In China, the hits keep on coming
As Gongsheng adjusts China’s plumbing
Last night he cut rates
As he navigates
A way to help growth there keep humming
 
Combined with the Fed’s latest act
Worldwide it is clearly a fact
Liquidity’s growing
With stock markets showing
Why traders just love the impact

 

As virtually promised the other night, PBOC Governor Pan Gongsheng cut the medium-term lending facility rate to 2.0% from its previous level of 2.3% last night, the largest single cut in the history of this rate’s existence.  Of course, that only takes us back to 2016 when the PBOC rolled out this concept, but nonetheless, it is a clear expression of an aggressive easing policy by the central bank.  In fact, pundits are calling for further rate cuts this year as Xi’s government struggles with rekindling the animal spirits in China.  For equity investors there, this continues to be good news as the CSI 300 rallied another 1.5% and is now within spitting distance of being flat for the year.  As well, the renminbi rallied further, briefly trading through the 7.00 level and currently about 0.35% stronger than yesterday’s close.

Alas for President Xi, while all these measures are likely to have positive short-term impacts on economic statistics, especially the way they report them over there, it is unclear if they will help restart truly organic domestic economic activity.  Ultimately, that is a direct product of the level of confidence people have in their current employment situation as well as their perception of the prospects for better opportunities going forward.  Having the government pay you back for things that were supposed to rise in price forever is welcome, but not sufficient to do the trick, I think.  Clearly the current situation is that Chinese assets are going to perform in the short run, and it is very likely commodity prices will rise as well given the perception that Chinese demand will now increase, but personally, I suspect that the longevity of this price action, at least for the Chinese assets, may be limited.

Commodity prices, on the other hand, are getting boosts from all over the place, notably from the fact that virtually every country on earth, except perhaps Japan, has entered a monetary easing cycle.  Now that the Fed has begun, and gone big to start, other central banks will feel empowered to ease policy further with the confidence that their own currencies will not collapse amid a US rate cutting cycle.  And let’s face it, so far, everything we have heard in the wake of the FOMC move last week is that they are not afraid to cut rates a lot more.

Under the guise, actions speak louder than words, even though Powell explicitly said they had not declared victory over high inflation, listening to the four speakers since the meeting, it actually appears they have done just that.  Now, there is one market that seems to disagree with them, at least so far, and that is the 30-year Treasury bond. As you can see in the chart below, the yield there is now higher by 20bps since the first stories about the Fed cutting 50bps made their way into the press.  Whatever PCE holds in store for us later this week, the combination of commodity price rises and the yield on the long bond offer strong hints that inflation is going to make an inglorious return.

Source: tradingeconomics.com

But for now, be joyful because stock markets are continuing to rally.  This economic cycle is clearly unlike any others given the still subtle ripples from Covid policies and the fact that the housing market remains stuck with so many homeowners locked into their homes due to the exceptionally low mortgage rates they hold.  The result has been two very opposite views of how things are evolving, with one camp still celebrating the fact there has been no appreciable slowdown and all-in on the soft-landing while the other digs under the headlines and finds numerous issues with hiring and debt.  Perhaps next week’s NFP print will bring clarity although I doubt that will be the case.  In the meantime, we need to observe and react as it is all we have.  It is times like these that define why hedging is so important.

Ok, let’s look at the overnight activity.  After yesterday’s modest US rally, aside from China, the picture was far more mixed in Asia with the Nikkei (-0.2%) slipping slightly while the Hang Seng (+0.7%) continued its rally on the back of the China news.  But Singapore, Korea and the Antipodes all suffered although Taiwan (+1.5%) took heart in the Chinese news.  In Europe, the picture is also mixed with both the DAX (-0.4%) and CAC (-0.3%) slipping while the FTSE 100 (+0.4%) is higher despite a complete lack of data.  Well, that’s not completely true as French Consumer Confidence rose to 95, its highest level since February 2022, but apparently that is not so important.  Meanwhile, US futures are essentially unchanged at this hour (7:30).

In the bond market, Treasury yields are leading the way higher with 10-year yields higher by 3bps and pretty much all European sovereign yields higher by either 1bp or 2bps.  Bond investors are very clearly concerned over inflation’s prospects given the wholesale turn to monetary ease seen worldwide.  The outlier here was JGB yields (-1bp) as the market there continues to respond to Ueda-san’s comments from yesterday regarding the lack of urgency to tighten further, especially given the yen’s recent rebound.

In the commodity markets, oil (-1.3%) is fading this morning, perhaps because there has been no further escalation of hostilities in the middle east, they remain at a steady level, or perhaps because we have seen a 9% rally in the past two weeks, so traders are simply taking a rest.  Metals markets, too, are softer this morning, but that is also after a very strong rally and gold (-0.1%) continues to maintain the bulk of its daily new all-time high prints.  But both silver and copper have had very strong weeks as well.  One other thing to note is that NatGas is higher by 13% this week, perhaps an indication that supply concerns are growing.

As to the dollar, after several soft sessions, it is rallying this morning.  Weakness in currencies is broad-based with the pound (-0.4%), Aussie (-0.5%), yen (-1.0%) and Swiss franc (-0.9%) all retracing some of their recent gains.  We are seeing similar price action in the EMG bloc with MXN (-0.6%), KRW (-0.5%) and PLN (-0.3%) all under pressure but with one exception, ZAR (+0.4%) which continues to benefit from the combination of still high interest rates, so the carry trade, as well as a growing belief that the new government is going to be quite business, and by extension market, friendly.

On the data front, only New Home Sales (exp 700K) is on the docket although we also see the weekly EIA oil inventory data with further drawdowns forecast.  There are no scheduled Fed speakers, but I expect we will hear from one or two anyway.  While the dollar is bouncing today, I believe the current mindset is the Fed is going to lead the way lower in this rate cycle and that the dollar will suffer accordingly.  Just be careful as with everyone cutting rates, expecting a sharp dollar decline from here seems suspect.

Good luck

Adf