Author Archives: fxpoet

Still Some Doubt

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One vote from six hundred is all
That set apart sides in this brawl
So hard Brexit’s out
But there’s still some doubt
That hard Brexit they can forestall

Well, Parliament finally found a majority yesterday regarding Brexit. In a cross-party vote, by 313-312, Parliament voted to not leave the EU without a deal in hand. While they still hate the deal on the table, there are now discussions between PM May and opposition Labour leader Corbyn as to how they can proceed. There is lots of talk of a customs union solution, which would essentially prevent the UK from making trade deals on its own, one of the key benefits originally touted by the pro Brexit crowd. But time is still running out with PM may slated to speak to the EU next Wednesday and explain why the UK should be granted another delay. Remember, it requires a unanimous vote of the other 27 members to grant that delay.

Another interesting tidbit is that the UK government has 10,000 police on standby for potential riots this weekend as there is some talk that Parliament may simply cancel Brexit completely. You may recall that late last year, the European Court of Justice ruled that the UK could do that unilaterally, and so that remains one option. This follows from the train of thought that now that the law states they cannot leave the EU without a deal, if there is no deal to which they can agree, then not leaving is the only other choice. Arguably, the most interesting thing about this has been the market’s reaction. The pound is actually a touch softer this morning, by just 0.1%, but that was after a very modest 0.2% rally yesterday. It continues to trade just north of 1.30 and market participants are clearly not yet convinced that a solution is at hand. If that were the case, I would expect the pound to have rallied much more significantly. If Brexit is canceled, look for a move toward 1.38-1.40 initially. The thing is, it is not clear that it will maintain those levels given the ongoing economic malaise. Ultimately, if we remove Brexit from the calculations, the pound is simply another currency that needs to compare its economic fundamentals to those in the US and will be found wanting in that category as well. I expect a slow drift lower after an initial jump.

Turning to the US-China trade discussions, today Chinese vice-premier Liu He is scheduled to meet with President Trump, a sign many believe means that a deal is quite near. From the information available, it seems that the sticking points continue to be tariff related, with the US insisting that the current tariffs remain in place until the Chinese demonstrate they are complying with the deal and only then slowly rolled back. The US is also seeking the ability to unilaterally impose tariffs in the future, without retaliation, in the event that terms of the deal are not upheld by China. Naturally, China wants all tariffs removed immediately and doesn’t want to agree to unilateral action by the US. One side is going to have to back down, but I could see it being a split where tariffs remain for now, but unilateral action is not permitted. In the end, one of the key issues has always been the fact that the Chinese tend to ignore the laws they write when it is deemed to suit the national interest. Will this time be different? History shows that this time is never different, but we shall see.

Certainly, equity markets cannot get enough of the idea that this trade deal is coming as it continues to rally, especially in China, on the prospects of a successful conclusion. While markets today are generally little changed, Shanghai did manage another 1% jump last night. I guess the real question here is if a deal is agreed and President’s Trump and Xi meet and sign it sometime later this month, what will be the next catalyst for the equity market to rally? Will growth really rebound that quickly? Seems unlikely. Will the central banks add more stimulus? Also unlikely if they see these headwinds fade. In other words, can risk-on remain the market preference indefinitely?

Turning to the actual data, once again Germany showed that the slump there is real, and possibly worsening. Factory Orders fell 4.2% in February, much worse than the expected 0.2% gain and the steepest decline in two years. It is also the third decline in the past four months, hardly the sign of an economy rebounding. In fact, German growth forecasts were cut significantly today by its own Economy Ministry, taking expectations for 2019 down to 0.8% GDP growth for the year, less than half the previous forecast. But despite the lousy data, the euro is basically unchanged on the day and actually over the past week. Traders are looking for a more definitive catalyst, arguably something new from a central bank, before they make their next move. Ultimately, as the German data shows, I think it increasingly unlikely that the ECB can tighten policy in any way for a long time yet, and that bodes ill for the since currency.

There has been one noteworthy mover overnight, the Indian rupee has fallen a bit more than 1% after the RBI cut rates by 25bps at their monthly meeting last night. While this was widely anticipated, the RBI came out much more dovish than expected, indicating another cut was on the way and that they would ‘…use all tools available to it to ensure liquidity in the banking system…’ which basically means that easier money is on the way. I expect that the rupee will have a bit further to fall from here.

But otherwise, it was a pretty dull session overnight. The only data this morning is Initial Claims (exp 216K), but with payrolls tomorrow, that is unlikely to quicken any pulses. We also hear from both Loretta Mester and John Williams, but the Fed story is carved in stone for now, no policy changes this year. Yesterday’s softer than expected ISM Non-Manufacturing data will simply reconfirm that there is no reason for the Fed to start tightening again. All told, it doesn’t feel like much is going to happen today as the market starts to prepare for tomorrow’s NFP report. Unless Brexit is canceled, look for a quiet session ahead.

Good luck
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Feeling Distress

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The dollar is feeling distress
As Treasury prices compress
The data released
Shows growth has increased
Thus risk is now ‘cool’ to possess

Risk is back in fashion this morning as better than expected Chinese Services PMI data (54.4 vs. exp 52.3) and better than expected German Services PMI data (55.4 vs exp 54.9) have combined with renewed optimism on the US-Chinese trade talks to revive risk taking by investors. If you recall, it was just last month that the PMI data was pointing to a global slowdown, which was one of the keys to market activity. It was part and parcel of the yield curve inversion as well as the dollar’s modest strength as investors fled most other countries for the least bad option, the US markets. But it seems that not only have markets responded positively to the complete u-turn by global central bankers, so have purchasing managers. In the end, everybody loves easy money, and the fact that virtually every nation has reversed early signs of policy tightening has played well on Main Street as well as on Wall Street.

So maybe recession is much further away than had recently been feared. Of course, we continue to see our share of weak data with this week already producing subpar Retail Sales (-0.2%, -0.4% ex autos) and weak Durable Goods Orders (-1.6%, +0.1% ex transport). This makes an interesting contrast to the stronger than expected ISM data (55.3) and Construction Spending (+1.0%). But investors clearly see the glass half-full as equities respond positively, and maybe more impressively, Treasury yields have backed up 14 bps in the past week. This means the yield curve is no longer inverted and we are already hearing a lot of dismissals about how that was an aberration and not a precursor of a recession. You know, ‘This time is different!’

The one thing that remains clear is there is a concerted effort by central bankers everywhere to focus on the good, ignore the bad and try to keep the global economy going. I guess that’s their collective job, so kudos are due as they have recently proven quite nimble in their responses. Of course, the fact that they seem to be inflating new debt bubbles with the potential for very serious consequences when they pop cannot be ignored forever.

Prime Minister May’s at a loss
And so now the aisle she’ll cross
It’s Labour she’ll ask
To help with the task
Of proving her deal’s not just dross

The other market surprise was the news that after a seven-hour cabinet meeting, PM May has given up on the Tories to help her pass the Brexit deal and has now reached out to Labour leader, Jeremy Corbyn, to see if they can come up with something that can garner a majority of votes in Parliament. Yesterday, Parliament tried to come up with their own plan for a second time, and this time handily rejected 11 suggestions. The problem for May is that Labour, itself, is split on what it wants to do, with a large portion looking for another referendum, while it has its own significant portion of Leavers. Quite frankly, the view from 3000 miles away is that this initiative is not going to result in any better solution than the already rejected ones. And while everyone abhors the idea of a hard Brexit, apparently nobody abhors it enough to concede their own viewpoint. However, the market continues to wear its rose-colored glasses and the pound has rebounded 0.5% today and more than 1.1% since yesterday morning. The pound continues to be completely driven by the Brexit saga, as it rallied despite a very poor Services PMI outturn of 48.9.

Away from those stories, market optimism has been fanned by the hints that the US-China trade talks are continuing to make progress. Chinese vide-premier, and lead negotiator, Liu He, is in Washington today and tomorrow to resume the conversation. Meanwhile, central banks continue to back away from any further policy tightening, even in marginal countries where it had been expected. Poland is the latest to sound more dovish than previous comments, and markets are also now pricing in further rate cuts in both India and South Africa. The point is that the market addiction to easy money is growing, and there does not appear to be a single central banker anywhere who can look through the short-term and recognize, and respond to, long term concerns.

But in the meantime, stocks continue to rally. Today, after the Chinese data, we saw the Nikkei jump 1.0%, and Shanghai rally 1.25%. Then after the Eurozone data, the DAX rocketed 1.85% and even the CAC, despite the weak French data, rallied 1.0%. I guess the fact that there are still weak areas in Europe implies that Signor Draghi will never be tempted to raise rates. And not to be outdone, US futures are pointing to a 0.5% rise at the open.

This morning’s data brings ADP Employment (exp 170K) and then ISM Non-Manufacturing (exp 58.0). If things hold true to form, look for a better ISM number, although the ADP will be quite interesting. Remember, last month’s NFP number was shockingly weak so there are still questions about that. Friday, we will learn more, especially with the revisions.

And the dollar? Well, as is often the case on days where risk is accumulated, the dollar is under broad pressure, down 0.3% vs. the euro, NOK and SEK. It is also under pressure vs. EMG currencies with INR (+0.7%) and PHP (+0.6%) leading the way in Asia, while the CE4 are all higher by roughly 0.3%. There is no reason to think this pressure will abate today, unless we see something quite surprising, like the US-China trade talks falling apart. In other words, look for modest further dollar weakness as the session progresses.

Good luck
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Pure Satisfaction

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This weekend the data released
From China showed growth had increased
The market’s reaction
Was pure satisfaction
With short sellers all getting fleeced

Remember all those concerns over slowing growth around the world as manufacturing data kept slipping to recession-like numbers? Just kidding! Everything in the world is just peachy. At least that seems to be the take from equity markets this morning after Chinese PMI data this weekend surprised one and all by showing a significant rebound. The ‘official’ Manufacturing PMI printed at 50.5, up from 49.2 in February and well above the consensus forecast of 49.5. More importantly, it was on the expansion side of the 50.0 boom/bust line. The non-manufacturing number printed at 54.8, also higher than February (54.3) and consensus expectations of 54.1. Then last night, the Caixin data was released and it, too, showed a much better reading at 50.8, up from 49.9 and above consensus expectations of 50.1. And that’s all it took to confirm the bullish case for equity markets with the Nikkei rising 1.4% and Shanghai up 2.6%. In fairness, we also heard soothing words from Chinese Vice-premier Liu He, China’s top trade negotiator, that he was optimistic a deal would soon be reached, perhaps when he is back in Washington later this week.

What makes this so interesting is that European markets are all rallying as well, albeit not quite as robustly (DAX +1.1%, CAC +0.5%) despite weaker than forecast PMI data there. In fact, German Manufacturing PMI fell to 44.1, its lowest level since July 2012 during the European bond crisis, while the French also missed the mark at 49.7. However, it is becoming evident that we are fast approaching the bad news is good phenomenon we had seen several years ago. You may recall that this is the theory that weak economic data is actually good for equity prices because the central banks will ease policy further, thus increasing inequality and making the rich richer helping to support equity market valuations by adding further liquidity to the system.

It cannot be surprising that in this risk-on festival, the dollar has suffered overnight, falling between 0.2% and 0.5% vs. its G10 counterparts and by similar numbers vs. most of the EMG bloc. In fact, the two notable decliners beyond the dollar have been; TRY, currently down 0.6% (although that is well off its worst levels of -2.0%) after local elections over the weekend showed President Erdogan’s support in the major cities in Turkey has fallen substantially; and the yen, which given the risk-on mindset is behaving exactly as expected. In addition, 10-year Treasury yields have backed up to 2.44% and are no longer inverted vs. the 3-month T-bill, after spending all of last week in that situation.

What should we make of this situation? Is everything in the economy turning better and Q4 simply an aberration? Or is this simply the lash hurrah before the coming apocalypse?

On the positive side is the fact that last year’s efforts by central banks around the world to ‘normalize’ monetary policy is clearly over. ZIRP is the new normal, and quite frankly, it looks like the Fed is going to start heading back in that direction soon. Certainly, the market believes so. And as long as free money exists in the current low inflation environment, equity markets are going to be the main beneficiaries.

On the negative side, the number of red flags raised in the economy continues to increase, and it seems hard to believe that economic growth can continue unabated overall. For example, auto manufacturing has been declining rapidly and the housing market continues to slow sharply. These are two of the largest and most important industries in the US economy, and contraction in either will reduce growth. We are looking at contraction in both, despite interest rates still much closer to historic lows than highs. Remember, both these businesses are credit intensive as almost everyone borrows money to buy a car or a house. As an example of the concerns, auto loan delinquencies are at record levels currently with more than 6.5% overdue by more than 90 days.

Obviously, this is a small sample of the economy, albeit an important one with significant knock-on effects, but at the end of the day, investors continue to take the bullish view. Free money trumps all the potential travails of any particular industry.

It’s funny, because this attitude is what has been increasing the hype for the sexiest new economic views of MMT. After all, isn’t this what we have been seeing for the past decade? Fiscal stimulus paid for by central bank monetization of debt with no consequence. At least no consequences yet. Japan is leading the way in this process and despite a debt/GDP ratio of something like 240%, everybody sees the yen as a safe haven with negative 10-year yields. And arguably, last year’s tax and spending bill in the US alongside the end of policy tightening here, and almost certain future easing, is exactly the same story. Ironically, the Eurozone experiment is going to find itself on the wrong side of this process since member countries ceded their seignorage when they accepted the euro for their own currencies. And who knows, maybe MMT is a more correct description of the world and printing money without end has no negative consequences. I remain skeptical that 10 years of experimental monetary policy in the developed world is sufficient to overturn 300 years of economic history, but I am, by nature, a skeptic. At any rate, right now, the market is embracing the idea which means that equity markets ought to continue to gain, and government bond yields are not destined to rise alongside them.

As we start Q2, we are treated to a bunch of data as well as some more Fedspeak:

Today Retail Sales 0.3%
  -ex autos 0.4%
  ISM Manufacturing 54.5
  Business Inventories 0.5%
Tuesday Durable Goods -1.8%
  -ex transport 0.2%
Wednesday ADP Employment 170K
  ISM non-Manufacturing 58.0
Thursday Initial Claims 216K
Friday Nonfarm Payrolls 170K
  Private Payrolls 170K
  Manufacturing Payrolls 10K
  Unemployment Rate 3.8%
  Average Hourly Earnings 0.3% (3.4% Y/Y)
  Average Weekly Hours 34.5

So, on top of Retail Sales and Payroll data, both seen as critical information, we hear from four more Fed speakers during the second half of the week. The thing is, we already know what the Fed’s view is, no rate hikes anytime soon, but it is too soon to consider rate cuts. That is where the data comes in. Any hint of weakness in the data especially Friday’s payroll report, and you can be sure the calls for a rate cut will increase.

Right now, the market feels like the Fed is going to be the initiator of the next set of rate cuts, and so I expect the dollar will be pressured by that view. But remember, if the Fed is cutting, you can be sure every other central bank will be going down that road shortly thereafter.

Good luck
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Hawks Are Now Doves

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Two years ago Minister May
Put Article 50 in play
But when she unveiled
Her deal, it detailed
A course many felt went astray

Instead of the exit they sought
And for which the Brexiteers fought
Today the UK
Is forced, still, to play
By rules that the EU has wrought

So, it’s Brexit day and yet there is no final solution. Later today Parliament will vote on the legally binding aspects of the negotiated deal, but that still appears destined to fail. The problem remains that the Northern Irish DUP, which holds the ten votes that maintain the Tory majority in Parliament, has categorically refused to back the deal. The problem, as they see it, is that the deal splits them away from the UK and impinges too greatly on their sovereignty. If this vote fails (it is due to take place at 10:30 this morning) then the debate will shift to what to do next. The EU has afforded the UK another two weeks to come up with any decision at all, but even that seems increasingly doubtful. Earlier this morning, it appeared that the probability of a no-deal Brexit was increasing, at least according to the market as the pound traded down to 1.30 (-0.3%), but it has since rebounded a bit and is, in fact, higher by 0.35% on the session now. It appears the ebbs and flows of the debate in Parliament are moving the price right now, so be prepared for a sharper move in a few hours. It is devilishly difficult to predict political outcomes, thus at this point, all we can do is watch and wait.

Both patience and data dependence
Are hallmarks of Powell’s transcendence
The hawks are now doves
And everyone loves
The theory of Fed independence

This takes us to the other topic of note in the markets, the Fed. Yesterday, yet again, we heard from Fed speakers who have all said virtually the same thing. The current mantra is there is no reason for the Fed to act right now on rates, and that they will carefully analyze all the data, both from the US and the rest of the world, before making their next decision. They cannot tell us frequently enough how in 1998-9, when growth elsewhere in the world was suffering (the Asian crisis was unfolding), the Fed eased policy even though things were fine in the US, and that is what helped prevent a much worse outcome. (Of course, they never discuss how those extra low rates helped inflate the tech bubble which burst dramatically the following year, but that doesn’t really suit the narrative, does it?) At any rate, it is abundantly clear that the Fed is on hold for the rest of the year, and that the balance sheet program is going to taper off and end by the autumn. And there is no question that the Fed has remained independent throughout this process, remember that!

The last of the big three stories, trade talks with China, was back in the news as well as the US delegation was seen going “line by line” through the text with their Chinese counterparts to try to come to an agreement. It does appear that the Chinese are conceding some points, with a story this morning about how US cloud companies are going to be allowed access, without a partner, into China to compete with locals. The other story was about a change in Chinese law that ostensibly addresses IP theft. These are two key issues for the US and seem to indicate that there is a real possibility that an agreement will actually make changes in the relationship that could benefit the US in the long run. Certainly, equity markets see it that way as Chinese stocks rallied sharply, more than 3% and Europe is higher along with US futures.

Elsewhere, yesterday’s BRL collapse was largely reversed, although the Turkish lira continues to suffer ahead of the local elections this weekend. In the former, it appears that foreign investors are taking advantage of a weaker real and stock market to buy in at better levels as there is an underlying belief that pension reform will be passed. In the latter, it remains to be seen how President Erdogan’s allies fare this weekend, and there is no clarity as to how he will react if he loses some measure of power.

Yesterday saw the dollar perform well, overall, despite the GDP data coming in on the soft side (2.2% vs. 2.6% expected), but again, that is backward looking data. This morning brings PCE (exp 1.4%, core 1.9%) as well as Personal Income (0.3%) and Spending (0.3%). We also see Chicago PMI (61.0), New Home Sales (620K) and Michigan Sentiment (97.8) later on. There are also a few more Fed speakers, but we pretty much know what they are going to say, don’t we?

Overall, the dollar has performed well this week, although it is a touch softer this morning. My sense is that we could see a bit more weakness by the end of the day, simply on position adjustments. And of course, if somehow the UK makes a decision of some sort, that will help the pound rebound and add to pressure on the buck. Just don’t count on that last part!

Good luck and good weekend
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So Despised

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Is anyone truly surprised
That Parliament, once authorized
To find a solution
Found no substitution
For May’s deal that they so despised?

One of the more confusing aspects of recent market activity was the rally in the pound when Parliament wrested control of the Brexit process from PM May. The idea that a group of 650 fractious politicians could possibly agree on a single idea, especially one so fraught with risks and complexities, was always absurd. And so, predictably, yesterday Parliament voted on seven different proposals, each designed to be a path forward, and none of them even came close to achieving a majority of votes. This included a vote to prevent a no-deal Brexit. In the meantime, PM May has now indicated she will resign regardless of the outcome, which, arguably, will only lead to more chaos as a leadership fight will now consume the Tories. In the meantime, there is still only one deal on the table, and it doesn’t appear to have the votes to become law. As such, while I understand that the idea of a hard Brexit is anathema to so many, it cannot be dismissed as a potential outcome. It should not be very surprising that the FX market is taking the idea a bit more seriously this morning, although only a bit, as the pound has fallen a further 0.4%, which makes the move a total of 1.0% lower in the past twenty-four hours.

One way to look at the pound’s value is as a probability weighted price of three potential outcomes; no deal, passing May’s deal and a long delay. Based on my views that spot would trade to 1.20, 1.38 or 1.40 depending on those outcomes, and assigning probabilities of 40%, 20% and 40% to those outcomes, spot is actually right where it belongs near 1.3160. But that leaves room for a lot of movement!

Meanwhile, elsewhere in the FX market, volatility is making a comeback. Between Turkey (-5.0%), Brazil (-3.0%) and Argentina (-3.0%), it seems that traders are beginning to awaken from their month’s long hiatus. Apparently, the monetary policy anesthesia that had been administered by central banks globally is wearing off. As it happens, each of these currencies is dealing with local specifics. For instance, upcoming elections in Turkey have President Erdogan on the defensive as his iron grip on power seems to be rusting and he tries to crack down on speculators in the lira. Meanwhile, recently elected Brazilian president Bolsonaro has seen his honeymoon end quite abruptly with his approval ratings collapsing and concerns over his ability to implement key policies seen as desirable by the markets, notably pension reform. Finally, Argentine president Macri remains under pressure as the slowing global growth picture severely restricts local economic activity although inflation continues to run away to unsustainable levels (4% per month!) and the peso, not surprisingly is suffering.

As to the G10, activity there has been less impressive although the dollar’s tone this morning is one of strength, not weakness. In fact, risk continues to be jettisoned by investors as can be seen by the continuing rally in government bonds (Treasury yields falling to 2.35%, Bund yields to -0.07%, JGB’s to -0.09%) while equity markets were weak in Asia and have gained no traction in Europe. Adding to the impression of risk-off has been the yen’s rally (0.2% overnight, 1.0% in the past week), a reliable indicator of market sentiment.

Turning to the data, yesterday saw the Trade Balance shrink dramatically, to -$51.1B, a much lower deficit than expected, and sufficient to positively impact Q1 GDP measurement by a few tenths of a percent. This morning we see the last reading on Q4 GDP (exp 1.8%) as well as Initial Claims (225K). Given the backward-looking nature of Q4 data, it seems unlikely today’s print will impact markets. One exception to this thought would be a much weaker than expected print, which may convince some investors the global slowdown is more advanced than previously thought with equities selling off accordingly. But a better number is likely to be ignored. We also hear from (count ‘em) six more Fed speakers today (Quarles, Clarida, Bowman, Williams, Bostic and Bullard), but given the consistency of recent comments by others it seems doubtful we will learn anything new. To recap, every FOMC member believes that waiting is the right thing to do now and that they should only respond when the data indicates there is a change, either rising inflation or a significant slowing in the economy. Although the market continues to price rate cuts before the end of the year, as yet, there is no indication that Fed members are close to believing that is necessary.

Ultimately, the same key stories are at the fore in markets. Brexit, as discussed above, slowing global growth and the monetary policy actions being taken to ameliorate that, and the US-China trade talks, which are resuming but have made no new progress. One of the remarkable features of markets lately has been the resilience of equity prices despite a constant drumbeat of bad economic news. Investors have truly placed an enormous amount of faith in central banks (specifically the Fed and ECB) to be able to come to the rescue again and again and again. Thus far, that faith has been rewarded, but keep in mind that the toolkit continues to dwindle, so that level of support is likely to diminish. In the end, I continue to see the dollar as a key beneficiary of the current policy mix, as well as the most likely ones for the near future.

Good luck
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Growth Will Soon Sleep

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The place with less people than sheep
Last night said rates might be too steep
A cut now seems fated
Their dollar deflated
As Kiwis fear growth soon will sleep

You can tell it’s a dull day in the FX markets when the most interesting thing that happened was the RBNZ turned dovish in their policy statement, indicating the next interest rate move in New Zealand would be lower. This was a decided change of pace, but also cannot be too great a surprise since their larger neighbor, Australia, pivoted the same way just two weeks ago. The upshot is NZD fell sharply, down 1.4% in the wake of the statement. While I understand that given the diminutive size of the New Zealand economy, any exposures there are likely to be quite small, I think this simply reinforces the story about slowing global growth. In the same vein, we heard a similar story from Bank Negara Malaysia as they lowered their growth and inflation forecasts and hinted that they will cut rates if they see things slowing too rapidly. While the impact on MYR was less impressive, just -0.25%, it is of a piece with the overall global economic situation. That story remains one of slowing growth with central banks hopeful the slowdown is temporary but prepared to react quickly if it appears longer lasting. As I wrote yesterday, it is virtually impossible for the Fed to be responding to slowing growth without every other major central bank (and many minor ones) reacting in the same manner.

Yesterday actually saw the dollar rally during the US session, with the euro falling about 0.4% in NY hours. That helps explain why this morning it is higher by 0.15% on the session, yet lower than when I wrote yesterday. There has been limited new information on the data front (Italian Business Confidence falling more than expected to 100.8), but there has been a widely reported story about Signor Draghi hinting that the ECB is beginning to recognize that five years of negative interest rates might be having some negative impacts on the Eurozone banking sector. It certainly would have been hard to predict that an economic area that heavily relies on bank lending, rather than capital markets, would feel negative impacts from compression of bank lending margins…NOT! But back when NIRP was taking shape, the apocalyptic fears were so great these issues were simply glossed over as meaningless. And now that Eurozone growth has turned lower, the ECB’s plans to normalize rates have fallen by the wayside. It is quite possible that they, too, have painted themselves into an intractable policy corner. It is yet another reason I remain long-term bearish on the euro.

Finally, this morning’s dose of Brexit shows that the hardline euro skeptics may be coming around to PM May’s deal after all. If you recall, this afternoon there will be a series of votes in Parliament as MP’s try to find a solution, mostly to the Irish border question. However, as I have written frequently in the past, this is a truly intractable issue, one where there is no compromise available, but only capitulation on one side or the other. However, there is a growing call for Brexit to be canceled which has the euro skeptics on edge. This line of thought seems to have been PM May’s when she called for a third vote on her plan, and it may well be falling into place. Of course, the caveat for her is that she may be asked required to step down from her role in order to get it over the line. The two alternatives to her plan are now clearly either a lengthy delay, one giving time for a second vote and a reversal of Brexit, or a no-deal outcome on April 12. Since nobody seems to want the latter, and the hard-liners don’t want the former, they may finally get the votes to approve May’s deal. It is the “least worst option” as so delicately put by Jacob Rees-Mogg, one of the leaders of the euro skeptics. Given the toing and froing over the issue, it should be no surprise that the pound is little changed on the day, still hanging around 1.32 as nobody is prepared to take a position on the outcome. If pressed, I would estimate that a vote for the deal will result in the pound rallying toward 1.38 before running into significant selling, while a no-deal outcome probably sees a quick move toward 1.20. And if the result of today’s Parliamentary votes leads toward a long delay, that is likely the pound’s best friend, perhaps driving the beleaguered currency back above 1.40 for a while.

Away from that, the only other noteworthy feature today has been weakness in some oil related currencies with MXN (-1.0%), RUB (-0.75%), NOK (-0.55%) and CAD (-0.25%) all softer. It appears that after a strong run, oil prices are ebbing back somewhat, and these currencies are feeling the brunt today. Quite frankly, the currency movements seem overdone relative to the oil price decline, but it is the only connector I can find across this group.

On the data front, yesterday’s Housing Starts number was quite weak, just 1.162M (exp 1.213M) as was the Consumer Confidence reading at 124.1. We also heard from several other Fed speakers (Kaplan and Daly) both telling us that patience remains a virtue and that while they had modest concern over the yield curve inversion, it wasn’t a game changer for their current policy models. This morning’s only data point is the Trade Balance (exp -$57.0B) and then we hear from KC Fed President Esther George this evening. I am hard pressed to find a change in market sentiment at this point and so hard pressed to change my views. The equity market continues to rally based on more easy money, but monetary policy around the world continues to turn easier and easier, with the Fed still the least tight of them all. In other words, to me, the dollar still has the best position.

Good luck
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An Own Goal

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So, Parliament’s taken control
Of Brexit, but can they cajole
Frau Merkel and friends
To finally bend
Or have they now scored an own goal

The one truism about the FX markets these days is that nobody has a real clue as to what is going to happen to the pound. Every day there is a different view as to whether or not there is going to be a deal or a hard Brexit, or something else. The latest machinations in the UK have changed the process there somewhat, with Parliament voting to wrest control of the negotiations from PM May’s hands and make decisions directly. The upshot of this is that tomorrow, they will vote on a series of bills that try to outline what the members would like to see in a Brexit outcome. Of course, it strikes me as fanciful that Parliament, in a few days’ time, will be able to come to agreement on something that has been this contentious for more than two years. And while everybody continues to claim there cannot be a hard Brexit, I almost think this new tactic will assure that outcome. The only thing we know for sure is that there is no majority FOR any direction. While there have been clear rejections of the PM’s negotiated deal, nobody has come up with something that the UK wants, and that might be acceptable to the EU. Remember, too, the EU has given just a two-week extension for Parliament to come up with something. In other words, this is all still a huge mess with no clear outcome. The pound, as should be expected, continues to chop back and forth as the flavor of the day indicates either a deal, or a crash. As I type, the pound has rallied slightly, up 0.2%, but it continues to trade within its recent range, and will likely do so until a decision, any decision, is taken.

The other story of note this morning is the news that the French and Chinese have signed some trade deals as Chinese President Xi wraps up his European tour. I admit I am a little confused that France is allowed to ‘negotiate’ directly with a non-EU member on trade deals as I thought that was the whole point of the EU, the same terms for everyone. At any rate, this optimism has bled into the US-China trade discussion which is set to become headline news again with Messrs. Lighthizer and Mnuchin arriving in Beijing today to resume those talks. The last we heard on this subject indicated concerns over whether the Chinese were willing to agree to some key US demands regarding IP protection and the available punishments in the event of a breach of the new rules. But, today, the glass is half full, so markets are rebounding on the idea that a deal is, in fact, near.

Turning back to yesterday’s yield curve story, while 10-year yields in the US have edged higher this morning, they remain below 3-month yields. There have been several articles recently describing why this inversion is not the same as the ones that we have seen in the past. Briefly, past inversions arose because the Fed was raising short-term rates in order to head off rising inflationary pressures that had built up during a recovery. And while in one sense, that is what seems to have happened this time, the missing ingredient has been the actual inflation. The Fed’s rate hikes over the past three years were partly in anticipation of higher inflation based on the declining unemployment rate (the misapplied Phillips Curve). But a key difference this time has been the fact that in the wake of QE, the Fed’s balance sheet is much larger, and by design, longer term rates are much lower than they might otherwise be. If the Fed did not own an extra $2.5 trillion of Treasuries, where would the 10-year yield actually trade? Arguably, far higher than 2.4%. And so, the crux of the argument that this time is different is based on that fact. Without QE, short-term rates would not yet be approaching long-term rates, and so no inversion discussions would be taking place.

The opposing view, however, is that we have continued to see weaker data in the US and throughout the world, which implies that global growth is slowing. So, inverted yield curve or not, a recession may well be coming. It is important to remember that an inverted yield curve does not cause a recession per se, it has simply been a pretty reliable indicator of upcoming recessions based on its history over the past 50 years. And, in truth, the indicator that gets the most press is the 2yr-10yr spread, which as of yet has not inverted, although remains quite close to flat at just 15bps right now.

The reason this discussion matters is it helps drive market views of the Fed’s next steps and therefore the market reactions to those steps. As I have maintained consistently, however, the US is unlikely to head into recession without dragging the rest of the world along for the ride. And correspondingly, if the rest of the world is actually headed toward a recession, the US is certainly going to see slower growth. But as this relates to the dollar’s value, there is no evidence the US is weakening faster than the EU, the UK, China or most of the rest of the world, and so as dovish as the Fed may sound, other central banks will be more dovish still. The dollar should still be the main beneficiary of this situation, especially if it includes a significant equity correction and risk-off scenario.

Turning to this morning’s story, Housing Starts (exp 1.213M), Building Permits (1.3M), Case-Shiller House Prices (4.0%) and Consumer Confidence (132.0) are on the docket as well as three Fed speakers (Harker, Evans and Daly) two of whom have already spoken overseas but whose comments have not been widely circulated yet. Overall, the dollar is slightly softer this morning, but that is after several positive sessions, so in the end, we continue to chop in our trading range waiting for the next key driver. At this point, my money is on Brexit, but you never know.

Good luck
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Disconcerted

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On Friday the yield curve inverted
With policymakers alerted
That risks have increased
And growth may have ceased
Both prospects have them disconcerted

While the weekend machinations over Brexit have certainly been intense, the big story this morning is the mild inversion of the US yield curve that occurred on Friday. For the first time since 2007, 10-year yields fell below 3-month yields, a signal that the market is anticipating rate cuts by the Fed in order to shore up weakening growth. In fact, according to the futures market, there is now a ~60% probability of a Fed rate CUT by the end of the year, with a 20% probability of two rate cuts! Following this train of thought, US equity markets had their worst performance in months on Friday, and overnight, Asian markets sold off sharply. However, early this morning, German Ifo data printed at a better than expected 99.6 level, which has helped stop the European equity decline in its tracks. Nonetheless, there is a decided undercurrent of concern over the future of the global economy, and risk positions are being pared back around the world.

This is being seen most clearly in government bond markets where, for example, both Australian and New Zealand 10-year yields have traded to historic low levels, with both now well below 2.0%. Japanese 10-year yields have fallen to -0.09%, pushing toward the bottom end of the BOJ’s yield curve control levels, and German bunds have also retreated to negative territory, currently trading at a yield of -0.01%. I have to admit that while my forecasts for 2019 included lower yields based on a weakening growth outlook, I did not expect these levels to materialize in Q1, but rather only by the end of the year. This price activity is an indication of two things; first that longstanding positions are being unwound as investors reassess the global growth situation; and second, that markets can move awfully fast.

Other indicators have also shown a decided move toward risk aversion with gold rallying nearly 3% in the past two weeks, while the dollar, despite declining interest rates, has rebounded sharply from its post-FOMC lows. As I have consistently maintained, while the Fed surprised one and all by turning so dovish last week, there is little possibility that the Fed will be dovish while other central banks continue their efforts at policy normalization. Certainly, while the odd smaller country may still be considering tighter monetary policy (Norway, Hungary or the Czech Republic), no major central bank can possibly consider tightening policy amid slowing global growth and a complete lack of inflationary pressure. And as I constantly maintain, FX is a relative game, where policy on both sides must be considered. In the current environment, the US not only has the highest rates, thus the most attractive investment landscape, but also retains its haven status in times of trouble. Dollar bears have a long road to hoe before seeing substantial weakness in the buck.

The PM is under the gun
While MP’s, her deal, still do shun
It’s Parliament’s turn
To try to discern
What people in England want done

Meanwhile, back in Merry Olde England, the Brexit situation has absolutely no more clarity than it did last week, in fact it may have less. While politicians on all sides of the argument claim they do not want a hard Brexit, there has been precious little movement in the direction of a solution. And remember, the law still states that the UK will leave the EU this Friday. Yes, the EU has offered a two-week extension, but that is not yet the law in the UK and must be approved in a bill. But in the end, is two weeks sufficient to change minds when two plus years has not been able to do so?

There are stories that a deal is being worked out where Parliament supports the deal and PM May resigns, although she has no obvious successor at this point. And while there is talk of either a second referendum or canceling Article 50, the first would require a significant delay, one that would go well past the EU elections due in late May, and that is a problem, while the second would require a complete backtracking of what the current government has been promising for the past two plus years, not the type of thing that endears politicians to their constituents. As it stands now, it appears that this week Parliament will debate a series of open bills that will try to build some support for a path forward, but even this idea is fraught as party whips may well seek to prevent MP’s from voting their conscience and try to maintain a party line. In other words, it is still a gigantic mess. The one thing that continues to be a very real risk, whether it is this Friday or April 12, is the reality of a hard Brexit. In my estimation, all markets are underpricing that probability, and there is a very real risk that the pound could fall much lower. Hedgers, while option prices are somewhat rich, I would contend they offer a great deal of value at this time. Please consider them.

So, looking at the FX market this morning, we see the dollar little changed overall, but some of the key currencies weaker, notably the euro (-0.2% and the pound (-0.3%). Earlier in the session, but were weaker still, but the release of the German Ifo data helped them as well as European equities.

As to data this week, there is a decent amount coming, as well as a lot of Fedspeak.

Tuesday Housing Starts 1.215M
  Building Permits 1.3M
  Case-Shiller Home Prices 4.0%
  Consumer Confidence 132.0
Wednesday Trade Balance -$57.0B
  Current Account -$130B
Thursday Initial Claims 225K
  Q4 GDP 1.8% (last est 2.6%)
Friday Personal Income 0.3%
  Personal Spending 0.3%
  PCE 0.0% (1.4% Y/Y)
  Core PCE 0.2% (1.9% Y/Y)
  Chicago PMI 61.0
  Michigan Sentiment 97.8
  New Home Sales 620K

On top of all this, we hear from ten different Fed speakers, several of them speaking more than once. This started last night when Chicago Fed President Charles Evans was speaking at an event in HK and said that policy is in a good place and the Fed is watching the data carefully. In other words, if further weakness shows up, they will definitely consider easing, while if the current malaise is short-lived, and growth rebounds, look for talk of another rate hike. At this time, it is abundantly clear that the market is turning quite pessimistic, pricing in rate cuts. But it does appear the Fed is not predisposed in either direction for now.

In the end, the global growth story remains the biggest question out there, and as that develops, so will go the dollar, and all markets with it.

Good luck
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Rapidly Falling

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Magnanimous is the EU
Extending the deadline for two
Weeks so that May
Might still get her way
And England can bid them adieu

But data this morning displayed
That Eurozone growth, as surveyed
Was rapidly falling
While Mario’s stalling
And hopes for a rebound now fade

On a day where it appeared the biggest story would be the short delay granted by the EU for the UK to try to make up their collective mind on Brexit, some data intruded and changed the tone of the market. No one can complain things are dull, that’s for sure!

Eurozone PMI data was released this morning, or actually the Flash version which comes a bit sooner, and the results were, in a word, awful.

German Manufacturing PMI 44.7
German Composite PMI 51.5
French Manufacturing PMI 49.8
French Composite PMI 48.7
Eurozone Manufacturing PMI 47.6
Eurozone Composite PMI 51.3

You may have noticed that manufacturing throughout the Eurozone is below that key 50.0 level signaling contraction. All the data was worse than expected and the German Manufacturing number was the worst since 2012 in the midst of the Eurobond crisis. It can be no surprise that the ECB eased policy last week, and perhaps is only surprising that they didn’t do more. And it can be no surprise that the euro has fallen sharply on the release, down 0.6% today, and it has now erased all of this week’s gains completely. As I constantly remind everyone, FX is a relative game. While the Fed clearly surprised on the dovish side, the reality is that other countries all have significant economic concerns and what we have learned in the past two weeks is that virtually every central bank (Norway excepted) is doubling down on further policy ease. It is for this reason that I disagree with the dollar bears. There is simply no other economy that is performing so well that it will draw significant investment flows, and since the US has about the highest yields in the G10 economies, it is a pretty easy equation for investors.

Now to Brexit, where the EU ‘gifted’ the UK a two-week extension in order to allow PM May to have one more chance to get her widely loathed deal through Parliament. The EU debate was on the amount of time to offer with two weeks seen as a viable start. In any case, they are unwilling to delay beyond May 22 as that is when EU elections begin and if the UK is still in the EU, but doesn’t participate in the elections, then the European Parliament may not be able to be legally constituted. Of course, the other option is for a more extended delay in order to give the UK a chance to run a new referendum, and this time vote the right way to remain.

And finally, there is one last scenario, revoking Article 50 completely. Article 50 is the actual law that started the Brexit countdown two years ago. However, as ruled by the European Court of Justice in December, the UK can unilaterally revoke this and simply remain in the EU. It seems that yesterday, a petition was filed on Parliament’s website asking to do just that. It has over two million signatures as of this morning, and the interest has been so high it has crashed the servers several times. However, PM May is adamant that she will not allow such a course of action and is now bound and determined to see Brexit through. This impact on the pound is pretty much what one might expect, a very choppy market. Yesterday, as it appeared the UK was closer to a no-deal outcome, the pound fell sharply, -1.65%. But this morning, with the two-week delay now in place and more opportunity for a less disruptive outcome, the pound has rebounded slightly, up 0.3% as I type. Until this saga ends, the pound will remain completely dependent on the Brexit story.

Away from those two stories, not much else is happening. The trade talks continue but don’t seem any closer to fruition, with news continuing to leak out that the Chinese are not happy with the situation. Government bond yields around the world are falling with both German and Japanese 10-year yields back in negative territory, Treasuries down to 2.49%, there lowest level since January 2018, and the same situation throughout the G10. Overall, the dollar has been the big winner throughout the past twenty-four hours, rallying during yesterday’s session and continuing this morning. In fact, risk aversion is starting to become evident as equity markets are under pressure this morning along with commodity prices, while the dollar and yen rally along with those government bond prices. The only US data point this morning is Existing Home Sales (exp 5.1M) which has been trending lower steadily for the past 18 months. There is also a bunch of Canadian data (Inflation and Retail Sales) which may well adjust opinions on the BOC’s trajectory. However, it seems pretty clear that the Bank of Canada, like every other G10 central bank, has finished their tightening cycle with the only question being when they actually start to ease.

A week that began with the market absorbing the EU’s efforts at a dovish surprise is ending with clarification that dovishness is the new black. It is always, and everywhere, the chic way to manage your central bank!

Good luck and good weekend
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Not Yet Inflated

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Said Chairman Jay, we are frustrated
That prices have not yet inflated
So, patient we’ll be
With rates ‘til we see
More growth than now’s anticipated

The market response was confusing
With stocks up, ere taking a bruising
While Treasuries jumped
The dollar was dumped
And gold found more buyers, it, choosing

Close your eyes for a moment and think back to those bygone days of… December 2018. The market was still giddy over the recent Brexit deal agreed between the UK and the EU. At the same time, hopes ran high that the US-China trade war was set to be defused following a steak dinner in Argentina with President’s Trump and Xi hashing out a delay of tariff increases. And of course, the Fed had just raised the Fed Funds rate 25bps to its current level of 2.50% with plans for two or three more hikes in 2019 as the US economy continued to outperform the rest of the world. Since that time, those three stories have completely dominated the dialog in market and economic circles.

Now, here we are three months later and there has been painfully little progress on the first two stories, while the third one has been flipped on its head. I can only say I won’t be unhappy if another major issue arises, as at least it will help change the topic of conversation. But for now, this is what we’ve got.

So, turning to the Fed, yesterday afternoon, to no one’s surprise, the Fed left policy rates on hold. What was surprising, however, was just how dovish Chairman Powell sounded at the press conference, essentially declaring that there will be no more rate hikes in 2019. He harped on the fact that the Fed has been unable to push inflation to their view of stable, at 2.0%, and are concerned that it has been so long since prices were rising at that pace that they may be losing credibility. (I can assure them they are losing credibility, but not because inflation has remained low. Rather, they should consider the fact that they have ceded monetary policy to the stock market’s gyrations and how that has impacted their credibility. And this has been the case ever since the ‘Maestro’ reacted in October 1987!)

So, after reiterating their current patient stance, markets moved as follows: stocks rallied, bonds rallied, and the dollar fell. Dissecting these moves leads to the following thoughts. First stocks: what were they thinking? The Fed’s patience is based on the fact that the US economy is slowing and that the global economy is slowing even more rapidly. Earnings growth has been diminished and leverage is already through the roof (Corporate debt as %age of GDP is at record levels, above 75%, with more than half of the Investment Grade portion rated BBB, one notch from junk!) Valuations remain extremely high and history has shown that long-term returns from periods of high valuations are de minimus. Granted, by the end of the session, they did give back most of those gains, but it is difficult to see the bull case for equities from current levels given the economic and monetary backdrop. I would argue that all the best news is already in the price.

Next bonds, which rallied to the point where 10-year Treasury yields, at 2.51%, are now at their lowest level since January 2018, and back then, Fed Funds were 100bps lower. So now we have a situation where 3mo T-bills are yielding 2.45% and 10-year T-bonds are yielding 6bps more. This is not a market that is anticipating significant economic growth, rather it is beginning to look like one that is anticipating a recession in the next twelve months. (My own view is less optimistic and that we will see one before 2019 ends.) Finally, the dollar got hammered. This makes sense as, at the margin, with the Fed clearly more dovish than the market had expected, perception of policy differentials narrowed with the dollar on the losing side. So, the 0.6% slide in the broad dollar index should be no surprise. However, until I see strong growth percolating elsewhere, I cannot abandon my view the dollar will remain well supported.

Turning to Brexit, the situation seems to be deteriorating in the final days ahead of the required decision. PM May’s latest gambit to get Parliament to back her bill appears to be failing. She has indicated she will request a 3-month delay, until June 30, but the EU has said they want a shorter one, until May 23 when European parliament elections are to be held (they want the UK out so there will be no voting by UK citizens) or a much longer one so that, get this, the UK can have another referendum to reverse the process and end Brexit. It is remarkable to me that there is so much anxiety over foreign interference in local elections on some issues, but that the EU feels it is totally appropriate to tell the UK they should vote again to overturn their first vote. Hypocrisy is the only constant in politics! With all this, May is in Brussels today to ask for the delay, but it already seems like the EU is going to need to meet again next week as the UK Parliament has not formally agreed to anything except leaving next Friday. Suddenly, the prospect of that happening has added some anxiety to the heretofore smug EU leaders.

Meanwhile, the Old Lady meets today, and there is no chance they do anything. In fact, unless the UK calls off Brexit completely, they will not be tightening policy for years. Slowing growth and low inflation are hardly the recipe for tighter monetary policy. The pound has fallen 0.5% this morning as concerns over the Brexit outcome are growing and its value remains entirely dependent on the final verdict.

As to the trade story, mixed signals continue to emanate from the talks, but the good news is the talks are continuing. I remain more skeptical that there will be a satisfactory resolution but thus far, equity markets, at least, seem to believe that a deal will be signed, and all will be right with the world.

Turning away from these three stories, we have heard from several other central banks, with Brazil leaving the Selic rate on hold at 6.50%, a still historic low, with a statement indicating they are comfortable with this rate given the economic situation there. Currently there is an attempt to get a new pension bill through Congress their which if it succeeds should help reduce long-term debt implications and may open the way for further rate cuts, especially since inflation is below their target band of 4.25%-5.25%, and growth is slowing to 2.0% this year. Failure of this bill, though, could well lead to more turmoil and a much weaker BRL.

Norway raised rates 25bps, as widely expected, as they remain one of the few nations where inflation is actually above target following strong growth throughout the economy. Higher oil prices are helping, but the industrial sector is also growing, and unemployment remains quite low, below 4.0%. The Norgesbank indicated there will be more rate hikes to come this year. It should be no surprise that the krone rallied sharply on the news, rising 0.9% vs. the dollar with the prospect for further gains.

Finally, the Swiss National Bank left rates unchanged at -0.75%, but cut its inflation forecast for 2019 to 0.3% and for 2020 to 0.6%. The downgraded view has reinforced that they will be sidelined on the rates front for a very long time (and they already have the lowest policy rates in the world!) and may well see them increase market intervention going forward. This is especially true in the event of a hard Brexit, where their haven status in Europe is likely to draw significant interest, even with a -0.75% deposit rate.

On the data front today, Philly Fed (exp 4.5) and Initial Claims (225K) are all we’ve got. To my mind, the market will continue to focus on central bank policies, which given central banks’ collective inability to drive the type of economic rebound they seek, will likely lead to government bond support and equity market weakness. And the dollar? Maybe a little lower, but not for long.

Good luck
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