a recent bottom and looking like they are set to push back toward $90/bbl by summer.  While the real GDP data was softer, nominal remains solid and that is what drives demand.  In the metals markets, they all jumped on the data release and this morning are continuing higher (Au +0.7%, Ag +0.8%, Cu +0.8%, Al +0.9%).  In the industrial metals, inventories are dropping while the precious space is clearly responding to the inflation fears.

Finally, the dollar is little changed overall this morning.  while it has rallied sharply vs. the yen, ZAR (+0.85%) is gaining on metal market strength as an offset and pretty much everything else is +/- 0.25% or less.  My take is everyone is waiting for this morning’s data to determine if the Fed is going to become even more hawkish, or if there will be a reprieve. 

In addition to the PCE data, we get Michigan Sentiment at 10:00 (exp 77.8, down from 79.4).  Right now, players are holding their collective breath for the numbers.  After the release, it’s all about the results.  Given that every recent inflation print has been on the high side, I expect this to be no different.  Bonds should suffer, commodities should outperform, and I expect the dollar to do well.

Good luck and good weekend

Adf

Piffling

Posted on by

The topic du jour
Is, will Japan intervene?
And will it matter?

History has shown
Until policy changes
All else is piffling

The next 30 hours have the chance to be quite meaningful for markets as we will learn a great deal about several very key issues.  While this morning’s Q1 US GDP data will be mildly interesting, I believe the real keys will be the following in order of their release: 1) earnings from Alphabet Google, Intel and Microsoft; 2) BOJ meeting and Ueda press conference; and 3) US Core PCE.

Let’s unpack them in order.

1)    Earnings for three key tech stocks are a critical data point to determine whether the current equity mulitples still make sense.  Already this week we saw Tesla miss estimates but give positive guidance and rally sharply on Tuesday, then Meta Facebook beat earnings nicely but gave negative guidance (they said costs were rising because of all the AI spending but revenues would not show a bump anytime soon on the back of that spending) and the stock fell sharply overnight and is called down -13% to open this morning.  Just remember, if the generals of the stock market rally are slipping, typically the market can follow lower.

2)    Now that USDJPY has breached the 155 level and has not even consolidated, but continues marching higher, all eyes are on Ueda-san to see if he will adjust policy to help mitigate the yen’s declines.  Of course, the BOJ is not in charge of yen policy, that is an MOF issue, but I assure you the two entities work closely together.  Ueda’s problem is that no matter what he does, it will not have enough of an impact to make a difference.  While no policy change is expected, even if the BOJ hikes rates 25bps, it would only have a very short-term effect because the interest rate differential remains huge and would still be in excess of 500 basis points.  While there are reasons for Ueda to consider a hike (rising wages, higher energy prices and the weak yen all can lead to further inflation), given they hiked at the last meeting and explicitly said they would be maintaining easy policy, it seems hard to believe anything will change.  (As an aside, the very fact that nobody is expecting a move would allow a disproportionate pop in the yen, although I believe it would be quite short-lived.)

3)    Finally, the release of the PCE data tomorrow morning will update both market participants and policymakers on the likelihood that the Fed is going to achieve their inflation target anytime soon.  Recall, we have seen three consecutive hotter than expected CPI monthly reports and the last two PCE reports were similarly hotter than expected.  If this one follows that pattern, any idea that a cut is coming before the election will dissipate even further.  As of this morning, the Fed funds futures market is pricing just 42bps of cuts for all of 2024 with the first cut not expected until September.  The options market is now pricing a 20% probability of a rate hike in the next twelve months.  I believe tomorrow’s data matters a great deal.

It is part 3 of my little exercise that is the key for USDJPY going forward.  Just like the ECB (and BOE and BOC), the BOJ was counting on the Fed to begin their rate cutting cycle initially by March, but certainly by June, and expecting quite a few rate cuts.  That would have been crucial to reduce the US yield advantage over the yen and likely would have seen the dollar slide against most currencies.  But it appears that the US economy, which continues to be propped up by massive deficit government spending, is not going to allow the Fed any leeway to reduce rates.  If that continues to be the case, and I see no reason for that to change ahead of the election, then the dollar is going to retain its bid.  In fact, this is exactly why yesterday I highlighted the conversations that are apparently ongoing within the Trump camp regarding ways to weaken the dollar.  Right now, it is not going to fall on its own.

So that’s how things stand as we head into a crucial period with disparate but important information.  In the meantime, let’s look at the overnight activity.

Yesterday’s US session was a wash as early declines were recovered into the close, but the Meta earnings have US futures pointing lower by about 0.7% at this hour (6:45).  Those earnings also seemed to impact Tokyo, which saw a sharp decline of -2.2% although Chinese and Hong Kong shares managed to rally on the session a bit, about 0.5%.  The rest of the time zone was mixed with some gainers (India, New Zealand, Thailand) and some laggards (South Korea, Taiwan).  The picture in Europe is also mixed with the FTSE 100 (+0.6%) having a solid session on the strength of an M&A deal regarding Anglo American, the mining giant receiving an unsolicited buyout offer from BHP Billiton.  However, pretty much the entire continent is under water this morning, sagging by 0.65% or so across the board.

In the bond market, Treasury yields are unchanged this morning, but 10yr still sit at 4.64%.  I expect that the data today and tomorrow will have quite an impact there.  European sovereign yields are all slipping 2bps this morning, as what little data that has been released, German GfK Confidence and French Business Confidence) have been on the soft side with a few comments that the June rate cut remains the favorite. Perhaps of more interest is that 10yr JGB yields rose 3bps overnight and are now at 0.89%, their highest level since November in the wake of the ostensible end of YCC.  Perhaps traders here are starting to bet on a BOJ move.

In the commodity space, oil (+0.3%) is bouncing from its worst levels recently, but in truth, remains in the middle of its trading range for the past week near $83/bbl.  Yesterday’s EIA data showed a very large net draw of inventories which has helped support the black sticky stuff.  As to the metals markets, it appears that the correction may be over with all the main players higher this morning (Au +0.5%, Ag +0.6%, Cu +1.7%, Al +0.2%).  Remember, if tomorrow’s PCE is hot, the metals should continue to rally.

Finally, the dollar is under a little pressure overall this morning, although it remains near its recent highs.  ZAR (+1.15%) is the leading gainer on the back of that metals strength, but we are seeing strength in AUD (+0.45%) and CLP (+0.6%) also helped by the metals markets.  However, it is not just that story as the euro (+0.2%) and pound (+0.4%) are both firmer and dragging their CE4 acolytes along for the ride as well.  The one exception remains the yen (-0.2%), which is above 155.50 as I type.  Of course, that story is told above.

Today’s data is as follows: Initial (exp 214K) and Continuing (1810K) Claims as well as Q1 GDP (2.5%) with its subsets of Real Consumer Spending (2.8%) and its measure of PCE (3.4%).  It is important to note that this PCE data is not the one the Fed tracks closely, although I am certain they pay attention.  FWIW, the Atlanta Fed’s GDPNow number is currently 2.7%.

Now we wait for the data to come.  When the dust settles, we should have a somewhat better idea of how things may play out, but right now there is a great deal of uncertainty.  In the end, nothing has altered the fact that the dollar continues to benefit from the relative tightness of the Fed vs. other nations, and that should continue to support the dollar.

Good luck
Adf

Depths We May Plumb

Posted on by

The PMI data was soft
Which helped keep stock prices aloft
As many now think
That yields will soon sink
And, therefore, stock prices have troughed
 
But really, the data to come
Is much more important to some
‘Cause if PCE
Is still on a spree
Then many more depths we may plumb

 

First two mea culpas on yesterday’s note.  Clearly, the ECB is considering a cut, not a hike as I mentioned inadvertently at one point and my info on the timing of Alphabet’s earnings release was incorrect, it was not yesterday but is due tomorrow.

Markets remain generally comfortable with the current situation as all eyes continue to be on Friday’s activity.  Remember, not only do we get the PCE data in the US, but before NY walks in, the BOJ will have met and announced any potential policy changes (unlikely) but hinted at future moves (more possible).  However, until then, quarterly earnings and secondary data are all we have.

This brings us to yesterday’s activity where the US Flash PMI data was weaker than expected in both Manufacturing (49.9) and Services (50.9) while both were anticipated to print at 52.0.  Of course, in a world of rising rates and concerns that the Fed is going to become yet more hawkish when they meet next week, weak data is seen as a potential cure.  The result was a rally in stocks and bond prices (yields fell), albeit not a very dramatic one.  After the equity market close, Tesla reported their earnings and while they were softer than the median analyst expectations, it appears they beat the whisper numbers and Elon said enough things to encourage a rebound in the company’s share price.

Now, you know that if I am discussing Tesla earnings, there is absolutely nothing going on in the markets.  So, let’s turn our attention to something a bit longer term, and quite speculative, but important if it comes about.  I am referring to the story that is getting more traction regarding Robert Lighthizer, who was President Trump’s trade advisor for the entire term, and who recently has discussed the goal of weakening the dollar if Trump is re-elected.  

One of the things that annoys me is that so many political hacks players believe that they can drive market prices without making major underlying policy changes.  And, generally speaking, they recognize that changing the underlying policies is either out of their hands or would cause other, more serious problems even if they were achieved.  This is a perfect example of that type of thinking.

The underlying issue, I believe, is the Trump focus on the trade deficit as being a crucial indicator and something about which the US should be overly concerned.  Let’s start by looking at a history of the dollar’s value (as measured by the EURUSD) compared to the monthly trade balance.

Source: tradingeconomics.com

The green line, based on the left-hand axis, is the trade balance while the blue line, on the right-hand axis, tracks the EURUSD exchange rate.  The first thing to see is that there is not a very strong relationship.  In fact, the R2 is just 0.07, so virtually no relationship.  However, in your old finance textbooks, there is a theory that a weaker exchange rate improves the trade balance at the expense of increasing inflation.  And that certainly makes sense, but I believe that relationship is more representative of countries whose currency is not the global reserve currency.  In the current situation, the dollar’s movement is dependent on many other things, and the trade balance is more frequently an indicator of the strength of the US economy.  After all, when things are going well, we are importing much more stuff than we can produce and so the trade balance turns more negative.  Looking at the chart, the periods when the trade deficit shrank (rising green line) are the same periods when the US was in a recession.

The other problem for a Trump administration that is seeking to weaken the dollar is that the other consequences of the policy actions that would likely lead to a weaker dollar will not be welcomed.  First, and foremost, we will see inflation rise pretty rapidly as not only import prices, but also commodity prices would all move much higher.  The other likely outcome would be an increased reticence for foreigners to hold US assets overall, as a declining dollar will reduce their value in local currency terms.  Right now, the US equity markets represent nearly 70% of global equity market assets in value.  That has been a virtuous circle of foreign buyers of US assets driving prices higher and the dollar higher as US deficit spending drives growth.  But that can certainly turn into a vicious cycle of a weakened dollar driving sales of US assets by foreigners, leading to falling equity prices and a reduction in that percentage of global market cap.  And one thing we know is that Mr Trump is very concerned with the value of the stock market, so a falling one would be seen as a big problem.

I raise this issue because it is getting more press and will impact the narrative, especially as we get closer to the election.  While I don’t believe that the US has the ability to unilaterally weaken the dollar ceteris paribus, I would not be surprised to see this topic gain in mindshare and have an impact for a while.

The reason I focused on this is there has still been very little else to consider.   Right now, everybody is happy as equity markets have rebounded around the world following yesterday’s US rally while bond yields, which dipped yesterday, are rebounding this morning by between 4bps and 6bps.  Both of these are indicators of economic strength.

In the commodity markets, yesterday’s oil rally on the back of a much bigger inventory draw than expected, according to the API, is moderating this morning while metals prices, seem to be finding a bottom after their recent correction.  Given how far and how fast metals prices rose over the past several weeks, a correction was overdue, and welcome to markets as things are now set for the next leg higher, I believe.  Nothing has changed my view on this story.

Finally, the dollar is firmer this morning after a modest decline yesterday on the back of the rates selloff.  In fact, some currencies are under more substantial pressure like SEK (-0.75%) and NOK (-0.75%) although those are the largest movers on the day.  Perhaps the biggest news is that USDJPY finally breached the 155.00 level and now has its sights set on 160.  I expect that we will hear much more talk tonight from MOF speakers regarding the yen, but I see no reason to believe the BOJ will act because of this move.  However, as I mentioned last week, for all you JPY asset and revenue hedgers, I would be using JPY puts here, either purchased or in collars, because I suspect we will see a sharp decline on any intervention, and that day is drawing closer, I fear.

On the data front, Durable Goods (exp 2.5%, 0.3% ex transport) is this morning’s release and then the EIA oil inventory data comes later this morning.  And that’s really it.  Tomorrow, we have more data, Initial Claims, and Q1 GDP, and then, of course the PCE on Friday.  But for now, it’s still an earnings driven market I think.  So macro is on the back burner till Friday.

Good luck

Adf

Dripping Lower

Posted on by

Like rain off a roof
The yen keeps dripping lower
Can it fall further?

 

On a quiet morning after a welcome rebound in equity markets around the world, there has been an uptick in discussion regarding the yen, BOJ Governor Ueda and the upcoming BOJ meeting this Friday.  One of the things that seems to have Ueda-san and the rest of the BOJ confused is that after their last meeting on March 18, where they raised interest rates for the first time in forever, the yen has continued to weaken.  A quick look at the chart below shows the relatively steady decline in the currency since that date.

Source: tradingeconomics.com

Perhaps this is a sign that Japan’s monetary policy, at least given the enormous interest rate differentials with the US, just doesn’t really matter to the traders in the FX market.  A look at relative interest rate movements in the respective 10-year bonds shows that Treasury yields have rallied about 30bps while JGB yields have risen just half that amount since that BOJ meeting.  One thing that is becoming clearer is that the pressure on Ueda-san and FinMin Suzuki to do something about the weakening yen is growing.  It seems they have finally figured out that a weak yen has a direct link to rising yen prices of energy for both home and autos, and that the people in Japan are running out of patience with those rises.

Perhaps this explains the increase in the comments by these two critical players, with both threatening action if things get out of hand.  For instance, Suzuki explained, “I think it’s fair to assume that the environment for taking appropriate action on forex is in place, though I won’t say what the action is,” when speaking to Parliament last night.  His problem is he knows that intervention by Japan only will have no long-term impact and merely allow traders a better entry point to continue to pressure the yen lower. 

Meanwhile, Ueda-san was absolutely loquacious in his comments to Parliament, explaining, “we will set our short-term interest rate target at a level deemed appropriate to sustainably and stably achieve our 2% inflation target.  If underlying inflation rises toward 2% in line with our projections, we will adjust a degree of monetary easing. In that case, we will likely raise short-term interest rates.”  

Now, does this mean that they are going to do something at their meeting this week?  I think the probability of a policy change is vanishingly small.  Quite frankly, they are very aware that their current toolkit is not fit for the purpose of strengthening the yen and so jawboning is pretty much all they have.  In fact, to the extent that they would like to see the yen strengthen, their best bet is to call Chairman Powell and plead their case that the US should cut rates, and by a lot, or the world will end.  I don’t see that happening either.

Something worth noting is that Powell is facing pressure from multiple directions as foreign central bankers are desperate for the Fed to cut so they can too, and from the administration which believes that lower rates will help them in their quest to be reelected.  But, in the end, there is no evidence that the Fed is going to reverse their recent comments and turn dovish.  As long as that is the case, the trend higher in USDJPY remains quite clear and I see no reason to expect anything other than minor pullbacks in the near future.  However, if the Fed does cut rates despite the ongoing inflation pressures in the US, look for the dollar to fall sharply while risk assets explode higher.

So, while we all await both the BOJ and the PCE data on Friday, let’s recap the overnight session.  While green was the predominant color on screens overnight with Japan (+0.3%) and Hong Kong (+1.9%) leading the way, mainland Chinese stocks continue to suffer (-0.7%) dragging down Korean shares (-0.25%).  But otherwise, India, Taiwan, Australia, Singapore, etc., were all in the green.  In Europe, there is no question that things are looking up as every market is higher, most by 1% or more after the Flash PMI data was released showing that economic activity was picking up across the continent.  While manufacturing remains in contraction, and is hardly improving, the services sector is definitely stronger.  Meanwhile, at this hour (7:30) US futures are firmer by about 0.25%.

In the bond markets, price activity has been far more muted with Treasury yields recouping the 2bps they lost yesterday, while European sovereigns are higher by 1bp across the board.  The ECB commentary continue to highlight a June hike with the most dovish acolytes calling for 100bps of cuts this year (Portugal’s Centeno) while Spain’s de Guindos reminded everyone that the Fed was still driving the bus and they need to think about the whole world, not just the US.  As you can see, Powell faces pressure from all over.

On the commodity front, the retracement from the massive bull rally in metals prices is continuing apace with gold (-1.4%), silver (-1.4%) and copper (-1.1%) all under more pressure today after having fallen sharply for the past two sessions already.  My take is that this is an overdue correction from a remarkable move higher, but that the underlying story remains intact.  Certainly, the apparent lessening of tensions in the Israel-Iran issue has helped this movement as well as its impact on the price of oil (-0.75% today, -4.65% in past week).  However, the inflation story remains front and center when it comes to pricing commodities and there is no evidence whatsoever that prices are slipping back.  As we head toward summer, I do anticipate that metals demand will return, especially if the economy continues to perform at its current levels.

Finally, the dollar is slightly softer this morning but remains above 106 on the DXY.  We have already discussed the yen, which cannot find a bid anywhere, but the pound (+0.25%) is rebounding after PMI data in the UK was also a bit better.  However, overall, there are gainers and losers in both the G10 and EMG blocs, the largest of which is the ZAR (-0.3%) which is clearly suffering alongside the slide in metals prices.  Not surprisingly, NOK (-0.2%) is feeling pressure from oil’s decline.  But the euro has edged higher, and it has taken its CE4 counterparts higher while LATAM currencies seem to be taking the day off entirely.  We need real news to change the story here.

On the data front, we see the Flash PMI data (exp Manufacturing 52.0, Services 52.0) and New Home Sales (662K) and that’s really it.  With no Fed speakers, once again the market will take its cues from earnings releases with today’s biggest likely to be Google Alphabet and Tesla.  The dollar has been on a roll lately, so it would be no surprise to see a bit of a pullback, but as long as the Fed is seen as maintaining its current tightness, it will be hard-pressed to decline very much.

Good luck

Adf

Vexation

Posted on by

The ‘conomy just keeps on humming
So, confidence, not yet is coming
How long will rates stay
Where they are today?
And will stocks keep getting a drumming?
 
The problem remains that inflation
Is causing Chair Powell vexation
It’s sticky and hot
Which really is not
What he needs to get his ovation

 

Boy, I go away for a few days and look what you’ve done to the markets!  When last I wrote, while there was a sense of shakiness in risk assets, it hardly appeared terminal.  But now…. The bears are out in force it seems, fear is rising rapidly amid investors while greed is running for its life.

I tried to ignore market goings on while I was away for the back half of last week, but the news was overwhelming.  My brief recap is simply, lots more Fed speakers have figured out that measured inflation is not heading lower, and that the decline during the second half of last year is turning into the aberration, not the rebound so far in 2024.  This week we will see the PCE report on Friday, and while that is typically between 0.5% and 1.0% lower than CPI, it is not going to come close to their target.  

As I wrote several weeks ago, following Powell’s press conference and subsequent speeches, regardless of the fact that there is no indication price pressures are abating, he is still keen to cut rates.  However, the weight of the recent data has caused many of his colleagues on the FOMC to change their tune.  The most recent was NY Fed President Williams who also indicated that a rate hike in the future cannot be ruled out.  Remember, Governor Bowman discussed that idea the week before last.  Going back to my prognostications at the beginning of the year, I had anticipated one cut at most during the first half of the year, but that rates, and bond yields, would be higher by Christmas.  I still like that call, although I am losing my enthusiasm for the cut.  And so is everybody else!

If rates simply stay where they are, I suspect that the recent equity selloff will moderate as it is clearly more fully priced into markets given the consistency with which we have heard that story in the past several weeks.  However, beware if the next step is higher.

Meanwhile, the week is off to quite a slow start with most equity markets rebounding from last week’s declines as fears of further escalation in the middle east abate.  The Israeli response to the Iranian response was muted and market participants have turned their attention elsewhere.  This can best be seen in the commodities markets as both oil (-0.5% today, -4.2% in the past week) and gold (-1.3% today, -1.0% in the past week) are retreating from their recent highs.  However, all is not completely well as we continue to see US Treasury yields on the high side and climbing (10yr +3bps) as more and more investors demonstrate concerns over inflation’s stickiness.

There was virtually no economic news overnight and a remarkably, though welcome, minimum of central bank speakers.  Remember, the Fed is in their quiet period this week up until their meeting next Wednesday, so everyone needs to make up their mind on their own.  With that in mind, here’s what we saw last night.

Equity markets in Asia rebounded nicely with the Nikkei (+1.0%) and Hang Seng (+1.75%) both performing well although shares on the mainland (CSI 300 -0.3%) didn’t join the party.  Elsewhere in the region, only Taiwan was in the red with every other nation enjoying the bounce.  As to Europe, this morning, the screen is green with gains ranging from the CAC (+0.35%) to the FTSE 100 (+1.45%) and everything in between.  Again, this certainly feels like a relief rally given the absence of new information.  Finally, the US futures markets are all higher this morning on the order of 0.5%, something I’m sure we are all happy to see.

In the bond markets, Treasury yields are leading the way with European sovereigns also higher by between 2bps and 4bps, clearly being dragged by Treasuries.  We did hear from Banque de France president, and ECB member, Villeroy, that he felt a June cut was certain and he was looking for more afterwards.  Interestingly, he made the argument that the ECB’s job was to ensure economic activity was helped as much as possible while targeting inflation.  That is a different take than I’ve heard any ECB member discuss before, although I am sure it is what many are thinking.  

Perhaps the most interesting move last night was JGB yields climbing 4bps and moving up to 0.88%.  This is their highest level since November when they flirted with the 1.0% “cap” that required a massive bond buying exercise by the BOJ.  With USDJPY grinding ever so slowly toward 155.00, there is a school of thought that the BOJ will seek higher yields to defend the yen.  However, my take is any yen defense will be in the form of intervention and be described as a smoothing activity.  The current Mr Yen, Masato Kanda, has discussed the idea of a rise in USDJPY of 10 yen in a month as being too quick and worthy of a response.  Granted, since its recent nadir of 146.85 on March 11, that milestone has almost been reached, but that low was a very short-term dip and while the yen has declined consistently all year, as you can see from the chart below, the pace has not nearly been that quick.  In fact, I would argue the pace has been steady all year, and virtually identical to that of the dollar index which indicates this is not a yen problem, it is a dollar problem.

Source: tradingeconomics.com

Turning to the dollar, it is modestly higher overall this morning with the noteworthy mover the pound (-0.5%) after we heard from BOE member Ramsden explaining that he saw the risks of inflation remaining high were diminishing and that rate cuts were coming soon.  While one of his colleagues, Megan Greene, gave the opposite spin, apparently in a misogynistic response, the market took Mr Ramsden as the more important voice on the matter.  As well as the pound, we have seen the euro (-0.2%) and its EEMEA acolytes (PLN -0.5%, CZK -0.6%) slide.  Otherwise, there is a mixture of lesser movements with a few currencies managing to gain strength, notably AUD (+0.3%), NZD (+0.3%) and CAD (+0.2%).  Summing up the currency markets, for the time being, with the Fed sounding increasingly hawkish and other central banks turning dovish, it seems like it is hard to bet against the greenback.  That doesn’t mean we will not see a short-term selloff, just that the trend, as you can see in the chart above, remains firmly higher for the buck.

On the data front, there is not a great volume of information, but PCE will certainly keep us all riveted to the screen Friday morning.

TodayChicago Fed Nat’l Activity0.09
TuesdayFlash Manufacturing PMI52.0
 Flash Services PMI52.0
 New Home Sales668K
WednesdayDurable Goods2.5%
 -ex Transport0.3%
ThursdayInitial Claims215K
 Continuing Claims1814K
 Q1 GDP2.5%
 Q1 Real Consumer Spending2.8%
FridayPCE0.3% (2.6% Y/Y)
 -ex food & energy0.3% (2.6% Y/Y)
 Michigan Sentiment77.8

Source: tradingeconomics.com

With the absence of Fed speakers, a blessing in my view, market participants will likely be taking their cues from earnings as well as activities elsewhere.  In the end, nothing has changed my view on the dollar where higher for longer suits both the rate and dollar outcome.

Good luck

Adf

Showing Concern

Posted on by

Investors are showing concern
And, risk assets, starting to spurn
But this time, it seems
That only in dreams
Are bonds something for which they yearn
 
Instead, the two havens of note
As evidenced by every quote
Are dollars and gold
Which folks want to hold
While stock bears are starting to gloat

 

**There will be no poetry for the rest of the week as this poet will be seeking rhythm only in his golf swing for a few days.  I will return on Monday, April 22.**

It appears that investors are beginning to ask more serious questions about the macroeconomic outlook and whether the current valuations in financial markets are representative of the future.  Not only did equity markets suffer significant declines yesterday, but so did bond markets.  At the same time, geopolitical tensions continue to rise driving even more risk reticence.  While it is still far too early to claim that things have turned decisively, it is certainly worth a discussion as to whether that may be a valid explanation.

I would paint the big picture in the following manner:

  1. US economic activity remains firm although there are still pockets of weakness.
    1. Retail Sales printed much higher than expected at +0.7% with a revision higher to last month’s data up to +0.9%.
    1. Empire State Manufacturing improved from last month to -14.3 but was worse than the expected -9.0.
  2. The Fed continues to downplay the probabilities of rate cuts in the near future.
    1. Daly: “The worst thing we can do right now is act urgently when urgency isn’t necessary.  The labor market’s not giving us any indication it’s faltering, and inflation is still above our target, and we need to be confident it is on the path to come down to our target before we would feel the need – and I would feel the need – to react.”
  3. Concerns over the next step in the evolving Israel/Iran conflict have market participants (and the rest of us) on edge.
    1. Bloomberg Headline: Israel Vows Response to Iran as US and Allied Urge Restraint.
    1. Reuters headline: Iran Says Any Action Against its Interests will get a Severe Response.

Clearly, there are other issues as well, with the ongoing Russia/Ukraine conflict, the critical elections upcoming, not only in the US but in Mexico, India and several German states, and confusion on the Chinese economy.

My point is that uncertainty is very high, and rightly so.  It is a fraught time in the world.  Historically, in this situation, US Treasuries were the place to where so many global investors would run.  The dollar would often benefit from this flight to safety, while risky assets, especially stocks, would suffer.  But it appears this generation of investors did not get the memo on how they are supposed to respond.  Instead, they seem to be looking at the ongoing fiscal profligacy in the US and the very real likelihood that inflation is not going to be declining anytime soon and decided that being long duration is a losing proposition.  Instead, the things that are in demand are dollars (with the highest cash yield around) and gold, with no yield, but with a long history of maintaining its value in both good times and bad.

Quite frankly, it is hard to argue with this sentiment, at least in my view.  I have long maintained that inflation was going to be stickier than many Fed and analyst models had forecast over the past several years.  I see no reason for the Fed to cut rates anytime soon.  Rather, while I expect that there may be ample reason to consider rate hikes going forward, given their inherent bias to cut, the outcome will be Fed funds remaining at their current level for much longer than most people expect.  Think, through mid-2025 at least.  

In this situation, absent a significant economic downturn, which doesn’t appear imminent, I continue to look for a bear steepening of the yield curve with 10yr yields rising above 5.0% and possibly as high as 5.5%.  In fact, this is exactly what the US needs to address its debt problem, high nominal GDP growth, high inflation, and negative real interest rates.  My fear is that the Fed will resort to Yield Curve Control, keeping the entire interest rate structure at an artificially low level in order to speed this process along.  This was the playbook immediately after WWII and it worked.  Do not be surprised to see them repeat that strategy.

If this is the way things evolve, protecting the value of your assets will require holding commodities and precious metals, real estate and some equities.  Both cash and bonds will be terrible investments in that environment, and equity selection will be important as not all will do equally well.  Value over growth is likely to be the play.  

In the meantime, let’s look at the wreckage from last night.  After the second down day in a row in the US, with red everywhere, Asia followed suit as both Japan (Nikkei -1.9%) and Hong Kong (-2.1%) really suffered while the mainland (-1.1%) was less awful after the Chinese data dump.  Surprisingly, Q1 GDP there rose 5.3%, better than expected and more than last quarter, but Retail Sales (3.1%, exp 4.5%) and IP (4.5%, exp 5.4%) both showed weakness compared to last month as well as expectations.  It seems odd that GDP was so firm with weak underliers.  Perhaps we should take this data with a grain or two of salt!  As to the rest of the regional markets, they were all in the red as well.

The picture is no better in Europe with red across the board, mostly on the order of 1.1% or more.  The only noteworthy data was German ZEW which showed current conditions to be horrible but expectations, for some reason, brightening.  As to US futures, at this hour (7:30) they have turned slightly green, up about 0.3% across the board.

In the bond market, yields around the world continue to rise as inflation concerns remain top of mind everywhere, or at least here in the States and since the US leads the parade in the global bond markets, everyone is following.  Yesterday saw 10-year yields climb 4bps and this morning they are a further 5bps higher, now sitting at 4.64%.  European yields are also firmer, up between 2bps and 4bps throughout the continent, but did not see as much of a move yesterday.  Regardless, it is pretty clear that investors are shying away from duration.  Even JGB yields are edging higher, up 1bp overnight, although they continue to badly lag the US situation, and that continues to weigh on the yen.

Oil prices, which rallied yesterday are consolidating those gains and edging lower this morning, down -0.4%.  The geopolitical concerns remain top of mind for traders, but economic forecasts are also key.  After all, if China truly is growing, that implies an uptick in demand which should be supportive overall.  Thus far, the middle east conflict has not targeted oil infrastructure, but if that changes, watch for much higher prices.  In the metals markets, yesterday saw strength across the board which is reverting this morning.  The biggest change in this market is that it has become far more volatile than its recent history.  I expect that will be the case in all markets going forward as uncertainty remains a key feature of the entire macro story.  Net, the metals have been rallying sharply for the past month or more, so this morning’s modest declines are more corrective than indicative in my view.

Finally, the dollar is ‘strong like bull!’  At least that has been the case for the past week or more as, especially the yen (-0.3% today, -1.9% in the past week), continues to lack buyers anywhere.  While I believe that the BOJ/MOF are less worried about the actual rate, the reality is that the yen is starting to decline pretty quickly.  If I were a hedger who needed to sell yen to hedge assets or revenues, I would be using options here, probably zero-premium collars, as you cannot be surprised if intervention is on the table.  We are just a shade below 155.00 and market talk is of a push to 160.00.  I have to believe that FinMin Suzuki and Governor Ueda are starting to get a little uncomfortable.   Now, the dollar is rising against all its counterparts, having risen more than 2% against many in the past week, but still, the yen’s decline has been consistent for more than two years and is starting to look unruly.

As to the rest of the currencies, this morning sees MXN (-0.6%) and PLN (-0.7%) as the laggards while the euro (+0.15%) has reversed losses from earlier in the session but is still lower by more than 2% since last Wednesday.  As the market continues to price Fed cuts out of the future while other central banks are seen still on track to cut, the dollar will likely keep going.

While we see Housing Starts (exp 1.48M) and Building Permits (1.514M) early and then IP (0.4%) and Capacity Utilization (78.5%) a bit later, the big news is that Chairman Powell will be speaking at the Spring IMF conference this afternoon at 1:15pm.  As well we will hear from Governor Jefferson, NY Fed president Williams and BOE Governor Bailey and BOC Governor Macklem before the day is through.  In other words, there will be a lot of words to digest.  However, none will be as important as Powell’s. if he acknowledges that inflation is hotter than they want and turns more hawkish, watch out for more severe risk asset declines.  But if he doesn’t, it could be even worse!

Good luck for the rest of the week

Adf

Obliteration

Posted on by

The chance of a much wider war
Is something we need to plan for
Thus, havens ought be
A key thing we’ll see
Demanded, as prices will soar
 
The thing is that war and inflation
Have partnered through history’s duration
While prices may rise
Most nations surmise
That’s better than obliteration

 

The weekend just passed saw what could be the next step to a wider war in the Middle East after Iran launched a massive air assault on Israel.  While it seems to have been fully repelled, with limited damage and injury, the world is waiting on tenterhooks to see if there will be a counterattack by the Israelis.  In a different time, with a different set of leaders around the world, perhaps the next steps would be talks and negotiations designed to stop the madness.  But in the current world, with the current global leadership, there is no sign that anyone is capable of driving that particular outcome.

With this in mind, I think it is important to remember one very real truism, war is inflationary.  It always has been, and it always will be.  Consider that every nation at war will spend as much as they can to produce and procure the weaponry they need to combat that war.  And they will borrow the money as that is the fastest way to move that process forward.  Second, scarcities will develop across an economy as inputs that would otherwise have gone toward ordinary consumer goods will be repurposed and commandeered toward the war effort.  The upshot is that demand will rise while supply will dimmish, a perfect recipe for inflation.

If we take that set of generalities and apply it to today’s situation, the starting point is already sticky high inflation with a massive debt load, at least in the US.  Elsewhere in the world, inflation appears to be starting to ebb, although the numbers remain well above the near-universal 2.0% target.  On the debt question, pretty much everybody has too much of that!  Of course, the situation in the US is the most important because it is the nation that is likely going to be financing a large proportion of any increase in hostilities despite the recent comments that the US will not take part in any Israeli retaliation.

Ultimately, though, even if we see a de-escalation of this situation, nations everywhere are going to be building up their war making capabilities given the overall level of uncertainty in the current world.  While Russia/Ukraine continues apace, and Israel is still fighting in Gaza, those are simply the issues that make the headlines.  Fighting continues throughout Africa (Nigeria, South Sudan Mali, Somalia, Congo) as well as in Iraq, Syria, Yemen and Pakistan.  This may be one of the least reported and most consistent drivers of global inflation that exists.  All I’m saying is that the combination of the current geopolitical situation and the still lingering effects from pandemic era policies has virtually ensured that inflation is not going to fall, at least not very far.  That means that haven assets and hard assets, often the same assets, remain high on the list of investments that are likely to perform well going forward.  Keep that in mind as you establish both your planning and your hedging.

With those cheery thoughts in mind, let’s see how markets have handled the next step up this escalator. Friday’s US equity market declines, which some have attributed to tax selling (today is Tax Day after all) was followed by weakness throughout most of Asia.  The exception was mainland China, which saw the CSI 300 rise 2.1%.  But elsewhere in the time zone, red was the color of the day, with Japan (-0.75%), HK (-0.75%), Australia (-0.5%), South Korea (-0.5%) and virtually every other regional equity market declining.  It seems that investors there are not so sanguine about a war in the Middle East.  

In Europe, though, as there is rising hope that things won’t get worse in the Middle East, equity markets are rebounding with most major indices higher by between 0.5% and 1.0%.  While that may be an optimistic reading of the situation, it is spreading as we have also seen early some gains in commodity prices back off.  The one exception here is the UK (-0.5%), but there is no obvious catalyst that is different for the outcome.  As I always say, sometimes markets are simply perverse.  Lastly, US futures markets are pointing higher as well, about 0.4% across the board at this hour (7:00).

Turning to the bond markets, it appears that inflation fears are greater than haven demand this morning. Treasury yields are higher by 5bps after a modest decline on Friday, while European sovereigns are seeing similar gains in yield, between 5bps and 7bps across the board.  While I understand the Treasury reaction given rising inflation expectations according to the Michigan Survey data released Friday, the European one is more confusing.  Even uber-hawk Robert Holtzmann agreed that a cut in June is likely, although future moves will be data dependent, and he is the most hawkish member of the ECB.  While inflation data throughout Europe has been declining, perhaps the bond markets are telling us they don’t believe that will continue.  Something doesn’t jibe with the recent comments and price action, and in that case, I always assume the pricing is correct.

In the commodity markets, oil (-0.8%) is lagging today as the ebbing fears of a wider Middle East conflict weigh on the black sticky stuff.  With that in mind, remember that oil prices are higher by nearly 4% over the past month, so this bull run does not appear dead yet.  However, metals remain in demand as we are seeing gains across gold (+0.7%), silver (+2.1%), copper (+1.2%) and aluminum (+2.1%).  I believe this story remains a combination of supply concerns as well as stories about excess demand from China, where copper stockpiles have been growing rapidly.  While it is not clear why they are buying copper, it is just one of several metals, notably gold, that China has been acquiring aggressively over the past months.  I maintain that this space has much further to run higher.

Finally, the dollar is under pressure this morning, although not universally so.  While the bulk of the G10 is modestly firmer, on the order of 0.2%, JPY (-0.5%) continues to suffer and is now pushing toward 154.00.  The last time USDJPY traded at this level was June 1990.  However, as long as the monetary policies between the US and Japan remain on divergent paths, the only thing that will stop this is concerted intervention, and the US seems unlikely to take part in such a move.  In the EMG bloc, the dollar is also on its back foot with MXN (+0.5%) the leading gainer and most of the rest of these currencies higher by much smaller amounts.  I would note CNY has rallied a touch after the PBOC withdrew CNY70 billion of liquidity as part of their money market operations today.  The Chinese are caught between the need for more stimulus to support the economy and the fear that more stimulus will lead to lower rates and capital flight, something which they have worked very hard to prevent.

On the data front, as exciting as last week was, this week should have some pretty good follow-ups.

TodayEmpire state Mfg Index-9.0
 Retail Sales0.3%
 -ex autos0.4%
 Business Inventories0.3%
TuesdayHousing Starts1.48M
 Building Permits1.514M
 IP0.4%
 Capacity Utilization78.5%
WednesdayFed’s Beige Book 
ThursdayInitial Claims214K
 Continuing Claims1820K
 Philly Fed0.8
 Existing Home Sales4.2M
 Leading Indicators-0.%

Source: tradingeconomics.com

As well as this, we hear from eleven more Fed speakers, including Chairman Powell tomorrow afternoon at the IMF spring meetings.  It will be quite interesting to hear how he handles the three consecutive hotter than expected CPI prints and whether there is going to be a subtle change in tone.  If he were to ignore it, I think that will be quite negative for bonds as it becomes a clearer indication that the 2% target is dead.

The thing about the 2% target is if the Fed abandons it, you can be sure that every other central bank will do the same.  That means that more rate cuts will be coming more quickly.  That, my friends, is a recipe for higher inflation, higher commodity prices and a much weaker bond market.  As to the dollar in that scenario, my take is it will still be the proverbial ‘cleanest shirt in the dirty laundry’ and will hold its own.

Good luck

Adf

Still Premature

Posted on by

The talk of the town has been gold
Whose rally, by some, was foretold
While Christine and Jay
Would give it away
Elsewhere it’s what folks want to hold
 
Under the rubric, a picture is worth a thousand words, have a look at the chart of the price of gold over the past twelve months below:

Source: tradingeconomics.com

That red arrow is pointing to the closing price on February 13, at $1988/oz, more than $400 lower than this morning’s market price.  There are many theories as to what is happening to drive this remarkable move in a commodity that has had a very limited role in the macroeconomic discussion for the past 53 years, ever since Nixon closed the gold window in 1971.  But the rally has been so strong it has fostered a host of theories as to what is driving it.  The latest is that there is a large, price-insensitive buyer acquiring large amounts outside the NY/London trading axis, with many people of the belief it is China and/or Russia preparing for a more complete break from the USD-based global monetary system.

Perhaps that is the case as we know from official reports that China has continued to acquire large amounts of gold over the past year.  But that has too much of a whiff of conspiracy theory in it for my taste.  My strong belief is that conspiracies are extremely difficult to maintain because people simply talk too much.  Rather, four decades of experience in financial markets, specifically FX and precious metals markets, has taught me that sometimes, markets move a long way on the basis of underlying fundamentals that have heretofore been ignored.  A simpler explanation could be that given its millennia-long history of being an able store of value and the fact that inflation remains rampant around most of the world while central bankers remain keen to cut interest rates and stop any efforts to fight it, many folks have decided it is a good idea to hold some portion of their personal wealth in the barbarous relic.  I know I do and have done so for quite a while.  I do not believe I am alone in that mindset.  Speaking of central bankers…

Said Christine, it’s still premature
To cut rates cause we’re not yet sure
Inflation is dying
Though we’re falsifying
It’s death from the Po to the Ruhr

At yesterday’s ECB meeting, as expected, there were no policy changes.  Madame Lagarde commented as follows: “If the Governing Council’s updated assessment of the inflation outlook, the dynamics of underlying inflation and the strength of monetary policy transmission were to further increase its confidence that inflation is converging to the target in a sustained manner, it would be appropriate to reduce the current level of monetary policy restriction.“  

That represents a lot of ten-dollar words to say, we want to cut rates, but we’re afraid if we do inflation might return so we are going to wait longer.  However, what was clear was that there is a wide range of views on the council.  For instance, this morning, Yannis Stournaris, the Greek central banker, said he thought that 4 cuts this year made sense.  At the same time, the last we heard from Robert Holtzmann of Austria, one cut was probably enough.  

Once again, Lagarde explained they are not waiting for the Fed, which is a good thing given the Fed seems less and less likely to cut this year at all, and Europe is in a recession already and needs lower rates.  This morning, the euro has fallen even further, down another -0.7%, and is back to levels last seen in early November.  It is becoming increasingly clear that monetary policies in the US and Europe are going to diverge further than currently priced and that does not bode well for the single currency going forward.

And those are really the big stories.  Yesterday’s PPI was a tick softer than expected, but the explanation was that in the calculation, the BLS seasonally adjusts the price of gasoline, so it showed a reduction despite the fact that gasoline prices, as we all know, have been rising steadily of late.  In any event, the market shook it off as we saw US equity markets perform well with both the S&P and NASDAQ reversing Thursday’s declines.  In Asia, however, while the Nikkei (+0.2%) managed a small gain, Chinese shares, and especially those in HK (-2.2%) had a lot more difficulty.  Chinese trade data was quite disappointing with the Trade balance shrinking dramatically (granted it is still >$50B) but both imports and exports declining.  And truthfully, all the other regional markets were lower to close the week.

European bourses, though, are all in the green, and nicely so, as investors and traders listen to the ECB doves and see more rate cuts, not less, coming.  This was confirmed with final pricing data showing the trend lower in inflation remains intact.  As to the US futures market, at this hour (7:50), they are lower by about -0.25% after weaker than expected earnings from JPM were released this morning.

In the bond market, after a week that has seen yields climb dramatically around the world, this morning Treasury yields are lower by 6bps, although still above 4.50%.  European sovereigns have seen yields decline even more, between 9bps and 11bps as the hope for rate cuts springs eternal.  Arguably, this is why the euro is under such pressure, the market narrative is gelling around the idea that the Fed won’t cut, and the ECB will be more aggressive.  One last thing, JGB yields are lower by 2bps this morning, but that is after a sharp rise seen in the wake of the US inflation report.  In fact, like many markets, with 10-year yields back at 0.84%, we are seeing levels not seen since November.

Turning to commodities, we have already discussed gold, and ignored silver (+2.0%) which is rallying even more aggressively, and copper (+1.80%) which is gaining on a combination of concerns over supply and a growing belief that China is going to add more stimulus to their economy.  Oil (+1.4%), too, is on the move, rebounding on growing concerns that the Middle East situation is getting even more dangerous with all eyes on Iran and any potential retaliation for Israel’s actions in Syria last week that resulted in the death of a key Iranian commander.  Historically, commodity rallies of this nature were accompanied by a weaker dollar, but not this time.  If this price action continues, there are going to be a lot of problems in nations all around the world that need to acquire commodities while their respective currencies are weakening.  Do not be surprised to see more market intervention in many places.

Finally, the dollar is back on top, rallying vs. virtually every currency this morning in a substantial manner.  In the G10, SEK (-1.3%) is the laggard, but the euro, pound, Aussie, Kiwi and Nokkie are all weaker by -0.6% or more.  In fact, only the yen (0.0%) is holding up, but that is after it blew through the previous ‘line-in-the-sand’ at 152.00 and is now above 153.00.  emerging market currencies are also uniformly weaker, although some are holding in better than others.  ZAR (-0.1%) is clearly benefitting from the metals rally, but not quite enough to rally on its own.  But KRW (-1.0%), MXN (-0.5%), BRL (-0.45%) and PLN (-0.65%) give a flavor of the overall price action.  Frankly, this is likely to continue until/unless we see a significant change in the data flow with US economic activity slowing, or at the very least, we get a consensus from all the Fed speakers that they are going to cut regardless of the data.

Speaking of the data, today we see only Michigan Sentiment (exp 79.0) and hear from two more Fed speakers, Bostic and Daly.  it doesn’t strike me that the data will matter that much, but market participants are quite keen to get more clarity from Fed speakers.  There is still a mix of views, although the one consistency is they have no confidence that inflation is falling toward their target sustainably.  However, some see a reversal higher as quite possible while others are holding out hope that this is a temporary bump in the road.  We will still see a significant amount of data before the FOMC meeting on May 1st including Retail Sales next week and the PCE data at the end of the month.  We will also hear much more from Fed speakers, so as of now, while there is no consensus, perhaps one will coalesce.  

Yesterday’s data did result in futures markets very slightly increasing the rate cut probabilities, with June now a 25% chance and 45bps priced for the rest of 2024.  I remain in the no-cut camp and so expect the dollar will continue to perform well vs. its brethren.  However, I see no reason for the commodity markets to back off either.  Bonds, however, are likely to see more pain going forward.

Good luck and good weekend

Adf