Author Archives: fxpoet

Not Harebrained

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While here in the States there’s no chance
That rate cuts, by June, will advance
In England, we learned
They’re growing concerned
The ‘conomy’s still in a trance

So yesterday, Bailey explained
By June, a rate cut’s not hairbrained
But, closer to home
The Frisco Fed gnome
Said cutting rates will be restrained

You can tell that very little continues to happen in the macro world when the key stories that are in the discussion regard secondary players and their commentary.  While it is true that Andrew Bailey is the governor of the Bank of England, the reality is that the UK is just a secondary player on the world stage.  However, after their meeting yesterday, much digital ink has been spilled over the potential for the BOE to cut rates at the June meeting.  Prior to this meeting, it seemed that the BOE was tracking the Fed rather than the ECB, but that idea has now been dispelled.  Governor Bailey indicated that come June, a rate cut “is neither ruled out nor a fait accompli.”  However, he did comment that cuts were likely “over the coming quarters” and the market took him up on the news, with yields sliding and stocks rallying.

A key to the discussion is the fact that the BOE will see two more CPI reports between now and the next meeting on June 20th.  As well, both the ECB and the Fed will have met and potentially acted before they next meet.  As such, despite the fact that the BOE’s own forecasts showed improvement in both GDP and CPI over the next 3 years with current policy, the market is all-in on the cuts for June.  Well, maybe not all-in, but has increased the probability to 50%, up from just under one-third prior to the meeting.  Regarding the pound, if we continue to hear more dovish cooing from the Old Lady, especially given the fact that the Fed is clearly on hold, I expect it could drift back toward 1.20 over time.

Which brings us to the Fed, and an unscheduled appearance by San Francisco Fed president, Mary Daly, yesterday afternoon.  The two key comments she made were as follows: “There’s considerable, now, uncertainty about what the next few months of inflation will be and what we should do in response,” and “It’s far too early to declare that the labor market is fragile or faltering.”  In essence, this is repeating everything that we have heard consistently since the FOMC meeting last week.  I would boil it down to ‘as much as we are desperate to cut rates, neither prices nor the labor market are falling quickly enough to allow us to do so soon.’

Add it all up and you get a picture of a still tight Fed with no indication of a policy ease in the next quarter, at least, while another major central bank elsewhere has opened the doors to cutting rates.  Arguably, this should be a positive for the dollar except for the fact that this has been known, and the basic narrative for a while, so is already in the price.  If these policy divergences maintain for a much longer time, through the end of the year or beyond, then perhaps we will see more aggressive dollar strength.  But for now, I think the FX markets are going to be a dull affair.  The caveat here is if we see US data move away from its current trajectory, either picking up and pushing price pressures higher, or falling more rapidly resulting in a worse employment situation.

One last thing on the prospects for the US economy; there is still a large contingent of analysts who have been parsing the data and looking at secondary indicators and sub-indices of headline data, and who believe that a recession is much closer than the market is currently pricing.  Things like credit card delinquencies and the growing number of bankruptcies, as well as the discrepancy between the establishment and household surveys in the employment data have reached levels consistent with recessions in the past.  While last year I expected that would be the case, at this point, I believe that the ongoing massive fiscal spending (budget deficits >6% of GDP) and the ongoing availability of cheap energy continuing to draw investment into the US will prevent any substantive downturn for the rest of the year, at least.

As to market activity, yesterday’s higher than expected Initial Claims data (231K, highest since October) got the bulls all excited and drove a risk rally in stocks in the US which has been followed all around the globe.  Asian markets saw gains in Japan (+0.4%), Hong Kong (+2.3%) and almost everywhere else in the region except China which was flat on the day.  Meanwhile, European bourses are all green as well, led by the UK (+0.7%) on the back of stronger GDP data as well as the hopes for lower rates in the near future.  But the entire continent is higher as well, mostly on the order of 0.5%.  As to US futures, higher by 0.25% at this hour (7:30).

In the bond market, while Treasury yields drifted lower yesterday after that claims data, this morning they are higher by 1 basis point.  In Europe, though, sovereign yields are slipping 2bps to 3bps as traders and investors get more convinced of rate cuts coming soon.  Overnight, JGB markets did nothing.

In the commodity markets, Wednesday’s declines are a distant memory as we have seen oil (+0.7%) rally again this morning despite modest inventory builds which may be being offset by concerns that Israel is ignoring the recent pressure to stop its Rafah incursion.  However, the precious metals are not ignoring that story with both gold and silver higher by more than 1% this morning and copper rising 2.4%.  The day-to-day vagaries of these markets remain confusing, but the long-term trend, I believe, remains strongly intact, and that is higher prices going forward.

Finally, the dollar is little changed this morning but maintaining its gains from earlier in the week.  Looking across my screen, no currency has moved more than 0.3% in either direction, a clear sign that very little of note is happening.  As I wrote above, absent a major change in policy, I think the dollar is range bound for now.

On the data front, this morning brings only Michigan Sentiment (exp 76) and then a few more Fed speeches from Kashkari, Bowman, Goolsbee and Barr.  Regarding the data, I believe it will need to be a big miss in either direction to get much market reaction.  Regarding the Fedspeak, given the consistency with which every speaker has thus far explained they lack the confidence that 2% is in view, I see very little is likely to be newsworthy.

For today, don’t look for much at all.  For the longer term, the dollar’s future depends on how much longer the Fed maintains its relative tightness, and if that spread widens because either the Fed brings hikes back on the table or other central banks cut more aggressively.  But for now, as we enter the summer, I don’t see much at all.

Good luck and good weekend
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Adrift

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Investors are biding their time
As Fedspeak continues to rhyme
It’s higher for longer
As long as growth’s stronger
Defining today’s paradigm

So, how might the narrative shift?
Are Jay and the Fed just adrift?
Next week’s CPI
If it prints too high
Might well, for the bears, be a gift

As promised on Monday, this week remains quite innocuous in terms of both market information and market movement.  There have been precious few pieces of news that have worked to alter the current situation.  The Fed speakers we have heard, when they discussed monetary policy, seem to be reading from the same text.  It can be boiled down to, the policy rate will remain at current levels until such time that something changes with respect to inflation or employment.  We will not rule out a hike, (despite the fact that Powell apparently did so last week) but are nowhere near ready to cut given the current inflation status.

With this in mind, it should be no surprise that markets remain extremely quiet.  After all, how can one change a view if nothing has changed?  So, the US story is pretty well understood for now and until CPI is released next Wednesday, I see no reason for any major movement in either equities or bonds here, and by extension elsewhere in the world.

Moving on from the US, Ueda-san continues to hint that the BOJ may do something, but last night’s Summary of Opinions from the BOJ (effectively their Minutes) almost implied, if you squint hard enough, that they could do it sometime soonish.  Clearly there is a bit of concern over the yen (-0.35%) which continues to drift back toward the levels seen when they intervened.  However, the very fact that just a week after they were aggressively selling dollars, it has pushed back to 156.00 tells you that absent a policy move, nothing is going to change.

As an aside here, this is quite important for the global economy, and certainly global markets.  Ultimately, Japanese monetary policy has been the driver of a huge amount of global liquidity flowing into asset markets around the world.  My understanding is that Japanese households also have somewhere on the order of $7 trillion in cash available to invest still at home, which historically was never a concern there given the complete absence of inflation in the country.  But now that inflation is rising there, and yields remain so paltry compared to elsewhere in the world, especially the US, if even a portion of that starts to flow more rapidly out of Japan, it will have an enormous impact everywhere.  On the flipside, Japan is also the largest international investor around, as a nation, and if the BOJ does allow rates to rise and that capital flows back home, that too would be a dramatic shift in global markets.  Ultimately, this is the reason we all care so much about what the BOJ does…it impacts us all.

The only other thing of note today is the BOE meeting where no change is expected in policy, but all will be searching for clues as to when they will cut rates.  The last vote was 8-1 to remain on hold with the lone holdout seeking a cut.  While expectations are for that to continue today, there is some discussion that a second dove may raise their hand for a cut.  It is widely accepted that cuts are the next move, and the real question is will they be following the ECB and cutting in June or wait until August.  FWIW, I expect a June cut by pretty much all the central banks other than the Fed (and of course the BOJ).  Economic activity is bumping along at effectively stagnation levels elsewhere in the G10 and inflation has been consistently softening everywhere except in the US.  While CPI is still higher than all their targets, central banks are desperate to get back to cutting rates and so will move with alacrity once they get started.

And that’s really all we have today.  Yesterday’s lackluster US session was followed up with a mixed bag in Asian equity markets (Nikkei -0.35%, Hang Seng +1.2%, CSI 300 +0.95%) and we are seeing a similar mixed picture in Europe with gainers (Germany, Switzerland) and laggards (Spain, Italy) while the rest are basically unchanged on the day.  However, at this hour (7:00), US futures are pointing a bit lower, down -0.3% across the board.

In the bond market, yesterday’s 10-year Treasury auction was met with mediocre demand and this morning yields are higher by 2bps.  There continues to be a great deal of discussion as to whether 10-year yields are going to head back above 5.0%, where they briefly touched last October as inflation reignites fears, or whether the oft mooted recession will finally arrive, and yields will tumble as the Fed cuts.  While my take is the former is more likely, at this point, there is no conclusive evidence for either view.  It should be no surprise, however, that European sovereign yields are also higher this morning, on the order of 3bps to 4bps, as they track Treasury yields closely.  Perhaps more surprising is that JGB yields rose 3bps overnight, and are now 0.91%, once again tracking toward their highs seen in October.  Clearly, there is a growing belief that the BOJ is going to do something sooner rather than later, but I will believe it when I see it.  Of course, if they do alter policy, that will change my views on many things.

In the commodity markets, oil (+0.85%) is rising again this morning and just about touching $80/bbl again. While some will say this is being driven by the Israeli incursion into Rafah, my take is this is simply the ebb and flow of a market that is in a trading range.  Since the summer of 2022, WTI has traded between $70/bbl and $90/bbl and I believe we will need to see some major changes in the situation for that to change.  Do not be surprised to see the Biden administration tap the SPR again in the lead up to the election in an effort to depress gasoline prices.  And do not be surprised to see OPEC+ cut production further if they do.  Consider this, though, if Trump is elected, there will be a major reversal in US energy policy and ‘drill baby drill’ will be back in vogue.  I suspect energy prices may decline then.

Turning to the metals markets, after a soft session yesterday, we are seeing a modest rebound led by silver (+1.3%) with gold, copper and aluminum all barely creeping higher by 0.1% or 0.2%.

Finally, the dollar cannot be held back.  As Treasury yields edge higher, the dollar is following and this morning is firmer against most of its counterparts, albeit not dramatically so.  Aside from the yen’s ongoing weakness, the pound (-0.3%) is not responding favorably to the fact that the BOE left rates on hold, and as I suspected, hinted at cuts to come with the vote coming out 7-2 as I proposed above.  Otherwise, most movement is extremely modest with one outlier, ZAR (+0.3%) rallying on the back of the metals rebound.

On the data front, this morning we see Initial (exp 210K) and Continuing (1790K) Claims and that is all she wrote.  We don’t even have any Fed speakers today, so it is shaping up as another very quiet session.  The big picture remains the same so until the Fed turns dovish, the dollar should hold its own.

Good luck
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Towards the Stars

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As the yen declines
Pressure on the BOJ
Climbs up towards the stars

 

Intervention in the currency markets has a long and undistinguished history.  At least that is true for nations that have open capital accounts.  In fact, a key reason that countries impose and maintain capital account restrictions is to avoid the situation of having their currency collapse when the locals fear future loss of purchasing power, i.e. inflation is rising. While there have been situations where a central bank has been able to prevent a significant movement in the past, it has almost always been in an effort to prevent too much currency strength, never weakness.  

A great example is Switzerland in January 2015.  As you can see from the chart below of the EURCHF cross, Switzerland was explicitly targeting a level, 1.20, in the cross as the strongest the Swiss franc could trade (lower numbers indicate a stronger CHF).  This was in an effort to support the export sectors of the economy during a period shortly after the Eurozone crisis when Europeans were quite keen to convert their funds to Swiss francs as a more effective store of value.  

Source: tradingeconommics.com

The upshot was that the Swiss National Bank wound up effectively printing and selling hundreds of billions of francs, receiving dollars and euros and then investing those proceeds into the US stock market.  At one point, they were the largest shareholder in Apple!  But even in this case, where you would expect a nation could prevent their currency from rising too far or too fast, the process overwhelmed the SNB and one day in January 2015 they simply said, enough.  That 25% appreciation in the franc took about 15 minutes to accomplish and as evidenced by today’s exchange rate of 0.9768, it has never been unwound.

And that’s what happened to a central bank that is trying to prevent its own currency from strengthening.  For central banks to prevent weakness is an entirely different story and a MUCH harder task.  As I have repeatedly explained, the only way to change the trajectory of a currency is to alter monetary policy.  At this time, given the Fed’s commitment to higher for even longer, the only way Japan can prevent more substantial yen weakness is for the BOJ to tighten policy even further.  This is made evident in the below chart of the price action in USDJPY for the past month.  In it, you can see when it spiked above 160 on April 28th, and the subsequent intervention that day and then two days later.  

Source: tradingeconomics.com

However, in both cases, despite spending upwards of $60 billion intervening, the yen immediately resumed its downtrend (dollar uptrend) and this morning it is back above 155.  It is this price action that appears to have finally awoken Ueda-san as last night, in an appearance at the Japanese parliament, he explained the following, “Foreign exchange rates make a significant impact on the economy and inflation.  Depending on those moves, a monetary policy response might be needed.”  Ya think!  Ueda-san was followed in parliament by FinMin Suzuki who repeated something he said last week, “Since Japan relies on overseas markets for food and energy, and a large portion of its transactions are denominated in dollars, a weaker yen could raise prices of imported goods.”  While those comments are self-evident, the fact that he needed to repeat them is indicative of the idea that Japan is getting increasingly uncomfortable with the current yen exchange rate.

So, will Ueda-san raise rates at the next meeting in June?  Will he alter their QQE policy and explicitly explain they will no longer be buying JGBs?  Certainly, the market is on edge right now given the two bouts of intervention from last week, but not so on edge that it isn’t continuing to sell the currency and capture the carry.  At this point, you cannot rule out a third wave of intervention, and certainly we should expect more jawboning.  But in the end, if they are serious about the yen being too weak, Ueda-san will have to move.  At this point, I am not convinced, but the meeting is on June 14th, so there is plenty of time for things to become clearer.

And other than that, quite frankly, not much is going on.  So, let’s take a tour of markets to see how things stand this morning.

Yesterday’s equity markets in the US were tantamount to being unchanged across the board, at least that is true of the major indices.  There were certainly individual equities that moved.  In Asia, it was a mixed picture with both Japanese (Nikkei -1.6%) and Chinese (CSI 300 -0.8%) shares in the red, which dragged down HK shares.  But elsewhere in the region, we saw more gains than losses, albeit none of the movement was that large overall.  Meanwhile, in Europe, all the markets are looking robust this morning with gains ranging from 0.5% (DAX, FTSE 100) to 1.0% (CAC) and everywhere in between.  The Swedish Riksbank cut rates by 25bps, as anticipated this morning, and perhaps that has encouraged investors to believe the ECB is going to embark on a more significant easing campaign starting next month.  Certainly, the limited data we saw this morning, (German IP -0.4%, Spanish IP -1.2%, Italian Retail Sales 0.0%) are not indicative of an economy that is growing strongly.  Finally, US futures are just a touch lower, -0.2%, at this hour (7:15).

Despite the weakness in Eurozone data, and the absence of US data, yields are rebounding a bit this morning with Treasuries higher by 3bps and the entire European sovereign spectrum seeing yields rise by 3bps to 4bps.  It seems unlikely that the weak Eurozone data is the driver and I suspect that this movement is more a trading reaction based on the recent decline in yields.  After all, just one week ago, yields were more than 20 basis points higher, so a little rebound can be no surprise.

In the commodity markets, oil (-1.1%) is under pressure as rising inventories outweigh ongoing concerns over Israel’s Rafah initiative.  While the EIA data is generally considered the most important, yesterday’s API data showed a build of more than 500K barrels vs. expectations of a 1.4M barrel draw.  At the end of the day, this is still a supply/demand driven price, and if supply is more ample, prices will fall.  In the metals markets, precious metals continue to trade choppily around recent levels, but we are starting to see some weakness in the industrial space with both copper (-1.25%) and aluminum (-1.6%) under pressure this morning.  Certainly, if economic activity is starting to wane, these metals are likely to suffer.

Finally, in the FX markets, the dollar is continuing to rebound from its recent selloff, gaining against virtually all its counterparts, both EMG and G10.  SEK (-0.5%) is the biggest mover in the G10 after the rate cut, but JPY (-0.45%) is not far behind.  We are also seeing weakness in AUD (-0.4%) on the back of those metal declines.  As to the EMG bloc, ZAR (-0.7%) is the laggard there, also on the metals weakness, but we saw KRW (-0.5%) suffer overnight as well amidst the general dollar strength.

Once again, there is no US data on the calendar although we hear from three more Fed speakers, Boston’s Collins as well as governor’s Cook and Jefferson.  Yesterday, Mr Kashkari did not give us any new information, indicating that higher for longer still makes the most sense and even questioning the level of the neutral rate, implying it may be higher than previously thought.  But there have been no cracks in the current story that the Fed is not going to alter policy soon.

While day-to-day movements remain subject to many vagaries, the reality is that the trend in the dollar has been higher all year and as long as monetary policies around the world remain as currently priced, with the Fed the most hawkish of all, the dollar should grind higher over time.

Good luck

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Dull as Can Be

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While last week a great deal was learned
‘Bout how much the Fed is concerned
That prices won’t fall
Chair Powell’s clear call
Was higher for longer’s returned

And next week, we’ll see CPI
A critical piece of the pie
Is ‘flation still hot?
And if it is not
Will traders, more equities, buy?

But this week is dull as can be
With virtually nothing to see
No data of note
And no anecdote
About which the masses agree

There is precious little to discuss this morning.  The market is still generally in a good mood for risk assets on the back of the combination of the perceived Powell dovishness and the softer than expected NFP data which adds to the opinion that monetary policy going forward will loosen further.  And this week offers virtually no data at all, just the weekly Claims data and then Michigan Confidence on Friday.

Granted, we will hear from several Fed speakers, a process which got started yesterday when Richmond Fed president Barkin explained that, while hopeful inflation declines, he continues to believe that the current policy stance is “sufficiently restrictive.”  Meanwhile, NY Fed president Williams assured us that, eventually there will be rate cuts, that GDP would remain solid and that the Fed is looking at the “totality” of the economic data.  Given how frequently Chairman Powell used that word, totality, I have the feeling that at the end of the FOMC meeting last Wednesday, Powell reminded every speaker to use that phrase in their speeches.  I only say that because I would contend it is not a word used regularly by the population, even when it might be appropriate.

But did we actually learn anything new from these two?  I would argue we have not, nor is it likely that any of the other speakers lined up this week, starting with Kashkari today and followed by Governors Jefferson and Cook tomorrow, SF President Daly on Thursday and Governors Bowman and Barr along with Chicago president Goolsbee on Friday, will tell us anything new at all.

So, where does that leave us?  With no new data and a low probability of new Fed opinions to be revealed, this week has all the earmarks of a complete nothingburger.  Granted we hear from both the Swedish Riskbank (no change expected) and the BOE (no change expected) but given the lack of likely policy adjustment, markets will be trying to discern the subtleties of their comments.  And the one thing we all know extremely well is that markets know absolutely nothing about subtlety.  With this in mind, my expectations are that the current driving force, the underlying bullish thesis based on slowly easing monetary policies around the world, will continue to be the main driver of markets this week.  This is not to say that things are on autopilot, but until we see a new piece of information, range trading with a bias toward higher risk asset prices seems to be the most likely outcome.

This was generally what we saw overnight with most Asian markets performing well led by the Nikkei (+1.6%), catching up after the Golden Week holidays, but other than Hong Kong (-0.5%), the rest of the region was green.  Europe, too, is having a good session, with gains ranging from the CAC (+0.3%) to the FTSE 100 (+1.0%).  However, at this hour (7:20), US futures are essentially flat.

Bond markets are still feeling good about the Fed and weaker employment data with yields continuing to drift lower.  This morning, Treasuries have seen yields decline 3bps, while in Europe, continental sovereigns are seeing similar yield declines.  The big exception is the UK, where gilt yields are down 9bps this morning despite any news of note or commentary by BOE policymakers.  I think there is a growing anticipation that the BOE is going to pivot more dovish on Thursday which is driving this story.  Finally, with Japan back in session, JGB yields also declined 3bps as the yen’s recent strength (albeit not today where it has drifted lower by -0.2%) has allayed some market fears that the BOJ will need to be more aggressive in their policy tightening.

Commodities, which have had a terrific run are under pressure this morning, although given the absence of new information, this has all the hallmarks of a trading correction.  But oil (-0.4%) cannot gain any traction despite the fact that Israel is in the process of their long-awaited incursion into Rafah while ceasefire talks have faltered.  Metals, too, are under pressure across the board, but on the order of -0.4% for all of them.  Given the recent movement, this cannot be surprising (nothing goes up in a straight line) and I expect that we will see directionless price activity for the next several sessions.

Finally, the dollar is ever so slightly firmer this morning, with DXY having bounced off the 105 level and USDJPY starting to rise again with no sign that the MOF is keen to do anything else.  But as I look across the board, the largest movement of any currency, G10 or EMG, has been just 0.3% (both KRW and NOK having fallen that amount) which is really indicative of the doldrums into which this market has fallen.  I will say that there is growing talk that the next big trade is to be long yen (short dollars) with more and more people indicating they see higher Japanese rates coming while the Fed drifts toward eventual rate cuts.  The hard part about this trade is it is extremely expensive to carry for any length of time.  Until the Fed preps the market for cuts, rather than its current higher for even longer stance, I would be wary of the trade.  However, as I explained yesterday, for hedgers, this is exactly when options make the most sense.

And that’s really all there is.  Consumer Credit (exp $15.0B) is released this afternoon at 3:00 and Mr Kashkari speaks at 11:30.  It beggars’ belief that he will say something new and exciting so I anticipate a very dull session across the board today.

Good luck
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Kind of a Mess

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The narrative which had been forming
Was prices were constantly warming
While job growth was strong
The bears were all wrong
And buyers of stocks were now swarming
 
But Friday the data was less
Impressive, and kind of a mess
At first, NFP
Was weak, all agree
Then ISM caused more distress

 

It is remarkable how quickly a narrative can change, that’s all I can say!  One week ago, the story was all about how the economy continued to perform well overall, that inflation remained sticky at levels higher than targeted and that the Fed would stick with higher for longer with a chance of a rate hike on the table.  This morning, in the wake of a clearly dovish Powell press conference and softer than expected ISM and employment data, the narrative appears to be coalescing around the idea that cuts are back on the table while a recession can no longer be ruled out.

The table below, courtesy of the Chicago Mercantile Exchange, shows the current probabilities for Fed funds based on futures pricing for the December 2024 contract as well as how they have evolved over the past week and month.

Source: CME

When calculating how much is priced into the market, one simply multiplies the size of the cut by its stated probability and voila, the answer appears.  To save you the trouble of doing the math, the current market pricing shows that as of this morning, the market is pricing in 47.6bps of cuts by year-end, so essentially two cuts.  One week ago, that number was 34.8bps while one month ago it was 65.7bps.  in other words, we have seen a bit of movement in this sentiment indicator.  And really, that’s exactly what this is, a measure of the market’s sentiment and expectations of how Fed funds are going to evolve over time.  

What should we make of this information?  Well, anecdotally, for the past several weeks I have not been reading about recession at all.  The no-landing scenario seemed to be the favorite as the soft-landing idea ebbed amid too high inflation readings.  But this morning, in concert with the Fed funds futures market, I have seen several stories discussing that a recession is on the horizon now and coming into view.  The ISM data was clearly a problem as both the Manufacturing (49.2) and Services (49.4) numbers slipped below the 50.0 boom/bust line while the Chicago PMI release was abysmal at 37.9.  Even worse, the Prices paid data for both Manufacturing (60.9) and Services (59.2) rose sharply, exactly what Chair Powell did not want to see.  In fact, this data rhymes with the Q1 GDP data which showed the mix of activity was turning toward less growth (1.6%) and more inflation (3.7%) for a given amount of activity.

Now, Powell was very clear that he saw neither the ‘stag’ nor the ‘flation’ sides of the idea that the US was slipping into stagflation, and certainly compared to the situation in the 1970’s, we are nowhere near that type of situation.  But there is a bit of whistling past the graveyard here, I believe, as slowing real growth and rising prices are not the combination that any central bank wants to have to fight.  When Mr Volcker took over the role as Fed Chair in 1979, he pretty quickly decided that it was more important to fight inflation first, and deal with any recession later, hence the double-dip recessions of 1980 and 1982.  But that set the stage for structurally lower interest rates for two generations.

Based on Powell’s press conference comments as well as the tone of many of the mainstream media stories that are currently in print regarding the economic situation, it appears to this poet as though Mr Powell may be far more willing to allow inflation to run hotter than target for longer as he tries to prevent a sharp recession, especially ahead of the presidential election.  With rate hikes no longer an option, any semblance of higher inflation will be met with words alone, and that will not do the trick.  I have maintained for a long time that if the Fed eased policy before inflation was squashed, it would be bad for bonds, bad for the dollar and good for commodities and stocks.  I am now coming to believe that we are entering this environment, and that while the initial move in bonds may be higher (lower yields) as it becomes clear that inflation remains with us, bond investors will quickly decide that the risk/reward in an inflationary environment is quite poor, and we will see the back end of the curve sell off.

After those cheery thoughts for a Monday morning, let’s look at how markets have behaved overnight.  Friday’s rip-roaring rally in the US was mostly followed by strength throughout Asia where markets were open (Japan and South Korea were closed) with China, Hong Kong, Australia, and Taiwan all having good sessions, up between 0.75% and 1.25%.  It should also be no surprise that European bourses are all in the green this morning as rate pressures eased and adding to the happiness were PMI Services reports that were generally on target or slightly better than the flash numbers.  In other words, all is right with the world!  Finally, US futures are also firmer by a bit this morning, up 0.2% or so with the main talk still about Apple’s massive stock repurchase program as well as the Berkshire Hathaway AGM this past weekend.

Of course, bonds were the big mover on Friday, with yields plummeting in the wake of the softer than expected NFP data, where not only were claims lower, but so was earnings data and the Unemployment Rate ticked up to 3.9%.  The initial move was a 9bp decline in the 10yr and and 10bps in the 2yr although by Friday’s close, both markets had retraced half of those declines.  This morning, though, yields are sliding again with 10yr Treasuries down 3bps and all European sovereigns following suit, falling 4bps.  (As an aside, on Friday, the European yields followed Treasuries tick for tick.). With Japan closed, there was no JGB movement overnight.

In the commodity markets, crude oil (+1.0%) is bouncing today from yet another weak performance on Friday as the weaker economic data is weighing on the demand story there.  However, regarding geopolitics and the middle east, this morning’s headlines regarding Israel telling Palestinians to leave Rafah has the market on edge.  But metals markets are back on fire this morning with both precious (Au +0.7%, Ag +2.1%) and industrial (Cu +2.0%, Al +1.1%) rallying on the lower interest rate, higher inflation story that is percolating through markets.

Finally, the dollar, too, is under pressure this morning continuing its trend from last week, although it is not collapsing by any stretch with the DXY still trading just above 105.00.  There is a great deal of discussion as to whether the BOJ/MOF have been successful in their efforts to stem the yen’s decline permanently.  It is clear that their two bouts of intervention (neither officially admitted) has done a good job in the short run.  The story here, though, is all about interest rates.  If, and this is a big if, the Fed is truly turning their sights on cutting rates with any help at all from inflation showing signs of ebbing again, then the higher dollar thesis is going to run into real trouble.  I have made no bones about the idea that the dollar’s strength was entirely reliant on the fact that the Fed was the most hawkish of all the main central banks.  If that is no longer the case, then the dollar is going to come under universal pressure and the yen probably has the most to recover.

**This is really critical for JPY asset and receivables hedgers.  There is no better time to consider using purchased options or zero premium collars than right now.  If the recent movement is a head fake, and the inflation story in the US grows such that the Fed puts hikes back on the table, then you will have put hedges in place.  But…if this is the beginning of a truly new narrative, where US rates are going to decline, USDJPY can fall a very long way in a very short time.  Look at the 5-year chart of USDJPY below.  It was in 2022 when USDJPY was trading at 115 and that had been the level for several years.  we can go back there in a hurry, believe me!**

Source: tradingeconomics.com

As to the rest of the currencies out there, you will not be surprised that ZAR (+0.5%) is top of the heap this morning although a thought must be given to CLP’s 2.25% gain on Friday (market not open yet) as it rallied alongside copper’s rally.  Ironically, the one currency that is under pressure this morning is JPY (-0.5%), but remember, it has risen 4% from the levels when the BOJ first intervened, so a little bounce is no surprise.

Turning to the data this week, it is an incredibly light week, with CPI not coming until next week.

TuesdayConsumer Credit$15B
ThursdayInitial Claims212K
 Continuing Claims1895K
FridayMichigan Sentiment77.0
Source: tradingeconomics.com

As well, we have eight Fed speakers including NY president Williams and vice-Chair Jefferson.  It will be very interesting to hear how they play the apparent pivot.  While I expect that the governors are all on board, the regional presidents will have more leeway to speak their mind I believe.

And that’s what we have for today.  I believe that things have changed and that the Fed is now very clearly far more willing to allow inflation to run hotter.  Be very wary of your bond positions and watch for the dollar to remain under pressure until something else changes.

Good luck

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At Long Last

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With Jay and the Fed finally passed
All eyes are on jobs, at long last
These readings of late
Have all had the trait
Of rising more than the forecast
 
But now that Chair Powell has said
No rate hikes are likely ahead
If NFP’s hot
While stocks will be bought
Will bond markets trade in the red?

 

As we are another day removed from the FOMC meeting, perhaps we can get a better sense of what investors believe the future will bring.  But the clear dovishness that Powell expressed, while a positive for markets yesterday, will force many to rethink the Fed’s reaction function to data going forward.  And there is no single piece of data that garners more reaction than the payroll report.  So, let’s start with a look at current median expectations:

Nonfarm Payrolls243K
Private Payrolls190K
Manufacturing Payrolls5K
Unemployment Rate3.8%
Average Hourly Earnings0.3% (4.0% Y/Y)
Average Weekly Hours34.4
Participation Rate62.7%
ISM Services52.0

Source: tradingeconomics.com

Nine of the past twelve months have resulted in headline numbers higher than the forecast and the recent trend remains for substantial growth.  Certainly, there has been limited indication based on this data, that the job market is under significant negative pressure.  Clearly, that is one of the keys for the Fed’s maintenance of their higher for longer stance as both inflation and the job market remain hot. 

But now that Powell has taken a rate hike off the table, or at least raised the bar dramatically, how will markets respond to a hot number?  In the past, another big beat would likely have seen the bond market sell off quickly and equities suffer on the thesis that not only was no rate relief going to be coming anytime soon, but that higher rates could be in the cards.  However, most investors appear to have made their peace with the current interest rate framework and if they are no longer concerned about even higher funding costs, a hot number may simply be seen as an indication that profitability is going to continue to improve, and stocks are a raging buy.  At the same time, while the long end of the yield curve is likely to suffer somewhat on a big beat, the front end is now anchored by Powell’s comments.  In essence, we could easily see the yield curve bear steepen as inflation concerns grow and bond investors reduce duration risk while the front end of the curve remains relatively static.

Of course, despite the recent past, this morning’s data could be soft with a much lower print.  In that case, given Powell’s clear dovish bias, I suspect the bond market would rally sharply, as it would really change the calculus on the timing of that first rate cut, and stocks would be flying along with commodities.  In fact, the only loser in this scenario would be the dollar.

As it currently stands, the Fed funds futures market is now pricing just a 14% probability of a cut in June and still about 40bps of cuts total for the rest of the year.  On a timing basis, September is now the estimated first chance for a cut.  But a soft number, anything below 200K I think, is very likely to see that June probability jump substantially.  In fact, it would not surprise me if that type of print resulted in a one-third probability of a June cut by the end of the session.  Many people really want to see the Fed cut, and so they will push on any chance to drive the narrative.

To complete the discussion on the US session, we also see the ISM Services data at 10:00 and included with that will be the prices paid data.  That has been an important data point for many analysts when trying to determine the future course of inflation.  As can be seen from the chart below, unlike many other inflation readings, this one has the look of a still intact downtrend.

Source: tradingeconomics.com

And finally, we hear from our first Fed speakers post Wednesday’s meeting, with Goolsbee, Williams and Cook all on the calendar.  As always, it is a mug’s game to try to guesstimate what this morning’s data is going to be like numerically, but based on the recent overall trend in data, I have a feeling that we are going to continue with strong results, and a continued risk rally.

A quick peak at the overnight session shows that while Japan and China remain closed, there was more green than red in Asia with the Hang Seng (+1.5%) leading the way higher, but gains, too, in Taiwan, Australia, New Zealand and Indonesia.  Alas, both South Korea and India were under pressure, so not as universal a positive as might be hoped.  In Europe, though, it is unanimous with every market higher, mostly by about 0.5%, clearly following yesterday’s US outcome as there was virtually no data or commentary to note there other than the Norgesbank leaving their base rate on hold as expected.  As to US futures this morning, they are higher on the strength of Apple’s positive earnings report, and perhaps more importantly its newest buyback plan of $110 billion this year!

In the bond market, after rates declined yesterday despite data indicating higher prices (Unit Labor Costs +4.7%) along with weaker activity (Productivity 0.3%), it is clear that investors are simply paying attention to the Chairman’s messaging.  So, yields fell across the board yesterday, with 2yr yields sliding 8bps while 10yrs fell only 5bps.  That is the exact response you would expect given the end of any thoughts of a rate hike.  European bond yields fell yesterday as well on the order of 4bps and this morning, everything, Treasuries and European sovereigns, are all seeing yields lower by one more basis point.

In the commodity markets, oil (+0.3%) is edging higher today after a pretty flat day yesterday, although remains more than 5% lower than when the week began.  It appears that we have seen substantial position reductions here, but they seem to be finished for now.  However, the surprising inventory builds of the past few weeks are likely to keep a lid on the price.  Metals markets, too, were benign yesterday although this morning, copper (+1.2%) is showing some life.  My take is the investment community here is waiting to get a better sense of the pace of interest rate adjustments (aka cuts) since that is what everybody is assuming.  As well, metals prices have rocketed higher over the past several months, so this corrective price action can be no surprise.

Finally, the dollar is a touch softer this morning, arguably on the back of the recent decline in yields.  The outlier here continues to be the yen, which is consolidating near 153 now, well below the initial levels seen on Monday that inspired the first wave of intervention.  Remember, Japanese markets are closed, so liquidity there is suspect but more importantly, as the narrative adjusts to the idea that US rates will not be rising from here, that reduces substantial pressure on the yen.  One other noteworthy mover yesterday was BRL, which rallied 1.5% on the back of an improved economic outlook helping to allay concerns of rate cuts coming soon.  Away from those two, though, the overnight session has seen generally modest USD weakness pretty much across the board.

And that’s really all we have for today.  As I said before, I expect the data will be above the median forecast based on the fact that has been its recent trend as well as the other solid data we have seen. 

Good luck and good weekend

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Tortured

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Intervention is
The last bastion of tortured
Finance ministers

 

Apparently, Japanese FinMin Suzuki did not want the spotlight to remain on Chairman Powell and the Fed so last night, in what was surprising timing given the absence of additional jawboning ahead of the move, it appears there was a second round of intervention orchestrated by the MOF and executed by the BOJ.  Looking at the chart below, courtesy of tradingeconomics.com, it is pretty clear as to the activity and timing, although as is often the case, 50% of the move has already been retraced.

According to Bloomberg’s calculations, they spent an additional ¥3.5 (~$22B) in the effort, so smaller than last time, but still a pretty decent amount of cash.  As of yet, there has been no affirmation by the MOF that they did intervene, although the price chart alone is strong evidence of the action.  Will it matter?  In the long run, not at all.  The only thing that will change the ultimate trajectory of the yen’s exchange rate is a policy change and based on last week’s BOJ meeting, there is no evidence a monetary policy change is in the offing.  Therefore, we need to see a US policy change and based on yesterday’s FOMC meeting and the following press conference, that doesn’t seem to be coming anytime soon either.  To my eye, the yen will continue to weaken until something changes.  This could take a few more years and USDJPY could wind up a lot higher than 160.

Said Jay, it is, frankly, absurd
A rate hike will soon be preferred
But neither will we
Soon cut, we agree
While ‘flation’s decline is deferred

To me, the encapsulation of the entire FOMC statement and Powell press conference can be summed up in the following two quotes from the Chairman while answering questions.  “I think it’s unlikely that the next policy rate move will be a hike,” and “inflation has shown a lack of further progress… and gaining confidence to cut will take longer than thought.”  In other words, we are not likely to change policy anytime soon absent a complete black swan event.

Since the press conference ended, there has been an enormous amount of speculation regarding what message Powell was trying to send.  I would argue the consensus is that he wants to cut but the data is just not in a place that would allow the Fed to go down that path without destroying what’s left of their credibility.  To me, the question is, why is he so anxious to cut rates?  Arguably, an unbiased Fed chair would simply ‘want’ to follow whatever is the appropriate course to achieve the mandate.  

One of the popular views is that there is substantial pressure from the White House to cut as the Biden administration believes lower rates will help Biden’s reelection bid, however Powell, when asked about the political issue, was explicit in rejecting that hypothesis and claiming that politics is never even part of the conversation, let alone the decision.  I accept that at face value, although certainly all 17 members of the FOMC have political biases that drive their actions.  But here is a take I have not heard elsewhere.  Perhaps Powell is keen to cut because it will help the private equity sphere, the place where he not only made his fortune, but where he also maintains a large social circle and he simply wants to help his friends.  There is no doubt that lower rates help the PE space!  Regardless of why, I have to agree that it appears he is leaning in that direction.

There was one other thing that was a minor surprise and that had to do with the balance sheet program.  As expected, the Fed explained they would be reducing the pace of QT starting in June, but they would be doing so by more than anticipated, slowing the runoff to $25 billion/month of Treasuries before reinvesting, down from the current level of $60 billion/month.  For MBS, the runoff remains at $35 billion/month, although if that number is exceeded, they would replace the MBS with Treasuries so allow the MBS portion of the portfolio (currently $2.38 trillion) to slowly disappear.  The operative word here, though, is slowly, as they have not come close to seeing that $35 billion since the program started.  After all, nobody is refinancing their mortgage with current rates thus reducing the churn in that part of the portfolio.  At any rate, that was very mildly dovish, I believe.

The market response to the entire show was quite positive with equity investors taking the dovish message to heart and equities and bonds both rallied in the immediate wake of the meeting, although the equity markets sold off on the close and wound up slightly lower for the session.  Not so bonds, where yields fell and continue at those levels, down about 5bps on the day.

So how have things fared overnight since the Fed?  Well, the Hang Seng (+2.5%) was the big winner as investors there took Powell’s dovishness to heart and that combined with confirmation that the Chinese Plenary meeting would be occurring in July, thus a chance for more stimulus to come, got investors excited.  However, the mainland was closed.  Japanese shares were basically unchanged after the intervention and the story throughout the rest of the region was mixed with some gainers (Australia, India) and some laggards (South Korea, Indonesia).  

In Europe, it is also a mixed picture as investors respond to the PMI data releases, which were also a mixed bag.  For instance, Spain saw a jump in PMI and the IBEX is firmer by 0.3% while France saw a 1-point decline in the index and the CAC is down by -0.7%.  Looking at the overall mix of data, it appears that European economic activity is bumping along the bottom, although not yet clearly turning higher.  Arguably that is a big reason the ECB has penciled in that June rate cut.  Finally, US futures are pointing higher at this hour (7:00) between 0.5% and 1.0%, so quite solidly so.

In the bond market, the doves are still in charge as Treasury yields have drifted lower by another 2bps and are back to 4.60%.  but in Europe, the story is even better with yields down between 4bps and 7bps as the modest growth outturn added to oil’s recent price declines has investors gaining confidence that inflation there, at least, is truly on its way back to target.  As to JGB’s, a 1bp rise overnight has yields back to 0.90%, obviously much closer to the previous limit at 1.0%, but still not moving there rapidly.

Going back to oil prices, while they have bounced 0.5% this morning, they are down more than 5.2% in the past week as rising inventories and growing hopes of a ceasefire in Gaza have been enough to get the CTAs and hedge funds to close their positions.  In something of a surprise to me based on the ostensible dovish tone of the Fed, metals markets are back under pressure after yesterday’s bounce so all of them, both precious and industrial, are lower by about -1.0% this morning.

Finally, the dollar, aside from the yen, is edging higher this morning, although edging is the key term here.  Against most majors it is firmer by just a bit, 0.15% or so, although in the G10 there are two outliers, CHF (+0.45%) which rallied after their CPI release this morning was much hotter than expected at 0.3% M/M indicating the SNB may be holding off on its next rate cut, and NOK (-0.6%) which is continuing to suffer from the oil decline in the past week.  It should also be no surprise that ZAR (-0.5%) is under pressure given the metals movement.  But elsewhere, things are far less interesting with modest dollar gains the rule today.  This seems at odds with the ostensible dovish Fed tone, but there you have it.

On the data front, we see Initial (exp 212K) and Continuing (1800K) Claims as always on a Thursday, as well as the Trade Balance (-$69.1B) and then Nonfarm Productivity (0.8%) and Unit Labor Costs (3.3%) all at 8:30 with Factory Orders (1.6%) coming at 10:00.  As of now, there are no Fed speakers on the docket, but I would not be surprised to see an interview pop up.  The Fed will be closely watching the productivity data as that is an important part of the macro equation regarding sustainable growth and inflation.  Certainly, the expectations do not bode well for a dovish stance.

Explain to me that policy has changed, and I will accept that it is time to change my view.  However, at this point, the dollar still gets the benefit of the doubt.

Good luck

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Wages on Fire

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The ECI data’s designed
To help understand what’s enshrined
In hiring workers,
Including the shirkers,
With numbers quite nicely streamlined
 
The problem for Jay and the Fed
Is yesterday’s data brought dread
It rocketed higher
With wages on fire
And showing that rate cuts are dead

It’s funny the way things work.  Historically, the number of people who paid attention to the Employment Cost Index (ECI), even in financial markets, could be counted on your fingers and toes.  It was just not a meaningful datapoint in the scheme of the macro conversation.  And yet, here we are in extraordinary times and suddenly it is a market mover!  I have updated yesterday’s 10-year graph with the most recent print of 1.2% and it is now very evident that wage pressures are not dissipating at all.  Rather, they seem to be accelerating and that is not going to help Jay achieve the 2.0% inflation goal.

Source: tradingeconomics.com

But in fairness, it wasn’t just the ECI.  Yesterday’s data releases were lousy across the board.  Case-Shiller Home prices rose more than expected, by 7.3% Y/Y.  Chicago PMI fell sharply to 37.9, far below expectations and I guess we cannot be surprised that, given all that, Consumer Confidence fell to 97.0, its lowest reading since immediately after the pandemic.  The upshot is rising prices and weakening growth, back to fears of stagflation.  With that as backdrop, the fact that risk assets got slaughtered across the board yesterday seems par for the course. 

And that is the setup for Jay and his merry band at the FOMC today.  At this point, much ink has already been spilled trying to anticipate what the statement will say and how hawkish/dovish Powell will be at the press conference so there is very little I can add that will be new.  I would contend the consensus is that the statement will be more hawkish, likely removing the line about “Inflation has eased over the past year but remains elevated,” or adjusting it.  However, one of the things that has been pointed out lately is that Powell’s press conferences seem to have consistently been more dovish than the statement.  Perhaps that happens again today, but I have to have some faith that Powell is actually trying to achieve the mandates and it is abundantly clear that right now the price side of the mandate is in jeopardy.  As there are no dots or ‘official’ forecasts coming, my take is a slightly more hawkish statement and Powell backing that up later.

I guess the biggest question, especially after yesterday’s data, is how he will respond to questions regarding hiking rates further.  If I were him, I would have that answer prepared to be as nondescript as possible. Because if he opens up that avenue of discussion, we are going to see a much more serious decline in risk assets.

One other thing of note yesterday was a comment by Secretary Yellen which was almost laughable when considering who is making the statement.  Apparently, she is,” concerned about where we’re going with [the] US deficit.”  Seriously?  She is the Treasury Secretary in charge of spending plans and after pitching for ever more money to spend she is now concerned about the budget deficit?  Then, apparently according to Axios, in a speech later today she is set to make a plea for the Fed’s independence!  Again, seriously?  The Fed is ostensibly already independent, yet I’m pretty certain she is bending Powell’s ear daily about what to do, i.e., commingling Treasury and the Fed.  But suddenly she is concerned about its independence?  It is things like this that make it so difficult to take certain players on the stage seriously.  It doesn’t speak well of the current administration’s efforts to fix the problems that exist, many of which they have initiated.

Ok, enough ranting on my part.  As it is May Day, much of Europe and some of Asia was closed last night but let’s recap the session as well as look ahead to the data before the FOMC.  I’m pretty sure you know how poorly the equity markets behaved yesterday with -1.5%- to -2.0% losses in the US.  In Asia, the markets that were open, Japan, Australia and New Zealand followed the same course, falling, albeit not quite as far, more on the order of -0.5% to -1.0%.  in Europe, only the FTSE 100 is trading today, and it is flat on the session while US futures are pointing lower again, down -0.3% or so at this hour (7:00).

In the bond market, after yesterday’s Treasury selloff with yields jumping 8bps across the curve, markets are quiet with Europe on holiday so no change ahead of the NY opening.  The rise in Treasury yields did drag European sovereign yields up as well, just not as far with most higher by 3bps-4bps yesterday and they are closed today.  As to JGB yields, despite all the huffing and puffing in the FX market, they are essentially unchanged so far this week.

But the real fun yesterday was in the commodity markets with significant declines across the board.  Oil prices fell on a combination of higher inventories according to the API as well as hopes of a ceasefire in Gaza helping to settle things down in the middle east.  And they are lower by another -1.5% this morning.  Meanwhile, metals markets, which had been exploding higher across the board until two days ago, had another wipeout yesterday with all the metals falling by 1% or more.  This morning, though, they seem to have found some support with gold (+0.1%) and silver (+0.5%) bouncing slightly while copper (-0.8%) and aluminum (-0.3%) are still under pressure given the weaker economic data.  Of course, underlying all this movement is concerns that interest rates are going to continue higher.

Which brings us to the dollar, which, not surprisingly given the rise in interest rates, rose sharply yesterday and is holding those gains this morning.  On average, I would say the dollar gained 0.5% yesterday and it was broad based, rising against both G10 and EMG currencies as well as against financial and commodity currencies.  For instance, CLP, which is closely linked to copper prices, fell -2.0% yesterday while ZAR was lower by -1.0%.  But the euro (-0.6%) and pound (-0.4%) were also under pressure as traders started to anticipate an even more hawkish Fed today.  I suspect things will be quiet until the FOMC this afternoon despite the data that is due.

Speaking of that data, first thing we get the ADP Employment report (exp 175K) then JOLTS Job Openings (8.69M) and ISM Manufacturing (50.0).  A little later comes the EIA oil inventory data and then, of course, the FOMC statement at 2:00 with the press conference at 2:30.  Since all eyes are focused on that, I would not expect much activity until it is released, and Powell speaks.

Good luck

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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

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‘Voiding a Crisis

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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

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