Tag Archives: #BOJ

Pundits and Bores

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The fallout from Warsh’s decision
To leave rates without a revision
Has opened the doors
For pundits and bores
With hawks and doves set for collision

For some, Warsh has failed from the start
As they felt a rate hike was smart
But others explain
That under his reign
It’s markets that play the main part

For a no action outcome by the Fed last week, it certainly is interesting how much digital ink has been spilled discussing the outcome of that meeting and, depending on which side of the argument you fall, whether it was the right move or an error.  You know I have been of the belief that there will be zero rate hikes this year and nothing has changed that opinion yet.

There is a great deal of conversation regarding the Fed’s credibility and how despite Warsh’s tough talk about achieving their 2% inflation goal at his first meeting, by doing nothing last week, he has trashed that credibility.  My first thought here is, given the Fed has failed in its key objective for more than 5 straight years on its own terms, it is difficult for me to accept they had a lot of credibility left to trash.  But my second thought is to listen to the Chairman’s words about allowing the market to do its job, and not simply watch the Fed, and I realize there are an awful lot of analysts and pundits who don’t know how to do that and therefore are extremely uncomfortable now.  As I wrote last week, these folks get paid a lot of money by Wall Street and now they have to earn it.  So perhaps that explains the ongoing diatribes.

Much has been made of the fact that between the June and July FOMC meetings, US Treasury yields rose substantially as you can see from the below chart.

Source” tradingeconomics.com

At the close on Friday, they had risen 34bps in the 30-year and 28bps in the 10-year), although this morning, with oil prices (-5.6%) falling on the back of a renewed diplomatic initiative in Iran, both of those bonds have seen yields back off by 5bps. 

Now, one of the things that Warsh specifically explained in the press conference was that the market had raised rates already, effectively doing the Fed’s job for them.  And here is the point of departure, I believe, regarding the punditry viewpoint and the Warsh viewpoint.  Warsh has been explicit in saying he wants the Fed’s footprint in the markets to shrink.  He wants market participants to, “play the ball, not the referee”.  However, the pundits claim that the only reason rates rose was in anticipation of the Fed hiking rates.  

So, let’s try a little thought experiment.  Assume there was no Fed, instead that money supply was mechanically increased by 2% per year and that all interest rates were determined by the market.  Do you believe that in this scenario, a government running consistent extremely large deficits would not drive interest rates higher than they otherwise would be, without a central bank to officially do so?  I know I do.  Is that any different than the market pushing yields higher because they are concerned with excess supply of Treasuries and other inflation concerns?  

The Fed has had a major, and in Warsh’s (and my) view, too large impact on markets for a long time, since Black Monday in 1987.  Change is hard and the punditry does not like the fact that they are going to have to actually think and pay attention to many variables in order to have a viable view on things, so they are all crying and claiming Warsh is making a huge mistake.  While not surprising, I think they are completely wrong.  

It is also important to understand that the current yields in the bond market are anything but ordinary. Below is a chart I created with FRED data and included the long-term average 10-year yield since 1962, which happens to be 5.81%, more than 100bps above current levels.  For a very long time, a good rule of thumb for the 10-year yield was it should be approximate the nominal GDP growth rate, but we have gone through such a long period of financial repression, that idea faded away.  Perhaps that is coming back into vogue, so at the long-term average, we could see 3.8% GDP growth and 2.0% inflation.  And even today, it could represent 2.7% GDP growth and 2.0% inflation.  I don’t think anybody would be unhappy with that outcome.

My understanding is the task forces will not be reporting until early next year.  At the same time, I am convinced that Mr Warsh is very serious about making significant changes at the Fed going forward, and I applaud that.  But it is going to require him to convince 18 other people who have been inculcated in a process that has proven to be a failure but offers comfort to those people because they know how it works.  Change is very hard, and this will be harder than most.  One last thing, the biggest change is going to be the balance sheet.  The Fed continues to buy T-bills and expand the balance sheet as they continue to seek to maintain “ample” reserves, so banks have liquidity.  I would not be surprised if when we hear from Chairman Warsh at the Jackson Hole meeting at the end of the month, he indicates the Fed will stop buying bills at the next meeting moving further down the path of change.

Surprising comments
Bessent admitted the Fed
Joined the Japanese

The following statement released by Japan’s MOF is quite a surprise, at least the fact that they admitted to the action, something that has rarely been the case in the past.  

Some have made the point that given Japan is the largest holder of Treasury securities in the world (other than the Fed) and that they would need to sell their Treasuries to fund intervention, this was the driving force.  Certainly, the US is not keen to have holders sell their bonds at this point.  As you can see in the chart below, this intervention has had a larger impact than the previous bouts which were solo Japanese efforts.

Source: tradingeconomics.com

At the dollar’s low, the yen appreciated about 5% in the past two sessions, certainly a very large move.  One of the other things that was interesting was that ostensibly, the Treasury sold EURJPY, not USDJPY.  Perhaps they had extra euros lying around they no longer wanted.  According to BOJ data, it appears the Japanese spent something like $33 billion on the intervention, but I have no indication as to the US effort.

Joint intervention is pretty rare, with the last time being in the wake of the earthquake/tsunami at Fukushima in 2011 when the yen strengthened dramatically.  But it also has a better track record than solo intervention, although absent significant fiscal changes, on both sides of this equation, I suspect that within a few months, the yen will weaken again.

Ok, I feel like that’s enough for one morning.  The oil story, as I mentioned, is that the President has called off the mooted weekend attacks and diplomacy is back on the table.  Interestingly, the metals markets are not as excited by that with gold (+0.15%), silver (+0.6%) and copper (+0.75%) all higher, but not by very much, especially given the size of the decline in crude prices.  And product prices (gasoline -3.4%, heating oil -3.0%) are also sharply lower.

As also mentioned above, bond yields have backed off with European sovereigns sliding far more than Treasuries, between -6bps (Germany, Netherlands) and -9bps (UK, Italy, Greece).  However, JGB yields (+3bps) did not get the memo although I suppose that has more to do with the belief that the BOJ is going to be forced to hike rates as part of the joint US-Japanese currency efforts.

As to the equity markets, after Friday’s US rally, the picture in Asia was mixed, despite the oil price decline, although for Japan, a stronger yen is often a problem for Japanese equities.  The worst performers were Korea (-5.1%), Tokyo (-0.9%) and China (-1.0%) while much of the rest of the region followed the US higher (HK +0.5%, India +0.7%, Taiwan +0.6%, Australia +0.5%) with the smaller exchanges mostly higher as well.

In Europe, things are generally bright with Germany (+1.4%), France (+1.3%) and Spain (+0.75%) all nicely higher despite (because of) modestly weaker PMI data although the UK (0.0%) has not been able to overcome its PMI weakness.  Now, in fairness to the UK, its 51.9 reading, while weaker than last month and forecast, is still about the best in Europe.  As to US futures, they are all in the green, led by the DJIA (+0.8%) at this hour (7:00).

Finally, the dollar is kind of confused overall.  The big winner today is KRW (+1.0%) although that trade has been ongoing for more than a month and is approaching an 8% gain over that period.  The yen (+0.4%) continues to climb, albeit less aggressively, although the other G10 currencies are generally under pressure (GBP -0.15%, AUD -0.3%, CAD -0.2%, NOK -0.6%).

However, I must mention something that Alyosha wrote this morning in Market Vibes that is worth considering; two of the major positions in markets were short bonds and short yen.  Joint intervention by the US and Japan to sell EURJPY has likely forced a lot of covering in both of those markets and it would not be surprising to see more activity like that and further short covering.  Japan is the largest holder of French bonds as well as Treasuries and could easily sell those without a peep from the US.  

Ok, I have gone way over my daily quota this morning, although there were a couple of really big, and complex stories to discuss.  On the data front, today brings ISM Manufacturing (exp 54.0) and I will delve into the rest of the week’s data, including Friday’s payroll report tomorrow.

Good luck

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Dust in the Wind

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A line has been drawn
Is it steel reinforced? Or
Just dust in the wind?

Shortly after 9:30 yesterday morning, the BOJ entered the FX market aggressively selling dollars as you can see in the chart below.  While the amount sold is unknown at this time, it was likely pretty large, ~$10 billion – $15 billion would be my guess.  In addition to the sales, though, apparently the Fed called around the Street “checking rates”, although my understanding is the Treasury didn’t actually sell any dollars.

Source: tradingeconomics.com

Regardless, the signal of an approved, if not joint, intervention is powerful and I expect that the market will take some time before pushing the dollar back higher again.  Now, one of the themes yesterday was that the BOJ would also raise interest rates at their meeting last night in a surprise move as a way to reinforce this action.  I believe if they had done so, it could have been quite effective and we would have seen another sharp leg lower, as well as an overall reduction in pressure on the yen.  But they did nothing with their base rate remaining at 1.0% and, as you can see from the chart, the drift has already begun for the yen to weaken once more.

As I have maintained throughout this process, absent policy changes of substance, and at this point in Japan that includes fiscal as well as monetary, pressure on the yen is very likely going to be the norm.  Of course, if the Fed really does begin to ease policy at some point, that will alter opinions and I imagine soften the dollar universally.  

The pundits are still really pissed
That Warsh, their concerns, has dismissed
Get ready to hear
That Doomsday is near
If Warsh keeps ignoring their gist

Since we seem to be in an interlude in the war in Iran and the Middle East, so oil markets remain quiet and there has been little news from the White House, the punditry has continued its focus on Fed Chair Warsh and all the things they hate that he is doing.  This is well summed up in this morning’s WSJ article titled, ”Kevin Warsh’s Honeymoon with the Bond Market Is Already Over”  interestingly, this was not written by Nick Timiraos, but rather by Sam Goldfarb, their bond market guy.  Personally, I think he is completely wrong, but the punditry is consistent in their desperate desire for Warsh to tell them what the Fed is going to do so they can report it and seem smart.

However, my read on the bond market response is quite different, especially when put in context with other markets, notably inflation markets.  The fact that the 2-year yield has backed off, and we have already seen a modest pull-back in the 10-year tells me that there is limited fear of rampant inflation.  While the pundits, and many other central bankers (see Lagarde, Christine) think that hiking rates into an energy price shock is the right move, it has historically been a key policy error.  And what we have learned from financial history is that it is NEVER different this time.  And the folks who trade inflation have breakevens (the difference between nominal Treasury yields and TIPS yields of the same maturity) trading at very ordinary levels of 2.27% in the 10-year and 2.22% in the 30-year.  I thought that Alexandru Stefan Goghiedid an excellent job of describing the situation in his Substack article this morning.

In the meantime, you know who else isn’t really worried about this?  Equity investors.  Broadly speaking, green is today’s color in that asset class, with some of the real movers not even shown in this Bloomberg Screenshot.  

For instance, the KOSPI rallied 17.9% last night after Amazon and Microsoft’s earnings got everybody reconvinced that the AI trade was not over.  This is the market that I had been highlighting as collapsing and it just did a major reversal.  Last night’s candle, on the right-hand side of the chart, is one of the largest you will ever see in a major equity market!

Source: finance.yahoo.com

So, we have made it through the major tech earnings releases and spirits are still high.  While the Fed funds futures markets are still pricing a two-thirds probability of a hike in September and the certainty of one by October, the recent cooler than expected CPI and PCE data will continue to give ammunition to remain on hold.  To me the real question is, will Chairman Warsh be able to convince the committee that reducing the balance sheet is the right thing to do (it is) as that will have a much stronger impact on inflation than raising rates into the energy price shock.

In an aside, lately I have been wondering if every Fed governor should be fired for ‘cause’.  After all, according to legal precedent, cause can mean:

  • Inefficiency – persistent inability or incompetence in performing the role’s administrative or official functions
  • Neglect of duty
  • Malfeasance in office

Now, I would not accuse them of the latter two, but let’s face it, they have completely failed in their official functions as evidence by the fact that even on their own terms of stable prices, it has been more than 5 years since they have achieved their goal.  That seems pretty inefficient or incompetent to me!

Ok, let’s run through the other markets.  Bond yields are higher by 1 tick around the world, and we have discussed them already.  JGB yields, have slipped -2bps, so maybe they are not as worried with the yen strength from yesterday.

Commodity markets are dull with oil (+1.5%) having rallied in the past hour but still hanging around the $85/bbl level with no new news on the war.  At the same time both gold (-1.2%) and silver (-2.0%) are under pressure this morning, although that doesn’t make a huge amount of sense to me given the dollar’s broad weakness.  Perhaps the fact that it is month end is driving flows there, but I am not close enough to those markets to know.

Finally, the dollar is softer, having fallen sharply yesterday although bouncing somewhat this morning.  As you can see in the DXY chart below, we are back within the 96.50/100.50 range that has prevailed for most of the past year and have traded below 100.00 several times yesterday and early this morning.

Source: tradingeconomics.com

To me, this is very interesting as FX traders seem to be taking different signals from the Fed than the short-term interest rate guys.  This does not feel like a market that is anticipating rate hikes in the US.  Now, historically, when it comes to opinion differences across markets, FX traders are the worst of the worst.  And, of course, I am an FX guy at heart, but I have a feeling they are correct here and I still see no rate hikes this year despite the Fed funds futures markets relative certainty.  So, right now, the dollar is broadly firmer by 0.3% across the board with the biggest outlier KRW (-1.35%) seeming to follow the KOSPI.

I think the really important thing to remember here is that the dollar has just not done very much, at least against the G10 currencies, for more than a year.  Certainly, LATAM currencies have performed well this year, but it remains difficult for me to look at the rest of the G10, a group with weak economic activity, and get excited about owning any of them.

On the data front, the PCE data was as expected to softer, but the real key yesterday was the GDP data which showed nominal GDP rose 7.9%, although the inflation adjusted number was just 1.5%.  But this is the very essence of running it hot, high nominal growth, which consisted of significant consumption and investment, while allowing inflation to run as well.  From a debt management perspective for the US, the debt/GDP ratio fell accordingly by about 1%.  While this trend remains higher, I expect we will see more of this type of outcome going forward.

As to today’s releases, Chicago PMI (ep 56.0) and Michigan Sentiment (54.0) are what we see, neither of which seems likely to matter to markets.  The equity bulls are back and that is going to be today’s story.  If those rallies fail, it will portend larger problems I believe, but my take is that is not going to happen.  I guess we shall see.

Good luck and good weekend

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The Die Isn’t Cast

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This morning, investors don’t know
Exactly which way things will go
Unlike in the past
The die isn’t cast
So, some pundits will eat some crow

The question is how will the Fed
Explain how they’re looking ahead?
If Warsh has his way
There’s not much they’ll say
But others, more views, want to spread

As market participants prepare for today’s FOMC statement with the potential for a rate hike, as well as the ensuing press conference, I cannot help but marvel at the recent increase in analysts doing their jobs and being forced to think about what can happen.  This is the healthiest thing about this process I believe.  It is also a very different approach than some current FOMC members have taken as they seem quite dismissive of the process.  For instance, in the WSJ article I cited yesterday, I want to highlight this paragraph;

“Governor Christopher Waller, a former economics professor with a reputation for saying what others won’t, put Warsh on the spot, according to several people familiar with the dinner. What’s the point of all this, he asked. Tell me who you’re putting on these groups, he said, and I’ll tell you what they’ll say. There were no brilliant ideas out there that everyone had somehow missed.”  

This is the very definition of hubris, Governor Waller saying he already has all the ideas and, essentially, the task forces are a waste of time.  Every member of the FOMC and every one of the 300+ or 500+ or however many PhDs who work there are Neo Keynesians and all see the world in exactly the same way.  In fact, they clearly believe that their collective view is the ‘only’ view that is correct.  And yet they have failed at their mission statement for more than 5 straight years.  My take is they are all terribly frightened that other ideas will not only be more effective, but that they will demonstrate all the mistakes the current FOMC has made prior to Chairman Warsh’s appointment.

As of 6:45 this morning, the currently priced probability for a hike, as per the Fed funds futures market, is ~38%, an unusual amount of uncertainty on the day of the meeting.  However, as you can see from the table below, there is virtual certainty of a hike in September and a high probability of one in December as well.  Personally, I disagree they will hike at all this year, but that is what makes markets.

Source: cmegroup.com

It has been two years since there has been this much uncertainty ahead of the meeting, and back then it was a question of 25bps or 50bps as a cut, which I would argue is qualitatively different then determining if there would be any action at all.  Otherwise, you need to go back quite a while to see this type of uncertainty, pre-GFC and the beginning of forward guidance.

Meanwhile, the other story of note is the Iranian attack on a US air base in Jordan and renewed fighting in the Gulf region, more than simply in Iran, which has oil prices rebounding sharply from yesterday’s lows, up 5.0% this morning.  The biggest problem with the oil market, from a market perspective, is that it is all headline risk, whether more attacks, peace talks or some other comment from either President Trump or Iran.  The one thing of which I am certain is that this conflict will not last forever and that when it is over, oil prices will fall back sharply and that over time, the Strait of Hormuz will see its transits decrease to ~5% of the global oil market, making it largely irrelevant to the conversation.

Which takes us to the market activity overnight.  Semiconductor companies continue to have some serious problems as SK Hynix reported earnings last night, which, while they beat expectations, their guidance was weaker than expected.  Given what we have seen from the sector lately, it cannot be a surprise that the KOSPI fell another -6.0% last night.  The chart below shows the relative performance of the KOSPI and NASDAQ over the past 5 years, and I have highlighted the peak.  As you can see, the KOSPI massively outperformed (and we thought the NASDAQ was a bubble!) although it is falling back to earth rapidly.  In fact, YTD, it is only higher by 34.4%, after having nearly doubled at the peak.

Source: Bloomberg.com

Elsewhere in Asia, Taiwan (-3.8%) also suffered as did the Nikkei (-1.5%) although other Japanese indices held up just fine.  China (+0.7%) and HK (+2.0%) had solid sessions and most of the rest of the region performed reasonably well.  Remember, once we get past the Fed today, all eyes will turn to Tokyo for the BOJ meeting which comes Friday.

In Europe, it is a mixed picture with concerns over the rising oil price driving some of the concern as we have also seen yields back up a bit.  Spain’s IBEX (-1.5%) is the laggard, but that appears to be a profit taking situation as the market there had rallied to record highs recently.  Elsewhere, France (-0.5%) is soft while the UK (+0.3%) is picking up slightly after some positive housing news and Consumer Credit activity while the DAX is little changed.  As to US futures, at this hour (7:40) they are edging higher, 0.25% or so.

As I mentioned, yields are backing up this morning with Treasuries (+2bps) outperforming vs. European sovereigns which are all higher by between 3bps and 4bps.  This seems entirely a reaction to the rebound in oil prices as there has not been enough other news to matter.

Metals markets are having another session where the relationship with oil is askew.  Gold is unchanged this morning while silver (+1.0%) has edged higher despite the oil rally.  But these metals remain in a downtrend trading in virtual lockstep as per the chart below.

Source: tradingeconomics.com

Finally, the dollar is mixed this morning, depending on which counterpart you watch.  The DXY (-0.1%) is a touch softer although there has not been much movement at all in the euro, pound or yen.  In the G10, AUD (-0.5%) is the worst performer after inflation data overnight was cooler than expected and the probability of a rate hike fell even further.  NOK (+0.3%) is responding to oil’s rebound and everything else is minimal.  In the EMG, ZAR (-0.5%) is the laggard du jour on the higher oil prices although in fairness, it is holding its own vs. the gold price, having only declined about 2.5% in the past six months despite the sharp, 25% decline in the price of gold.  

You can be sure that after the FOMC today, all eyes will turn to the BOJ and the yen as the next major discussion point for the FX markets.

And that’s really it today.  The only data is the EIA oil inventories with a small draw expected.  And of course, the FOMC this afternoon.  My take is not much will happen ahead of 2:00, but remember, a large portion of the market has their bet wrong as to the outcome, so if nothing else, expect some volatility in the aftermath.

Good luck

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No Plan of Action

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In England and Scotland and Wales
Kier Starmer has gone off the rails
A buffoon-like clown
He’s set to step down
As from the Brits eyes, fall their scales

But will his replacement gain traction
Or will Burnham be a distraction
From solving their woes
As Lord only knows
They’ve many, and no plan of action

It has been an eventful weekend for me so let me start by telling you that Marvel was Best of Breed in back-to-back shows last Thursday.  We are very proud and happy.

Second, Friday was a more difficult day for me as I wound up having emergency surgery, although everything is fine.  But I am still in recovery mode.  Sometimes, aging is harder than other times.

With that in mind, we can talk about the three things that matter, I believe, the change of PM in the UK, the on-again-off-again peace talks in Iran and the fact that the yen is now weaker than the level that got the MOF to intervene back in April.

Starting with the UK, PM Starmer has promised to step down now that his most likely successor, Andy Burnham, the former mayor of Manchester, is in Parliament and will now become PM sometime in the next several months depending on the actual timing of certain technicalities.  He is described as left-wing, even by the press, which tells you that he must be quite far to the left.  But the UK has serious problems with respect to their economy, slowing growth and high inflation, and the social structure due to massive immigration, both legal and illegal.  As well, the report that just dropped about the Pakistani grooming gangs that were systematically raping young English girls is so damning, it is hard to believe, yet it was all covered up.  The government doesn’t have to go to the national polls until 2029, so Burnham will have time to try to implement policies, but the nation has many troubles ahead.

As to UK markets, both the pound and FTSE 100 have been underperformers relative to their peer European counterparts over the past month or so as this process has heated up, but in truth, not by very much.  Much of the pound’s weakness can be attributed to dollar strength (see chart below), where the dollar has broken through key technical resistance in the DXY, while the FTSE is just drifting given the lack of positive news.  Certainly, this story didn’t help either one, as both are unchanged on the day.

Source: tradingeconomics.com

In Switzerland, talks are ongoing
As Trump and the Mullahs try showing
That they are the ones
Who have the most guns
But progress seems like it is growing

It cannot be a great surprise that there is a lot of bluster from both sides of this negotiation between the US and Iran as President Trump tries to end the conflict in Iran.  After all, both sides are famous for their bluster!  And you can read whatever you like from whatever source you want to get your spin, but I’m not smart enough to understand the intricacies of international diplomacy.  However, what I do understand is market price movement, and here we are this morning, with oil prices falling further, down -2.5%, and back to levels last seen in early March, right at the beginning of this conflict.

source tradingeconomics.com

Thus far, every story about tank bottoms being reached and an insufficient amount of oil for the pipeline infrastructure to be effective has proven not to be true.  There is still a large group of analysts who are calling for end of days, but the market signals just don’t agree.  I suspect that the only ones who really want to see oil prices remain high are the oil companies who sell the stuff, but for the rest of the world, lower is clearly better.  Obviously, anything can still happen, but by all appearances, it seems that more and more traffic is flowing through the Strait and we are going to see lower prices going forward.

In the end, from my vantage point thousands of miles away from the action, it appears that Iran was greatly weakened by this conflict on a military basis, but more importantly, every one of its Gulf neighbors realized that they needed alternative routes to get their oil to market, and we are going to see a lot more pipeline infrastructure built to do just that, so as time goes by, this choke point is going to lose its effectiveness.  And that is probably a bigger weakness for Iran, as that was something they held over the world, but now it seems it is not as impressive a strength as it had been made out to be in the past.

It’s no waterfall
But the yen keeps dripping down
Whence the BOJ?

Finally, the yen (-0.3%) is having a tough time right now as it has traded back to its lowest level vs. the dollar since 1986!  That’s right folks, it has been forty years since USDJPY traded above 162.00, and we are pushing that level right now as you can see in the chart below.

The last two times the yen reached these levels, back in April and in July 2024, the BOJ intervened in the markets aggressively.  But so far, crickets.  I think the issue for them is the dollar continues to be quite strong, especially as traders are now pricing in rate hikes by the Fed, and so intervening is going to be a waste of money.  And it’s true, if the dollar is rallying across the board, there is very little Ueda-san can do.  As I have repeatedly said, the only way for the yen to break this slide is for serious fiscal and monetary policy changes, and frankly, that doesn’t look like it is in the cards right now.  While I know there are many who think the dollar is heading to its graveyard, it apparently still has a bit of life left in it.

Which takes us to the overnight activity.  Equity markets have been mixed as all this new information gets digested.  In Asia, Tokyo (+1.6%) and China (+2.4%) both had strong sessions although HK (-0.7%) couldn’t keep up.  Elsewhere in the region, there was slightly more green than red led by Taiwan (+2.75%) while the Philippines (-1.65%) was the biggest laggard.  Uncertainty continues to reign although as the Iran situation slowly resolves, I expect to see things brighten here as Asia was the region hurt most by the entire conflict.

In Europe it is also a mixed picture with the UK (+0.3%) now rallying on the news that Starmer is leaving and Spain (+0.4%) has managed a gain as well while both Germany (-0.3%) and France (-0.7%) are lagging this morning, although there is no news of note in either place.  US futures are basically unchanged at this hour (7:15).

In the bond market, Treasury yields (+3bps) have edged higher this morning, I guess on this new belief in higher Fed funds, although I would have thought the bond market would appreciate a hawkish Fed fighting inflation.  European sovereign yields, though, are lower across the board down about -2bps everywhere.  Bonds remain less interesting now that they are back in their ranges and not breaking out as so many though was occurring back in May as per the below chart.

Source: tradingeconomics.com

With oil prices lower, it should be no surprise that gold (+1.35%) and silver (+2.4%) are both higher this morning.  Many have made the case that with the dollar strengthening, the precious metals complex will remain under pressure, and it is a valid case, but for some reason, I have a feeling it will not be as dramatic as they believe.

Finally, the dollar is firmer across the board this morning, albeit not by very much.  Wednesday and Thursday of last week were the big moving days in the wake of the FOMC meeting and the new hawkish read.  Since then, not much has happened, just a slow drift higher across the board.  FWIW, I don’t think that Chairman Warsh is going to be that hawkish, but I look forward to the structural changes that he makes.  However, for now, that is the market assessment.

On the data front, there is nothing today and really nothing of import until Thursday so I will go through it tomorrow.

That’s how things are shaping up, with the dollar gaining, oil sliding and stocks uncertain what to do next.  I am a fan of uncertainty as it will reduce systemic risk, and that is something we really need to see.

Good luck

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Leverage Doomsday

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Though oil continues to be
The lens through which most of us see
The current events
In dollars and cents
There’s more going on causing glee

For instance, as stock markets rise
It cannot be such a surprise
The narrative writers
Are pulling all-nighters
Adjusting their views to seem wise

But naysayers need to say nay
And here’s what they’re pushing today
The Bank of Japan
And their current plan
Will lead to a leverage doomsday

We might as well start off with oil this morning since it is still the top story in markets, and still the major catalyst.  It is lower again this morning, down a further -2.8%, and despite many questions as to whether the deal will hold, both sides appear to be moving toward a signing on Friday.  The below chart from tradingeconomics.com shows WTI prices for the last year.  As you can see, the current price is the lowest since March 10th, which was a reaction low after the spike high on March 9th when it touched its highs for the entire situation.

I eyeballed a line at about $65.00/bbl as an estimate of what prices were like prior to the Iran conflict.  Based on that, the current front month futures price remains about 20% above the pre-war price, certainly high, but it doesn’t seem crippling.  I believe it is very clear that the analysts who were calling for $150/bbl or $200/bbl are now working hard to determine what they got wrong.  Doomberg wrote an interesting piece this morning (it is paywalled, but their stuff is fantastic) describing two likely reasons for the fact that oil prices never rose that high.  First, the original estimates of how much oil was stuck behind the Strait were overstated as all the players there found ways to export some, whether through tankers going dark or via rail or truck or pipeline.  But the more interesting observation was that China was able to reduce its imports by between 3mm and 4mm bpd and things were just fine.  China has altered their energy mix such that oil, while still important, can be substituted out as necessary.  That is a very interesting outcome with respect to one of China’s greatest perceived weaknesses, its lack of natural energy capacity.  If they don’t need as much oil to run their economy (which by the way based on overnight data is struggling) then they have less geopolitical weakness.  

Enough on oil, but while I’m here, it is not surprising that as oil slides, metals prices rise so gold (+0.9%) and silver (+0.8%) are continuing to benefit as is copper (+0.1%) although the latter not so much today.

Turning to the other story that has tongues wagging, the BOJ raised their base rate to 1.00% last night as had been universally expected by markets.  Now, the interesting thing here is that there is a group of analysts who believe that this will lead to net position liquidation by leveraged fund managers (i.e. hedge funds) as their funding costs will have risen.  I disagree, and so far, markets are on my side.  This is evident by the fact that equity markets continue to perform well, and USDJPY has shown no inkling of reversing its multi-year trend of rising.  Below is a table of the base interest rates of the G20 nations.  While Switzerland does have a lower rate, and Singapore is the same, if you are thinking about borrowing in a currency to lever up positions, Japan, given the yen’s depth and liquidity, remains the currency of choice by a long shot.

Source: tradingeconomics.com

Ask yourself if your borrowing costs rose 0.25% but you were still earning a net 13.5% return on your BRL deposits, would you flee the trade?  And if you have been buying equities, you are even less likely to get out.  Japan’s problem is not specifically that their base rate is low, it is that they currently are fighting a terrible demographic position of a shrinking population and they have a massive debt/GDP ratio.  They cannot afford to raise rates enough to have a meaningful impact on the yen without bankrupting the country and decimating the yen.  It is not clear to me how they get out of their current situation, but despite concerns elsewhere in the world about the yen’s weakness being a competitive advantage, I think it has further to go.  Basically, there needs to be another Plaza Accord type agreement to change things, and that doesn’t seem likely right now.  After all, in Evian, it doesn’t sound like things are going smoothly.

So, how have markets behaved overnight?  Well, risk is still in vogue.  Following yesterday’s strong US performance, where the DJIA made another all-time high, there were far more gainers (Korea, India, Taiwan, Malaysia, New Zealand, Indonesia) than laggards (HK -1.4%, China -0.2%) while Tokyo was little changed.  As I mentioned above, the Chinese data was pretty lousy as per the below table:

So, the housing market continues to suffer, and the domestic economy along with it, although the export economy continues to grow.

In Europe, the decline in oil prices is clearly helping as all major indices are higher between 0.4% and 0.75%.  As to US futures, at this hour (7:20), they are pointing slightly higher, about 0.15% across the board.

In the bond market, yields continue to decline with Treasuries (-3bps) back below 4.5% which had been seen as a real problem just a few weeks ago.  European sovereigns are also lower by between -3bps and -4bps, duly following both Treasury yields and oil prices.  The outlier here is JGB yields (+6bps) which responded to the rate hike by rising, perhaps an indication that investors don’t believe the BOJ is doing enough.  However, my wager would be the BOJ is done.

Finally, the dollar is a touch softer, as one would expect given the movements in other markets, but there is very little excitement in the FX markets.  Using the DXY (-0.05%) as proxy, you can see things are little changed.  The biggest movers are BRL (+0.4%) and KRW (+0.4%) both of which are seeing capital inflows supporting the currency.  But otherwise, +/-0.2% defines the session in both G10 and EMG currencies.  Note that despite the BOJ rate hike, USDJPY sits at 160.32 showing no sign of heading lower, even in an environment where the dollar is modestly softer.

On the data front, this morning brings Housing Starts (exp 1.43M) and Building Permits (1.42M) and that’s really it.  With the FOMC tomorrow, and Iran ostensibly solved, Mr Warsh and his press conference will get a great deal of focus.  Until then, I don’t see any reason for recent trends to change absent a complete collapse of the Iran deal, which seems unlikely at this point.

Good luck

Adf

One Sixty

Posted on by 
The asymptote nears
Will they act at One Sixty?
Can they afford to?

Yesterday saw the yen edge ever closer to the 160 level, the point at which the MOF/BOJ acted in April.  Frankly, looking at the chart, it reminds me of an asymptotic limit from calculus, but the one thing we know is there is no natural limit, only whatever artificial one is imposed (or tried to be imposed) by the Japanese government.

Source: tradingeconomics.com

The market continues to price a high probability, ~86% according to the OIS market, of a 25bp hike by the BOJ next week, and I’m confident they will do that.  But to me, the question is, will it matter to the FX markets?  Here’s the thing about FX, typically there are two separate, but related, drivers of the relative value of one currency vs. another.  The most common discussion is about short-term interest rate differentials, typically proxied by central bank base rates.  Below is a chart of the past ten years of data for Fed funds (grey line), BOJ base rate (blue line) and USDJPY (brown line).

Source: tradingeconomics.com

It is abundantly clear that there is a strong relationship here, as US rates shot higher in the post-Covid inflation bout and USDJPY shot higher as well.  Now, since the Fed started cutting rates back in September 2024, while Japanese rates have edged higher over the same time frame, it would be reasonable to assume that USDJPY should retreat somewhat.  However, as you can see in the first chart, that is just not happening.  In fact, the pressures are the other way, with far more weakness than strength.

Why, one might ask, is this the case?  This takes us to the other major factor in FX rates, relative capital flows.  Nations that see substantial inflows in capital will typically see their currencies appreciate.  Now, ask yourself, which nation sees the biggest inflows of capital in the world?  Yes, the US, as the capital account surplus is the mirror image of the massive current account deficit that we run.  In fact, if you look at the below chart, it shows the relative current accounts of Japan (grey bars) and the US (blue bars) in percentage of GDP which most recently showed -3.6% for the US and +4.7% for Japan.

Source: tradingeconomics.com

Now, let’s do the math.  US GDP is ~$28.8 trillion while Japanese GDP is ~$4.4 trillion.  3.6% of $28.8 trillion = ~$1.037 trillion of capital inflows.  4.7% of $4.4 trillion = $202 billion of capital outflows.  Of course, we know that everybody in the world is piling into US technology stocks, and that is where the capital is mostly flowing, but in order to do so, they are buying USD.  This is true of Japanese investors as well as others around the world.  

There is a narrative that is developing that claims as the Japanese raise interest rates, the massive, short yen positions that exist to fund many speculative trades will unwind, and with that, the yen will strengthen dramatically as well as we will see many other markets sell off sharply as those positions unwind.  But the NASDAQ is up 21% YTD and 40% in the past year.  If you are an investor and you are funding a speculative position at 0.75% annually that rises to 1.00% while you are returning 40% on the other side, do you really care?

To my eye, for the yen to change course, intervention is irrelevant, and so is a 25bp rate hike.  We need to see a wholesale change in the combination of Japanese fiscal and monetary policies as well as changes in those policies in the US.  Historically, a tight monetary and loose fiscal policy combination will strengthen a currency (something that the US currently has), but can Japan afford to tighten monetary policy that much?  My money is on no, and while 25bps seems pretty certain next week, I would not be looking for USDJPY fall very far, if at all.  And remember, the market is pricing a 50% chance of a Fed hike by the end of the year.  Don’t be taken in by this story in my view.

Away from this issue, it is difficult to find other critical news.  Yes, there was another skirmish in Iran straining the concept of a ceasefire, but all-out war has not resumed.  The elections in California and LA will take several weeks to determine who will be on the ballot in November, which, when you think about it, sums up the incompetence of California governance writ large.  

So, oil is higher along with the dollar and yields, but so are stocks, while metals slip.  Let’s look at the overnight activity.  Another set of equity records in the US was followed in Asia by broad based strength as Tokyo (+2.5%), China (+0.5%), Korea (+0.2%) and Taiwan (+2.0%) all continued to climb. Both HK (-1.6%) and India (-0.4%) were not as robust with the former seeing profit taking after a few strong sessions while the latter felt pressure from those rising oil prices.  One outlier here was Indonesia (-4.5%) which suffered after weaker than expected trade data, higher than expected inflation data, and a weakening rupiah which set another record low (dollar high), touching 18,000.

European bourses, meanwhile, are mostly under pressure after President Trump has devised a new way to impose tariffs on nations that allow “forced labor” which is defined as “all work or service which is exacted from any person under the menace of any penalty for its nonperformance and for which the worker does not offer himself voluntarily.”  One must give the president props for his continuous efforts to impose tariffs, if nothing else.  At any rate, Germany (-0.9%) is leading the way lower, followed by Italy (-0.3%), France (-0.2%) and the UK (-0.2%) although Spain (+0.5%) is bucking that trend on the strength of the earnings for Inditex (Zara clothing parent) which is one of the largest companies in the nation.  US futures, at this hour (6:40) are mixed.

In the bond market, yields are rising again on the back of the oil price rise with Treasury yields (+4bps) gaining alongside the entire European sovereign market, all of which have risen a similar amount.  Last night, JGB yields also rose 6bps, as they respond to the oil market as well as pending rate hikes by the BOJ.

In the commodity market, if you think back to late May, you may recall an announcement that a deal with Iran was close which prompted a gap lower in oil prices as you can see in the chart below.  Well, that gap has now been filled.

Source: tradingeconomics.com

Just as nature abhors a vacuum, markets abhor a gap and seek to fill it whenever possible.  My take here, though, is now that the gap is filled, there is less reason to see oil rally much further and a consolidation before a slow decline is in the cards.  As to metals markets, gold (-0.8%), silver (-1.2%) and copper (-1.1%) are all softer on the day, with their negative correlation to oil intact.

Finally, the dollar is firmer this morning, keeping in line with its recent relationship with other markets.  However, the movement remains relatively muted with most G10 currencies softer by -0.2% or so as only SEK (-0.6%) and NOK (+0.1%) really buck that trend.  NOK is clearly benefitting from the oil price rise while SEK seems to be suffering from a slightly higher beta to the broad dollar move.  In the EMG bloc, KRW (-0.9%) is the laggard as it continues under pressure and trading to its lowest levels (highest dollar) since 2009.

Source: tradingeconomics.com

But otherwise, most of these currencies are slipping a similar amount to the G10 bloc, on the order of -0.2% or so.

On the data front, this morning brings ISM Services (exp 53.8) as well as Factory Orders (4.6%, 0.8% ex-Transport) and then the EIA crude oil inventories with another sizable draw anticipated.  At 2:00, the Fed’s Beige Book is released which should make for some interesting reading.  Yesterday’s JOLTs data was surprising in that it showed a significant jump in job openings, 700K more than expected which does not portray a weakening labor market.

Overall, equity markets seem to be disconnected from the impact of oil prices, something that very few analysts would have forecast in February.  But the dollar remains closely linked to those prices for now.  As we all sit here, waiting for the next headline, I cannot help but look at the US data and consider that the economy continues to tick over pretty well.  Ultimately, I believe that bodes well for the dollar over time, or at least until some other major economy shows it can perform well.

Good luck

Adf

Tough Call

Posted on by 
The peace talks have yet to conclude
And yesterday, both sides pursued
A little more fighting
Despite the gaslighting
Which helped push the price up in crude

But it still remains far below
The levels where it needs to go
To foster more drilling
And help in refilling
The buffers from which barrels flow

As we start the week, oil prices have rebounded from last week’s close (as per the below chart) as progress on the peace talks remains slow, at best, and there was another series of military attacks by both sides, with each side claiming defensive maneuvers. 

Source: tradingeconomics.com

Now, I am not a military scholar, but firing missiles at another nation doesn’t sound defensive, rather I would use the word retaliatory.  And there is no way we can know who initiated what during the latest exchange, as both sides claim the other did and there is no neutral arbiter.  But my take is that there is still a way to go before this is over.  Certainly, the IRGC seems committed to the last man, at least for now, and President Trump has indicated he is in no hurry.  Personally, I am still thinking a July 4th resolution timeline.

I did, however, see an increase in the discussion about the imminent collapse of supplies and the estimates that oil prices will finally (?) head up to the $150-$200/bbl level that a number of pundits have forecast.  But looking through these X posts, they are retweeting the comments I posted on Friday from the Exxon SVP Neil Chapman.  Time will tell if they are correct and the changes in the system have not been sufficient, at least not yet, to address the reduction of available oil from the Gulf.  But so far, whatever calculations have been made regarding demand destruction and additional production elsewhere, plus the rerouting of oil away from the Strait has been sufficient to prevent the worst-case scenarios that have been painted since this began back in March.  Plus, the one thing of which I am highly confident is that going forward, the Strait of Hormuz will not be nearly as strategic as it currently seems.  Production elsewhere and pipelines will reduce its importance dramatically.

The BOJ meets
In two weeks’ time.  Do rate hikes
Still matter? Tough call.

Two weeks from tomorrow, the BOJ meets to discuss monetary policy with the backdrop that the yen is essentially back to the levels seen in April just before the most recent bout of intervention.

Source: tradingeconomics.com

The swaps market is pricing in a 78% probability of a 25bp rate hike, which would take the base rate to 1.00%, still amongst the lowest in the world, but its highest level since September 1995 as you can see below in the chart from tradingview.com

Think about that for a moment, interest rates in Japan have been below 1.0% for more than 30 years.  That is an extraordinary situation.  Consider the bubble that was blown in the US by having rates that low for ‘only’ a decade following the GFC, or for an even shorter time post-Covid.  I guess we need to ask why Japanese equities never inflated the same way.  Perhaps that is the best evidence of the financialization of the US economy vs. that of Japan.  Liquidity in Japan didn’t lead to FOMO of the latest investment thesis.

Nonetheless, my take is there is a modest fear about the yen weakening much further and so the BOJ will hike rates.  Alas, since the market is already priced for that outcome, it is not clear it will do much to moderate the yen’s weakness, at least if they only go 25bps.  Now, if they hike 50bps and explain more hikes are on the way, that will matter.  The problem with that theory is that the latest CPI reading in Japan was 1.4%, well below their 2.0% target, and it has been that way since January as per the below chart.  It seems it could be tricky for Ueda-san to explain a very aggressive rate hike with the current inflation reading.

Source: tradingeconomics.com

Ok, I think those are the stories of note so let’s review market activity overnight.  let’s finish with commodities where oil’s gains (+3.6%) are not having the typical response in the metals markets with gold ‘only’ lower by -0.8% and silver (+0.6%) and copper (+2.5%) higher.  I don’t believe we are at the point where these markets are truly independent, but perhaps some of this negative correlation has been overdone.

In the FX markets, the dollar is modestly higher vs. most of its G10 counterparts with NZD (-0.6%) the laggard, but the rest of the group mostly softer by between -0.1% and -0.2%.  In other words, not too significant, and this includes the yen (-0.1%).  I believe all the yen talk is based on the idea that the BOJ meeting is close enough that it is a topic of conversation in a dull market.  Now, if the yen were to weaken dramatically ahead of the meeting, that would certainly change some views.  As to the EMG bloc, it is a bit more mixed although movement, overall, remains muted.  BRL (+0.4%) is the biggest winner with no particular newsworthy events to note, but when looking at the chart, it really hasn’t done too much since the middle of last month when the news about Lula’s competition broke with Bolsonaro fils suddenly less likely to compete for president.

Source: tradingeconomics.com

But otherwise, it is a mix of gainers and laggards on the order of 0.1% to 0.3% in either direction.

In the bond market, yields have ticked higher everywhere following oil’s rebound with Treasury yields higher by 2bps and most of Europe higher by 4bps.  US yields continue to drive the global situation, certainly directionally, if not in magnitude.  

Finally, equity markets appear quite sanguine regarding the oil price rise as Asian markets saw a mix of gainers (Tokyo +0.9%, HK +0.9%, Korea +3.7%! Taiwan +1.4%, Singapore +1.0%) and laggards (China -1.0%, India -0.7%) although clearly far more positive than negative.  Meanwhile, in Europe, the picture is mixed but with much less movement as Germany (+0.4%) and France (+0.1%) edge higher while Spain (-0.2%) and the UK (-0.2%) both slipped.  The news here was the PMI data which largely declined from last month, but not quite as far as forecast.  At this hour (7:30) US futures are all pointing higher between 0.2% and 0.6%.

On the data front, as it is the beginning of a new month, we get plenty including the NFP report on Friday.

TodayISM Manufacturing53.0
 ISM Prices Paid85.5
TuesdayJOLTs Job Openings6.82M
WednesdayADP Employment110K
 ISM Services53.7
 Factory Orders4.6%
 -ex Transport0.8%
ThursdayInitial Claims213K
 Continuing Claims1790K
 Nonfarm Productivity0.8%
 Unit Labor Costs2.3%
FridayNonfarm Payrolls85K
 Private Payrolls78K
 Manufacturing Payrolls0K
 Unemployment Rate4.3%
 Average Hourly Earnings0.3% (3.4% Y/Y)
 Average Weekly Hours34.3
 Participation Rate61.7%
 Consumer Credit$16.0B

Source: tradingeconomics.com

The labor market is certainly confusing compared to what many of us have known throughout our careers.  It is obvious the change in immigration stance by this administration has had a major impact, but so, too, has AI and company responses to that.  I continue to read bifurcated takes on AI either destroying everybody’s jobs or creating many new ones with both sides absolutely certain of the outcome.  One thing I will note is that while the BLS NFP numbers have been subject to major revisions given the inadequacies of the birth/death model for small businesses, I wonder about the ADP data, which I understand is a count of all the paychecks they distribute.  But that data also gets revised, so there is no perfect solution.  What I do think is clear is that less new jobs are necessary to maintain the Unemployment Rate at levels which, in the past, would have been deemed a huge success for the Fed and government.

As to today, headline bingo remains the biggest risk, but there is an awful lot of belief that the equity train rolls on and with it, so too with the dollar’s broad strength in my view as funds flow into the US to hop on board.

Good luck

Adf

Close to a Deal

Posted on by 
Said Bessent, we’re close to a deal
Though not yet the President’s seal
Both sides have agreed
That two months they’ll need
To see if this outcome is real

It can, though, not be too surprising
That stock markets have resumed rising
While oil has slipped
And bond yields, down, dipped
All told, risk is quite appetizing

The major story, although it has been questioned by many, is that there is positive movement toward a deal to end the conflict in Iran.  While I’m sure you will have seen the terms, a quick recap shows that there is to be a 60-day ceasefire to work out the final details.  One of the things I saw this morning was that Iran would send its nuclear material to China, rather than the US, as a compromise, and frankly, that seems like a fine solution.  After all, China enriches the stuff all the time, has many nukes and has never used one.  While we may have disagreements with China on a geopolitical basis, Xi Jinping is not a religious fanatic.  While Treasury Secretary Bessent made the announcement yesterday, he cautioned that President Trump has not yet agreed the details, but it is certainly a hopeful situation.  

Of course, you know who saw it as a hopeful situation?  Risk takers.  The Bloomberg screenshot below is indicative of how things are going, with gains everywhere except China, where it appears that concerns over China-EU trade tensions are weighing on companies there.  With the US having dramatically reduced its market for Chinese exports, Europe had effectively become the major dumping ground, and now that Europe is starting to push back, the question is what will become of all the stuff they continue to produce.  Beggar thy neighbor policies are tougher to inflict on nations that also utilize those same policies.  Just sayin’.

Of course, you won’t be surprised that oil prices have fallen further this morning on the news, down another -1.6% and firmly below $90/bbl, actually below $88/bbl as I type as per the chart below.

Source: tradingeconomics.com

Now, clearly, prices are still substantially above levels seen prior to the Iran conflict, but as of now, the most apocalyptic predictions have simply not materialized.  I saw two interesting comments on this subject this morning with very opposite takes.  First, Javier Blas, the Bloomberg energy analyst/reporter, posted the following chart for jet fuel in Europe.  You may recall that early on, there were many forecasting Europe would run out of fuel and planes would stop flying.

The price action does not indicate a market concerned by imminent shortages of the stuff.  In fact, my understanding is that refineries are cracking so much oil to make jet fuel, that there is actually “excess” gasoline being produced, which would help explain my point yesterday about falling gasoline prices as you can see in the below chart.  Since May 18, wholesale prices have slipped 19%.

Source: tradingeconomics.com

However, there is another side to the argument, the apocalyptic side, which was recently made by Neil Chapman, an Exxon SVP at a conference as per the below X post.

Here’s the thing about comments like this.  First, I have no doubt that Mr Chapman is highly competent and explaining what he sees happening.  I would never suggest he has any motive other than conveying information he believes is important.  But I also have learned, over many years of experience, that arguing with the market is a very painful thing to do.  As Mr Keynes reputedly said almost 100 years ago, “markets can remain irrational a lot longer than you and I can remain solvent.”

So, what to think?  No matter the pedigree of the individual calling for a significantly different outcome than is current, it is very difficult for me to side with the apocalypse if the market disagrees.  And clearly the market disagrees with this thesis.  My understanding is refineries are running flat out right now, which means they have plenty of oil to process.  If, and it’s a big if, the Iran conflict is truly coming to an end, $70/bbl oil and $3.50/gallon gasoline will be with us by Labor Day.  At least that’s my view, and I’m pretty positive on it.

Looking elsewhere, it can be no surprise that bond yields around the world are slipping with Treasuries sliding -4bps yesterday, although they are unchanged this morning.  European sovereign yields were also softer yesterday but are now struggling between the positive idea of the end of the Iran conflict and the negative reality that inflation in Europe continues to rise as reported this morning (Italy 3.3%, Germany 2.6%, Spain 3.6%, France 2.8%), which has the ECB set to hike rates at their meeting as per their own market watch tool.

The problem with this is that economic activity across the continent continues to slow (GDP in Italy 0.8% Y/Y, France 0.9% Y/Y), and hiking rates on the back of a supply shock, especially one that has a fair chance of ending soon, would seem to be a catastrophic error in the making.  Of course, Madame Lagarde is no stranger to catastrophic errors, so, we should assume they will, indeed, hike rates in two weeks’ time.  Even the Fed, no stranger to catastrophic errors, is not prepared to hike rates, although cuts appear to be off the table for now.

Elsewhere, precious metals (Au +0.8%, Ag +0.1%) appear to have put in a short-term bottom while copper (-0.5%) is consolidating after its continued remarkable run.  

And finally, the dollar is stronger this morning, not aggressively so, and not universally, but on net I would say.  NZD (+0.5%) is bucking that trend as further hawkish comments from the RBNZ Governor have traders looking for a rate hike there while INR (+0.9%) has been the biggest beneficiary from the decline in oil prices as India has been one of the most severely impacted nations from the conflict.  Lastly, a note about the yen, where the MOF disclosed that they spent ¥11.73 trillion (~$73.6 billion) intervening in the FX markets last month, a larger amount than had been assumed by the market.  Here’s the problem, as evidenced by the chart below, it didn’t do much good, from the peak print of 160.72 on April 30th(the wick of the huge red candle), the yen is not even 1% stronger as of this morning.  As well, looking at the chart, you can see their subsequent minor interventions as the spikes down.  As I have repeatedly said, if they don’t change policy, the currency will continue to weaken.

Source: tradingeconomics.com

Otherwise, FX is dull and boring today.

Turning to the data, this morning brings the Goods Trade Balance (exp -$86.5B) and then Chicago PMI (50.5).  We also hear from 3 more Fed speakers, but it is hard to believe there is any change in viewpoint there.  Yesterday’s data was, on the whole, better than expected, I would say.  While GDP was a touch soft, Durable Goods was quite robust at 7.9% headline, 1.1% ex Transports.  PCE was as expected to a tick softer, although remains well above 3%, let alone the Fed’s alleged 2% target.  The biggest concern was Personal Income was flat, although Spending (+0.5%) continues apace.  Much has been made by analysts about how the savings rate is collapsing and this presages an economic collapse.  But these are the same folks who keep telling us that oil prices are going to explode as inventories collapse.  Maybe they are right, but as of now, there is no evidence that is the case, at least based on the data.

What to make of it all?  The idea that the Iran conflict is on course to end is clearly the top issue for the market and the economy.  I expect that if this is the case, things will get back to “normal” far more quickly than the pessimists insist as the one thing we have learned is that the ability to resume economic activity is quite robust.  If risk is warmly embraced, then one would assume that yields will decline and the dollar with them, at least for now.  But that also implies that funds will continue to flow into the US markets, which will prevent any significant decline.  And I cannot help but look at Europe with the prospect of hiking rates into an economic slowdown and wonder, again, why anybody wants to hold the euro.

Good luck and good weekend

Adf

Still on Hold

Posted on by 
Despite faster growth
The yen continues to sink
Are rate hikes anon?

It’s funny, in Japan, there is a great deal of angst amongst government officials that the economic situation is under significant duress, and they appear uncertain how to act.  Now, in fairness, the ongoing Iran conflict is clearly problematic for a country that imports essentially 100% of its oil, and most of it travels through the Strait of Hormuz.  But if we look at the data, Japan is holding up remarkably well.  For instance, below is a chart of annual GDP which was released last night showing 2.1% annualized growth in Q1.

Source: tradingeconomics.com

Granted, this is not a chart of an extraordinary expansion, but it is also, relative to its European counterparts, a chart to be envied.  For instance, the below chart of German GDP growth (and I use the term growth loosely) shows that after the Covid reopening, things have basically gone into stagnation.

Source: tradingeconomics.com

My point is that things in Japan seem to be moving along relatively well, with solid growth, especially when one considers that the population in Japan is shrinking, so given GDP = # people working x output/person, it is hard to grow the economy with a shrinking population.  Meanwhile, inflation in Japan remains sticky, although because of government subsidies to ameliorate the costs of electricity and fuel in the wake of the Iran conflict, it is below the 2% target for now.  However, apparently it remains a concern amongst the population there.

Source: tradingeconomics.com

Which brings me to the true market related question, what of the yen?  You may recall a few weeks ago when the BOJ intervened because the yen had traded through the 160 level vs. the dollar and then there seemed to be a few mini interventions in the days that followed.  Yet this morning, as you can see in the below chart, the yen is once again marching toward 160, although I have not seen any commentary from the BOJ or MOF on the subject.

Source: tradingeconomics.com

Bringing it all together, the question I would ask is, why is the BOJ even concerned about raising rates at their next meeting in a few weeks?  Ueda-san has been around a long time and understands the only way to address persistent currency weakness is via policy changes.  Especially now that markets have begun to price rate hikes as the next move in the US (I personally don’t believe that will be the case but that is a different story), the yen will continue to slide unless the BOJ moves.  Yet, with GDP growing decently, and underlying price pressures extant, a rate hike should be an easy call.  Currently, the probability appears to be about 75% that they will hike in June, but certainty they will hike by July, at least according to rateprobability.com as per the below table.  I’m not sure why it is even a question.

The war in Iran’s still on hold
As prices for crude stay controlled
But dollars are bid
And equities skid
While nobody wants any gold

As to the Iran situation, President Trump announced he was delaying, for two or three days, any renewed military action at the behest of the UAE and Qatar who claim that substantive negotiations are underway.  Once again, I make no claims of knowledge about what is actually happening there, although that admission is one that most of the punditocracy seems unwilling to make.  

But here’s a thought.  If you were Ahmad Vahidi, the ostensible leader of Iran, and you have spent the last 3 months in spider holes, caves and basements, moving every 8-12 hours lest someone leaks your location to the Israelis or Americans, how comfortable are you in your position?  After all, one of the reasons that people aspire to lead nations is for all the trappings that come with the job. Not only do you get a nice place to live, but you command respect from the people, at least a significant portion of them.  Is it impossible to believe that Vahidi is actually looking for a way out as well, perhaps willing to give up his nuclear ambitions for the removal of the price on his head?  I know that does not fit the narrative for many folks, and is pure speculation on my part, but is it really that far-fetched?

Ok, in the meantime, as we await the next news from Iran, let’s look at market activities.  Starting in the bond market, yields continue to climb higher pretty much all around the world as inflation concerns remain high and there is a growing concern that government bond issuance is going to grow even faster going forward as countries everywhere seek to rearm quickly.  So, Treasury yields (+3bps) are pushing back to the levels seen in January 2025, although remain 15bps below those levels as per the below Bloomberg chart.

And as has been the case for quite a while now, Treasury yields are leading the global yield market with European sovereign’s all higher by about 2bps and JGB yields jumping 6bps last night after the GDP data.  Certainly, JGB traders believe the BOJ is going to hike rates.

In the equity markets, though, risk appetite remains remarkably robust through all the complexities of the war and economic data.  Yesterday’s US session, which started off deeply in the red, rallied back so the DJIA actually closed higher while the other two major indices dramatically reduced their losses.  This morning, futures markets are pointing slightly lower with the NASDAQ (-0.8%) the laggard as questions continue to arise about how long AI will drive the thesis there.  As to the rest of the world, Asia was mixed with the Nikkei (-0.4%) slipping, although every other index in Tokyo rose, China (+0.4%), HK (+0.5%) and Australia (+1.2%) all gaining.  Korea (-3.25%) and Taiwan I-1.75%), though, had rough sessions as those two markets have been driven by semiconductor companies just like the NASDAQ.  The only other noteworthy move was in Indonesia (-3.5%) as investors are concerned about the central bank raising rates after their meeting concludes tonight.

Europe is in fine fettle this morning with gains across the board led by the DAX (+1.4%) and followed by the CAC (+0.8%), FTSE 100 (+0.7%) and Spain’s IBEX (+0.4%).  I keep reading that there is optimism that an agreement will be reached as the rationale for these moves, but I guess that is the way things go.  Never forget this perfect illustration of how market information is passed.

Turning to oil markets, this morning has seen that war ending optimism here as well with WTI (-0.4%) and Brent (-0.9%) both slipping a bit.  Interestingly, metals markets are not behaving as they have recently as they, too are lower; gold (-0.65%), silver (-2.1%), copper (-1.1%).  In the end, like every market, movement here is entirely dependent on the Iran situation, at least in the short run.

Finally, the dollar is flexing this morning rising against virtually all its major counterparts.  In the G10, AUD (-0.7%) is the laggard, but the euro (-0.3%) and pound (-0.2%) are both under continued pressure with both trading near recent lows as per the tradingeconomics.com chart below.

The rest of the block has not fallen as much but is uniformly lower.  In the EMG bloc, KRW (-1.3%) suffered after the sharp decline in the equity markets there and ZAR (-0.5%) continues to suffer on the back of weaker gold prices.  The one outlier is BRL (+0.3%) which is benefitting despite a weaker economic outlook after some soft data yesterday continues to encourage the potential for further rate cuts there.

And that’s really it for today.  There is no data today although there are 3 Fed speakers, including Governor Waller who many have come to believe is a critical voice for the FOMC.  Broader movement continues to be all about Iran and how things evolve there.  With renewed military engagement on hold, I suspect that the speculators are going to buy stocks again in hopes of a positive outcome.

Good luck

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Less Than Ideal

Posted on by 
Some mornings the quiet is real
With limited news of appeal
But traders still need
Their families, to feed,
A story far less than ideal

Yes, oil prices have traded a bit higher overnight and this morning, albeit amid extremely low volumes.  In fact, it is the volumes that speak to how little people seem to care about markets right now.  We are seeing extremely low volumes across oil, gold, stocks, bonds and even FX markets are quiet.  It’s not that they haven’t moved a bit, it’s just that there is no conviction amongst the trading community as to where things should be heading.  

Of course, this is never true of the narrative community, who will spin up something to get clicks, but frankly their stuff, which is often the thinnest of gruel, has even less traction now.  Arguably, reading through as much as I could this morning, the most noteworthy thing was the following clip I saw on X (and it is a worthwhile use of 13 seconds, I assure you) showing Representative Ilhan Omar discussing World War Eleven.  I wish there was more to say, but since there is not, let’s head to the markets.

The most relevant argument in markets right now is how long can Iran hold out while their revenue stream is stopped by the US naval blockade and correspondingly, how long before they have to start shutting in production?  How full is their storage?  I have seen estimates from what I believe are credible sources of between half full and 80% full which would mean, even in the best case for them, they have about another 2 weeks before shut-ins begin.  And if that happens, they are looking at the permanent destruction of upwards of half their current output.  In other words, this war is not merely existential for the IRGC and their grip on power, but potentially for Iran’s longer-term future as an economy.

In the meantime, oil prices (+3.3%) continue to grind higher on limited volumes as you can see in the chart below with the lower bars indicating volumes.

Source: finance.yahoo.com

As consumers, we are all feeling the pain of this price action, but BP just reported record profits, and we can expect similar outcomes from all the oil majors, making hay while the sun shines as all corporates do.  At the same time, gold (-1.6%) and silver (-3.2%) continue their direct negative correlation to oil.  This relationship seems quite robust at this point.  It appears that the ongoing dollar strength on the back of the rise in oil prices is undermining the status of gold as a haven asset.  I continue to believe this is a temporary phenomenon, but for those long gold, it is nonetheless a painful reminder of how markets can remain perverse.

Speaking of the dollar, yesterday’s modest declines have been reversed this morning with the greenback gaining on the order of 0.25% this morning across the board.  The biggest news here was the BOJ meeting last night where, as expected, Ueda-san left policy unchanged, although the vote was 6-3, with the three dissents seeking a rate hike.  From what I can tell, Ueda-san prattled on for an hour in his press conference without giving any clear direction as to the future, confusing one and all by explaining they may not reach their objectives but may raise rates anyway.  You can see in the chart below when Ueda started speaking as it initially sounded hawkish, but here we are, 7 hours later and it was as though he never opened his mouth.

Source: tradingeconomics.com

The overriding concern in the yen is whether it will weaken through (dollar above) the 160 level, which it briefly touched back in late March, but has since been trading just below.  That is perceived by many as the ‘line in the sand’ regarding intervention.  However, if we go back to the summer of 2024, when the BOJ last intervened, USDJPY was pushing 162 before they pulled the trigger as you can see below.  It certainly suits them that the market is afraid of pushing this envelope, but my take is it will happen before too long.

Source: tradingeconmics.com

As to the rest of the FX space, zzzzz is the story.  Perhaps the other interesting thing is that NOK (-0.15%) is weaker despite oil’s climb.  Everything else is softer vs. the dollar by -0.2% and -0.4% with no real outliers.  FX is just not that interesting, like most markets these days.

In the equity space, yesterday’s US performance was uninspiring, but we saw more weakness (Tokyo -1.0%, HK -1.0%, China -0.3%, India -0.5%, Australia -0.6%) than strength (Korea +0.4%, Malaysia +0.7%) across Asia.  However, there are no new stories to drive things here with the Iran war and energy prices the only topic of note.  In Europe, markets are feeling better this morning with gains across the board led by Spain (+1.0%) and the UK (+0.6%). I must admit I am confused by the Spanish performance as the only data point of note released this morning was Spanish Unemployment which jumped to 10.83% (such precision), far above last month’s 9.93% and a full point above economists’ forecasts.  But I guess if you look at the longer-term history of Spanish Unemployment, this is still far better than it has been in the past and the trend remains intact.

Source: tradingeconomics.com

Meanwhile, US futures are pointing lower at this hour (7:25) with OpenAI having missed its own targets for user acquisition undermining the overall AI thesis thus far this morning.  Plenty of time for that to change though, at least based on how buying remains the default position.

Finally, bond markets have sold off with yields continuing to edge higher across the board.  While it’s not really a rout, as you can see from the Bloomberg screenshot below, every European sovereign yield is higher along with treasuries, although JGB’s managed to remain unchanged overnight.

Certainly, there is nothing new in the bond market right now, although I imagine as the Iran war drags on, we will see increased government borrowing across the board which ought to pressure yields higher.

And that’s it, really, for this morning.  We see the Case-Shiller Home Price Index (exp 1.1%) at 9:00 this morning and Consumer Confidence (89.0) at 10:00.  Neither of these is going to matter to traders anywhere, not even algos.  

Until there is a change in the situation in Iran, it is hard to see more than lackluster interest across most markets.  I imagine that if this extends for weeks, the offsetting forces of reduced supply and demand destruction will find an equilibrium point, which may well have already been found around $100/bbl.  Remember this with respect to the dollar, since oil is priced in dollars almost universally, there is going to continue to be demand for the greenback everywhere in the world.  It is hard for me to make a significant bearish case for the dollar right now, at least in the medium or long-term.  In the short term, who knows?

Good luck

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