Jay’s Motivation

Posted on July 29, 2024 by fxpoet

The Keynesian view of inflation
Claims growth is its major causation
If that is the case
Then given the pace
Of growth, what is Jay’s motivation?

Instead, ought he not be concerned
Inflation will soon have returned?
Or does he believe
That he can deceive
The market without getting burned?

Another week passed with another set of confusing data. But more important than the data’s inconsistency is the inconsistency in the arguments made by those desperate for the Fed to cut rates. For instance, former NY Fed president Bill Dudley wrote a widely read article for Bloomberg saying that he had suddenly become a convert and that the Fed needed to act this week and cut rates. Granted, he wrote this article the day before the much hotter than expected GDP data was printed, but nonetheless, he had been a staunch hawk and changed his feathers. And he is not alone, with a number of other high profile financial personalities (I’m looking at you Claudia Sahm) in the same camp.

But I would ask them the following: since you are strong proponents of Keynesianism which describes inflation as a direct result of strong growth and labor markets, given that GDP is running at 2.8% annualized, double Q1’s pace and above trend, and a federal government budget deficit that is approaching 7% despite that growth, and the latest PCE data showing that services inflation remains quite robust (the 6-month level has risen to 5.4%), why do you think the Fed should cut rates? By your own thesis, inflation is more likely to rise than fall given the economic strength. Alas, either no journalist will ask that question, or no Fed official will answer.

At the same time, those analysts who have been calling for a recession in the near future, continue to dig through the better-than-expected data releases and find the weak points to make their case. Here’s the thing, Powell and company cannot point to yet another subindex of the major data points and claim that is why they are cutting. He remembers far too well his focus on so-called super core (core ex housing) with the expectation that housing was the problem and if he removed the part of the index that was rising, the rest of the index would be lower. Alas for his finely tuned plans, that number continues to power along at 4.0% or higher. He will not make the same mistake again and focus on some obscure view.

At this point, there is certainly no reason for the Fed to act this Wednesday, and unless the economy essentially falls out of bed by September, it will be difficult to make that case as well. This is not to say they won’t cut in September come hell or high water, just that if the economy proceeds as it currently appears to be doing, there will be no justification. But just to put an exclamation point on the likelihood a cut is coming in September, this morning the Fed whisperer, Nick Timiraos, told us that is the case in his latest missive for the WSJ.

In addition to the Fed meeting this week, we also hear from Ueda-san and the BOJ on Tuesday night and Governor Bailey and the BOE on Thursday morning. Given the near certainty that the Fed is going to remain on hold this week, arguably the BOJ is the far more interesting meeting, at least for financial market cues. Remember, the narrative has been that the BOJ was finally going to start to “normalize” their policy, lifting interest rates above 0.0% and start to reduce their ongoing QQE program. Now, this has been the story since last October, and while they did exit the NIRP stage back in March, there has been nothing since then. Not only that, as I highlighted last week, inflation in Japan is already slowing with the current policy.

In addition, the yen, while it has backed away from its recent highs (dollar lows) by about 1%, is far from its worst levels and appears to be trending slowly higher, exactly what they want. I see no case for a rate hike here, although we will certainly hear about how they may modify their QQE actions going forward. (As an aside, for those with JPY exposures, 152.00 is a very critical level in the market’s perception and a break below that level could well lead to a significant decline in the dollar.)

Lastly, the BOE is going to cut by 25bps. Given that the ECB has already cut, as has Switzerland and Canada, they will not be able to hold out any further. I don’t think we need any rationale beyond this to believe Bailey will act.

Ok, let’s look at the overnight market activities. Friday, you may recall, US equities rebounded sharply from the short-term correction and Japanese shares (Nikkei +2.1%) followed right along, as did the Hang Seng (+1.3%) and almost every other major market in Asia save one, China (CS! 300 -0.5%) as there continues to be a distinct lack of progress on the economy there. In Europe, the situation is mostly positive as both the DAX (+0.4%) and Spain’s IBEX (+0.6%) are rallying nicely but the French (CAC -0.1%) are suffering a bit, perhaps because of the seemingly constant mishaps regarding the Olympics and the nation’s infrastructure. This morning, major internet connections were severed around the country, although backups are now working, which added to a dramatic blackout over the weekend and the high-speed rail ~~terrorist~~ arsonist attacks late last week. But here at home, US futures are firmly in the green (+0.4%) at 6:15am.

In the bond market, euphoria is the story as virtually every major bond market has rallied with yields falling around the world. Treasury yields are lower by -4bps while across European sovereigns, we are seeing declines of between -5bps and -7bps across the board. Even JGB yields (-4bps) have fallen, perhaps another signal that the BOJ is unlikely to be acting this week.

In the commodity markets, oil (-0.3%) cannot seem to find any support of note despite a significant inventory draw last week and an escalation in events in the middle east over the weekend. For the past year, oil has traded between $70/bbl and $90/bbl and we continue to trade in that range with no exit in sight. We will need to see some very significant economic changes, either a sharp recession or a giant rebound in China, to break out of this range I believe, neither of which seems like a near-term phenomenon. In the metals space, gold (+0.3%) continues to find support even after a sharp decline a couple of days last week, with spot hovering just below $2400/oz. This morning, silver (+0.75%) is also rallying but copper (-1.1%) is in a sharp downtrend, despite the news that the workforce at the world’s largest copper mine, Escondida in Chile, is preparing to go on strike.

Finally, in the currency markets, despite the lower yields everywhere and the generally positive risk environment, the dollar is higher nearly across the board. Both the euro and pound are softer by about -0.2% and we are seeing the EEMEA currencies following suit with declines on the order of -0.4% across this bunch. USDJPY is little changed this morning although CNY (-0.1%) is edging lower again after the PBOC’s recent efforts to prevent a sharp decline in the wake of their rate cuts. Interestingly, the outlier this morning is NOK (+0.3%) despite oil’s decline and there is no obvious catalyst for this movement. One other currency that is bucking this trend is AUD (+0.1%) which while not much higher this morning, given it has been falling sharply every day for the past two weeks, seems to have found a bottom. That movement is highly linked to the JPY strength as AUDJPY is a favorite carry trade for many in both the institutional and retail spaces. If USDJPY does break through that 152 level look for AUD to continue its decline.

On the data front, we know it is a big week, but here are the details:

Tuesday	Case Shiller Home Prices	6.6%
	JOLTS Job Openings	8.03M
	Consumer Confidence	99.5
Wednesday	BOJ Interest Rate Decision	0.1% (unchanged)
	ADP Employment	149K
	Treasury QRA
	Chicago PMI	44.5
	FOMC Rate Decision	5.5% (unchanged)
Thursday	BOE Rate Decision	5.0% (-0.25%)
	Initial Claims	236K
	Continuing Claims	1860K
	Nonfarm Productivity	1.7%
	Unit Labor Costs	1.8%
	ISM Manufacturing	49.5
	ISM Prices Paid	52.5
Friday	Nonfarm Payrolls	175K
	Private Payrolls	150K
	Manufacturing Payrolls	-2K
	Unemployment Rate	4.1%
	Average Hourly Earnings	0.3% (3.7% Y/Y)
	Average Weekly Hours	34.3
	Participation Rate	62.5%
	Factory Orders	-3.0%
	-ex transport	+0.3%

Source: tradingeconomics.com

Obviously, an awful lot to consume and digest this week with the central banks and then NFP. In addition to all that, we have a significant amount of earnings data coming from some big names including Apple, Amazon, Meta and Microsoft. Certainly, the strong expectation is for the Fed to remain on hold and prepare the market for a September cut. That is already priced into the futures market, so much will depend on the tone of the statement and the press conference following the meeting. As such, my sense is the real unknown is the BOJ early Wednesday morning, but I suspect they leave rates on hold. If they do hike, I would look for USDJPY to break that key support level of 152, so that feels like the biggest risk heading into the week.

Good luck

Adf

No Choice

Posted on July 17, 2024 by fxpoet

Data indicates
The BOJ intervened
Did they have no choice?

Last night, Masato Kanda, the Vice Minister of Finance for International Affairs, colloquially known as Mr Yen explained, “I have no choice but to respond appropriately if there are excessive moves caused by speculators.” He also explained, “We are communicating very closely with the authorities of each country and complying with international agreements, so there has been no criticism from other countries.” In other words, while he did not actually come out and say that the BOJ intervened on behalf of the MOF, it seems pretty clear that is the case. Certainly, a look at the price action again last night, as per the below chart, shows that is a viable reality.

Source: tradingeconomics.com

You may recall that USDJPY fell sharply in the wake of the CPI data last week and there was substantial question as to whether there was intervention at the time. My view was the BOJ would not have been able to act on a timely basis and attributed the move to an overly long dollar positioned market and some algorithmic selling. However, it appears that data from the BOJ’s accounts have since been released showing approximately ¥6 trillion (~$38.4 billion) was spent at the end of last week. Now, given the Kanda comments above, the reality is that the MOF is drawing a line in the sand at 162.

In fairness, this seems a propitious time to do so given the growing certainty that the Fed is finally going to begin its policy easing. Of course, the main reason that the yen had weakened so much is that, not only had the interest rate differential widened substantially, allowing for, and even encouraging, the growth of the ‘carry trade’ where investors were happy to simply hold long forward USDJPY positions and wait for the time to pass and the profits to roll in. But as well, there was no indication that the Fed was going to change its stance while the BOJ, though it had threatened to begin tightening policy, was doing so at a glacial pace. However, that CPI number has dramatically altered opinions, not only of the trading community, but more importantly, of the Fed. All the Fed comments we have heard since that data point have indicated a much greater willingness to consider easing policy. Talk about both the goods and labor markets coming into balance are indicators they are ready to roll.

We still have seven more Fed speakers this week ahead of the quiet period and I would wager that to a (wo)man, they will all say their confidence is growing that price pressures are receding, and they are watching the employment situation carefully. As I wrote yesterday, the CME Fed funds futures market is pricing a 100% probability of a 25bp cut in September with some folks looking for 50bps. Given the totality of the recent data where the probability of a recession seems to be growing, I agree a September cut looks likely. This is not to say every data point is going to be pointing to weaker economic activity (e.g., yesterday’s Retail Sales data was much stronger below the headline number), just that will be the broad trend.

In this situation, with the market starting to believe that higher for longer is truly dead, the initial reaction will be for further dollar weakness. Of course, once it is clear the Fed has begun to ease policy, we will see other central banks increase their pace of policy ease at which point the dollar’s decline will likely slow or stop. Remember, FX is a relative game, so if everybody is easing policy at the same time, those interest rate differentials are not going to change very much at all. However, commodity prices, especially precious metals prices, are likely to be the biggest beneficiaries. As to stocks and bonds, the former have a much less certain path given the impact of declining inflation on profits, especially for the mega cap names, but bonds should perform well (yields declining) at least as long as inflation remains tame. Just beware of a slow reversal of the inflation story. Nothing has changed my view that 3.0% is the new 2.0%.

Aside from the yen news, last night was decidedly lacking in new information. We saw UK inflation data print at the expected levels showing it has fallen back close to their target of 2%. We saw final Eurozone inflation also confirming a 2.5% inflation rate. While the ECB has essentially ruled out a rate cut tomorrow, a September cut seems highly likely at this time, especially if they have confidence the Fed is going to cut then as well.

So, let’s look at the overnight session. After more record highs in the US, with the DJIA approaching 41K, the tone in Asia was more mixed. Japanese shares (Nikkei -0.4%) fell as the yen’s strength continues to hamper profit expectations for the many exporters in the index. Chinese shares, both in Hong Kong and on the mainland, edged higher by less than 0.1% as investors continue to wait to hear the results of the Third Plenum. As to the rest of the region, gains in Australia and New Zealand were offset by losses in South Korea with most other markets little changed. however, in Europe this morning, the screens remain red with losses across the board, albeit not as significant as we have seen in the past several sessions. The DAX (-0.4%) is the laggard although all the major markets are lower. Finally, at this hour (7:20), US futures are suffering led by the NASDAQ (-1.5%) although they are all under pressure. It seems that the story about increased tariffs on Chinese goods as well as a ban on selling additional semiconductors to China doesn’t help the prospects of semiconductor companies that rely on China for their sales.

Interestingly, the bond market has seen yields edge higher this morning with Treasuries higher by 2bps and most of Europe up by 1bp. Given the small size of the movement, I wouldn’t attribute much fundamental thought to today’s price action, and after all, 10-year Treasury yields have fallen 30bps since the first of the month, so a lack of continuation is not that surprising.

In the commodity markets, oil (+0.5%) is rebounding after a rough couple of days. The weakening economy story is weighing on perceived demand and there is ample supply around. Gold (+0.1%) is continuing to rally after closing at another all-time high yesterday while silver (-0.9%), which followed gold yesterday, is giving back a bit this morning. Industrial metals are little changed this morning as they await further confirmation of the economic situation.

Finally, the dollar is under pressure this morning, falling substantially against almost all of its major counterparts, both G10 and EMG. Aside from the yen (+1.1%) which we discussed above, the pound (+0.5%) is leading the way along with SEK (+0.6%) although the euro (+0.35%) is also firm. In fact, the pound has risen above 1.30 for the first time in a year while the euro pushes the top of its 1.0650/1.0950 2024 trading range. The laggard in the G10 space is CAD, which is unchanged on the day as market participants tie its performance directly to the dollar and anticipate the BOC to match the Fed going forward. In the EMG bloc, though, there are two outliers which have suffered today, despite the dollar’s broad weakness, MXN (-0.6%) and ZAR (-0.7%). The peso seems to be feeling the effects of weaker than expected economic data lately which has put Banxico into a difficult position as inflation remains above their target. Will they cut to support the economy and undermine the currency? That is the question. As to the rand, aside from its status as the most volatile currency, the market seems to be reacting to a sharp decline in Retail Sales last month, -0.7%.

On the data front, this morning brings Housing Starts (exp 1.3M), Building Permits (1.4M), IP (0.3%) and Capacity Utilization (78.4%) along with the EIA oil inventories. In addition, we will hear from Richmond’s Thomas Barkin and Governor Waller and then at 2:00 the Fed’s Beige Book will be released. The current market narrative has quickly shifted to rate cuts, and more tariffs. The upshot is the dollar is likely to remain under pressure while equities will have a more difficult time going forward. If inflation remains quiescent, then bonds can do well, but the big winner through it all should be commodities.

Good luck

Adf

To Oblivion

Posted on June 26, 2024 by fxpoet

The yen continues
To grind ever so slowly
To oblivion

Well, for all those who were either concerned or anxiously awaiting USDJPY’s move to and above 160, we got there early this morning, and the world has not ended. Not only that, but there is no sign of the BOJ/MOF, nor do I believe will there be for a while yet. As I explained on Monday, history has shown, and the MOF has been explicit, that they are far more concerned with the pace of any movement in the currency, rather than the specific level at which it trades. So this much more gradual decline in the yen, while potentially somewhat uncomfortable given its possible impact on inflation going forward, is just not alarming. You can expect to hear Kanda-san or Suzuki-san reply when asked about the currency that they are watching it closely and prefer a stable currency, but I believe they are fairly relaxed about the situation this morning.

A look at the chart below from tradingeconomics.com shows the trend has been steady all year (which given the interest rate differential between the two currencies makes perfect sense) and that only when things accelerated back at the end of April did it generate enough concern for the MOF to act. If we see another sharp movement like that, you can look for another round of intervention. But, at the current pace, likely all we will get is some commentary about stable movement and vigilance.

Source: tradingeconomics.com

While many worldwide want to think
Inflation is starting to shrink
The data released
Shows it has increased
Down Under with Quebec in sync

With all eyes on Friday’s PCE data as a harbinger of the next Fed activity, it is worthwhile, I think, to mention what we have just seen from two other G10 nations regarding their inflation situation. Starting north of the border, you may recall that earlier this month the Bank of Canada cut their base rate by 25bps in anticipation of achieving their 2% target given the prior direction of travel of their CPI statistics. Oops! Yesterday revealed that both the headline and core readings rose a much higher than forecast 0.6% in May, bringing the annual readings to 2.9% and 1.8% respectively. As well, they focus on the Trimmed-Mean annual number, which also surprisingly rose to 2.9%. now, one month does not a trend make, but Governor Macklem may have some ‘splainin’ to do the next time he speaks. It is possible that inflation has not turned the corner after all.

Meanwhile, Down Under, the RBA must be feeling a bit better as they have maintained a more hawkish stance overall, arguably the most hawkish of any G10 member, and last night’s CPI reading of 4.0%, a 0.4% rise from the April data and 0.2% higher than forecast, is a reminder that inflation can be difficult to conquer for all central banks. Since December, the readings Down Under had been in the low 3’s and many pundits were anticipating that the next leg was lower there as well. Oops again!

With this in mind, it can be no surprise that the two Fed speakers yesterday, Bowman and Cook were both leaning toward the hawkish end of the spectrum. In fact, Bowman even raised the possibility of future rate hikes as follows [emphasis added], “Reducing our policy rate too soon or too quickly could result in a rebound in inflation, requiring further future policy rate increases to return inflation to 2% over the longer run.” At the same time (well actually, 2 hours earlier) Governor Cook did explain she sees rate cuts coming, just not the timing. To wit, “With significant progress on inflation and the labor market cooling gradually, at some point it will be appropriate to reduce the level of policy restriction to maintain a healthy balance in the economy. The timing of any such adjustment will depend on how economic data evolve and what they imply for the economic outlook and balance of risks.”

It strikes me that no matter how you parse these comments, right now, there is no indication that pretty much anybody on the FOMC is considering rate cuts soon. Futures markets have not really changed their pricing lately with a 10% probability of a July move and a 64% probability of a September cut. However, one interesting tidbit is that in the SOFR futures options market, there has been a very substantial position building in March 2025 97.75 SOFR calls. For these to pay off, Fed funds would need to fall about 300bps between now and March, far more than is discussed or priced right now. While this could certainly be a position hedge of some sort, it does have many tongues wagging.

Ok, a review of the overnight session shows that we are still amid the summer doldrums overall, with some movement in markets, but nothing very dramatic and no real trends developing. In Asia, the Nikkei (+1.25%) rallied on the back of the weak yen and is back approaching the 40K level, although a look at the chart shows simply choppy price action with no direction. Hong Kong was flat, Shanghai (+0.65%) rose and Australia (-0.7%) fell on the back of that inflation data and the realization that the RBA is not cutting rates anytime soon. In Europe, the movement has been weaker, rather than stronger, with French (-0.55%) and Spanish (-0.4%) shares both softer although German and UK shares are essentially unchanged today. Finally, US futures are mixed with small gains for the NASDAQ and S&P while DJIA futures are following through on yesterday’s index declines.

In the bond markets, higher yields are the order of the day with Treasuries and virtually all of Europe higher by 3bps. Overnight, JGBs saw a similar rise in yields which has now taken the 10yr yield there back above that 1.00% pivot. The outlier here is Australia, which given the CPI data there, not surprisingly saw yields jump more, in this case by 11bps.

In the commodity markets, oil (+0.6%) is rebounding from yesterday’s modest declines which came about after API inventory data showed a modest build instead of the expected decline. Gold (-0.4%) is under pressure along with most metals on the back of the dollar’s strength today. In fact, my sense is the dollar is the driver right now.

So, speaking of the greenback, the only G10 currency to make a gain this morning is AUD (+0.15%) based on the higher yields Down Under. Otherwise, the rest of the space is weaker between -0.2% and -0.5% with SEK the laggard. In the EMG space, there is only one currency managing to hold its own, ZAR (+0.5%), which looks more like a trading bounce than a fundamental shift as there has been no data and no news yet on the political front regarding President Ramaphosa’s cabinet appointments. Otherwise, the noteworthy move is that USDCNY has breached 7.30 for the first time since November as the pressure of higher US rates and an overall stronger dollar are too much to prevent continued weakness in the renminbi.

The only data this morning is New Home Sales (exp 640K) and the EIA oil inventories, which while important for the price of oil generally don’t have a macro impact otherwise. As well, there are no Fed speakers on the calendar, but I cannot believe that at least one of them will want to hit the airways somehow.

So, the dollar has legs this morning and unless we get pushback that inflation is falling more clearly, I suspect that yields and the dollar will remain well bid. It doesn’t feel like there is something that can change opinions due today. Tomorrow and Friday, though, have that opportunity, so we shall see.

Good luck

Adf

Will They Return?

Posted on June 24, 2024 by fxpoet

One-Sixty is so
Close, you can almost touch it
But, will they return?

The current Mr Yen, Masato Kanda, was on the tape last night as USDJPY creeps ever closer to the 160 level that triggered the most recent bout of inflation at the end of April. He explained, “If there are excessive currency fluctuations, it has a negative impact on the national economy. In the event of excessive moves based on speculation, we are prepared to take appropriate action.” At this point, the overnight high of 159.89 is just 28 pips from the peak seen prior to the last bout of intervention, although the price action this time is far more muted than what we saw then. While the yen’s decline has been steady, as can be seen in the below chart, it hasn’t been so swift it appears out of control.

Source: tradingeconomics.com

One of the key rationales for the previous bout of intervention was that the weakening of the yen occurred too rapidly, with a 10-yen decline seen over a short six-week period. That has not been the case this time, so I do not anticipate any MOF/BOJ action at 160, but rather somewhere closer to 165 if we see that during the summer. Remember, the BOJ meets again at the end of July at which point they are expected to present their new bond buying program with reduced amounts of JGBs, their version of QT. Remember, too, that there is still a huge interest rate differential between the US and Japan, and until that narrows, and is expected to narrow further, it is very difficult to see the yen showing any substantive strength. While caution is merited here, as the BOJ can certainly enter the market at any time, based on the summary of opinions from the last BOJ meeting, which were released last night, there is no clear consensus on the pace of either QT or rate hikes. The yen seems to have further to fall this summer.

In China, the powers that be
Are scared that their own renminbi
May fall and expose
The emperor’s clothes
Are missing, and that all might see

As things in the West are awaiting two key events at the end of the week, the PCE data in the US on Friday and the French elections on Sunday, we shall continue our look at Asia. The CNY market onshore is frozen as it is pegged at the 2% maximum movement from the daily CFETS fixing. Last night’s fixing of 7.1201 indicates that the highest the dollar can trade on shore is 7.2625, the level at which it is currently pegged. In fact, given the interest rate differentials between the US and China, funding of traders’ books is becoming impossible because the one-day forward points will result in a price above the band.

While the offshore renminbi is slowly grinding lower, the pressure on the PBOC to adjust its daily fixing more rapidly grows. This issue is a result of the following incompatible goals as defined by President Xi; support the collapsing local property markets by easing monetary policy while maintaining a stable and strong renminbi to demonstrate to the world that CNY should be a global currency (despite the capital controls in place!). Alas for President Xi, these two ideas do not work in concert with the result that onshore FX markets are likely to remain frozen until things change. A look at President Xi’s history tells me, at least, that like the Red Queen, he can believe multiple impossible things at the same time. Ultimately, the great irony here is that despite Xi’s desires to demonstrate the importance of the renminbi to the world, he is entirely reliant on the Fed to cut rates in order to break this deadlock, and I strongly suspect that Chairman Powell cares not one whit about Xi Jinping and his problems.

Looking ahead, I anticipate the renminbi will grind lower over time as it remains the only outlet for the still lackluster growth in the economy with the property market problems forcing interest rates lower than otherwise would be desired. Arguably, this is why the Chinese, in their current bout of trade talks with the EU, is demanding that Europe removes its tariffs on Chinese EVs. Since they can’t weaken the currency further, they need to get the other side to effectively cut prices for them.

Ok, let’s review the overnight activity. After Friday’s lackluster equity markets in the US (the NASDAQ actually fell, which I thought was illegal), the picture in Asia was mixed with the Nikkei (+0.5%) rallying a bit as the weak yen continues to support their exporters, while mainland Chinese shares (-0.5%) suffered as the ongoing weak economic data (Friday night showed Foreign direct investment fell -28.2% YTD, the weakest performance since 2009, and another indication that the renminbi is too strong). As to the rest of the region, there were more laggards (Korea, Taiwan, Australia, New Zealand), than gainers (India, Singapore, Thailand). However, in Europe this morning, the screens are all green as the limited data, German Ifo, indicated continued weakness raising hopes for a July rate cut by the ECB. As to the US futures market, at this hour (7:15), they have edged slightly higher, about 0.15%.

Treasury yields have moved higher by 1bp but remain far closer to recent lows than the highs seen a month ago. But the story in Europe is interesting as the Bund-OAT spread has narrowed by 5bps after comments by the RN party’s Jordan Bardella, the leading candidate as new PM, that were far more muted and accepting of Europe as a whole, and less populist financial goals. This has played itself out across the entire continent with the perceived weaker countries seeing their yields slide slightly while Germany and the Netherlands have seen yields edge higher. In Asia, JGB yields backed up 2bps to 0.98%, arguably in response to the summary statements from the BOJ.

Oil prices are continuing to show strength, up another 0.5% this morning, as the inventory draw from last week continues to support the market. Meanwhile, after a very difficult session on Friday, metals prices are stabilizing with gold and silver both up 0.15%, although copper, which was higher earlier in the session, has now reversed course and is down -0.6%.

Lastly, the dollar is broadly, though not universally, under pressure this morning, with the euro (+0.35%) the driver in the G10 market which is also dragging the CE4 higher (PLN +0.9%, HUF +0.5%). Bucking the trend is the rand (-1.0%) as market participants start to wonder who President Ramaphosa will be appointing to his cabinet now that he must share power. One must be impressed with the volatility in the rand of late, that is for sure.

On the data front, while we get several indicators earlier in the week, all eyes will be on Friday’s PCE data.

Today	Dallas Fed Manufacturing	-13
Tuesday	Chicago Fed National Activity	-0.4
	Case-Shiller Home Prices	6.9%
	Consumer Confidence	100.0
Wednesday	New Home Sales	640K
Thursday	Initial Claims	236K
	Continuing Claims	1820K
	Durable Goods	0.0%
	-ex Transports	0.1%
	Q1 GDP (Final)	1.3%
Friday	Personal Income	0.4%
	Personal Spending	0.3%
	PCE	0.0% (2.6% Y/Y)
	Core PCE	0.1% (2.6% Y/Y)
	Chicago PMI	40.0
	Michigan Sentiment	65.7

Source: tradingeconomics.com

As well as the data, we hear from five more Fed speakers with Governor Michelle Bowman speaking at three separate events this week. However, thus far, there has been no substantive change from the Powell mantra that they need to see more evidence that inflation is slowing, several months’ worth, before considering easing policy. Of course, if next week’s Unemployment rate were to tick up to 4.2%, I imagine that mantra might change.

On the central bank front, only Sweden’s Riksbank meets this week, and no policy change is expected. If you recall last week, the bulk of the data was soft in the US, although the PMI data surprised to the high side. However, if the data set is beginning to show more weakness, I suspect the Fed will begin to hint that cuts are possible sooner, rather than later. Right now, the market is pricing about a 10% probability for the July meeting, but more than a two-thirds probability for September. A little more weak data and I will likely adjust my views of rate cuts coming. At that point, I think the dollar will suffer significantly. But until we get a lot more evidence that is on the way, I think the default is the dollar is still the best bet.

Good luck

Adf

Ain’t

Posted on June 14, 2024 by fxpoet

Ueda explained
Buying bonds is still our bag
But buying yen ain’t

The last of the major central banks met last night as the BOJ held their policy meeting. As expected, they left the policy rate unchanged between 0.00% and 0.10%. However, based on the April meeting comments, as well as a “leak” in the Nikkei news, the market was also anticipating guidance on the BOJ’s efforts to begin reducing its balance sheet. Remember, they still buy a lot of JGBs every month, so as part of the overall normalization process, expectations were high they would indicate how much they would be reducing that quantity.

Oops! Here is their statement on their continuing QQE program [emphasis added]:

Regarding purchases of Japanese government bonds (JGBs), CP, and corporate bonds for the intermeeting period, the Bank will conduct the purchases in accordance with the decisions made at the March 2024 MPM. The Bank decided, by an 8-1 majority vote, that it would reduce its purchase amount of JGBs thereafter to ensure that long-term interest rates would be formed more freely in financial markets. It will collect views from market participants and, at the next MPM, will decide on a detailed plan for the reduction of its purchase amount during the next one to two years or so.

In other words, they have delayed the onset of their version of QT by another month and based on the nature of their process, where they pre-announce the bond buying schedule on a quarterly basis, it is entirely possible that the delay could be a bit longer. You will not be surprised to know the yen fell sharply on the news, as per the below chart.

Source: tradingeconomics.com

In fact, it traded to its weakest (dollar’s highest) level since just prior to the intervention events in April. However, as you can also see, that move was reversed during the press conference as it became clear to Ueda-san that his delay did not result in a desired outcome. The issue was the belief that the BOJ cannot make decisions on interest rates and QT simultaneously (although for the life of me, I cannot figure out why that was the belief), and so Ueda addressed it directly, “We will present a concrete plan for long-term JGB buying operations in July. Of course, it’s possible for us to raise the short-term interest rate and adjust the degree of monetary easing at the same time depending on the information available then on the economy and prices.”

In the end, the only beneficiary of this was the Japanese stock market, which managed a modest rally of 0.25%. Certainly, this did not help either Ueda’s or the BOJ’s credibility that they are prepared to normalize policy, and it also left the entirety of currency policy in the lap of the MOF. The problem for Ueda-san is that until the Fed decides it is time to start cutting interest rates, a prospect which seems further and further distant, the yen is very likely to remain under pressure. I am beginning to suspect that despite Ueda’s stated goal of normalizing monetary policy, the reality is that, just like every other central banker today, his bias is toward dovishness, and he cannot let go. I fear the risk is that the yen could weaken further from here rather than it will strengthen dramatically, at least until there are real policy changes. FYI, JGB yields closed 3bps lower after the drama.

Away from that, the overnight session informed us that Chinese economic activity appears to be slowing, at least based on their loan growth, or lack thereof. Loans fell, as did the pace of M2 Money Supply and Vehicle Sales. While none of these are typically seen as major data releases, when combined, it seems to point to slowing domestic activity. The upshot is a growing belief that the PBOC will ease policy further thus supporting Chinese equities (+0.45%) and maintaining pressure on the renminbi which continues to trade at the limit of its 2% band vs. the daily CFETS fixing.

As to Europe, it is becoming clearer by the day that investors around the world have begun to grow concerned over what the future of Europe is going to look like. Despite the ECB having cut their interest rates last week, the results of the European Parliament elections continue to be the hot topic and we are seeing European equity markets slide across the board, with France (-2.5% today, -5.8% this week) leading the way lower as President Macron’s Renaissance Party looks set to be decimated in the snap elections at the end of the month. But the entire continent is under pressure with Italy (-2.8% today, -5.7% this week) showing similar losses and the other major nations coming in only slightly better (Germany -2.75% this week, Spain -3.9% this week). You will not be surprised to know that the euro (-0.4%) is also under pressure this morning, extending its losses to -1.0% this week with thoughts it can now test the lows seen last October.

There is a great irony that the G7 is meeting this week as so many of the leaders there, Italy’s Giorgia Meloni and Japan’s Kishida-san excepted, looks highly likely to be out of office within a year. Macron, Olaf Sholz, Justin Trudeau, President Biden and Rishi Sunak are all far behind in the polls. One theory is that the blowback from the draconian policies put in place during the pandemic restricting freedom of movement and speech within these nations, as well as the ongoing immigration crisis, which is just as acute in Europe and the UK as it is in the US, has turned the tide on the belief that globalization is the best way forward.

Earlier this year I forecast that there would be very severe repercussions during the multitude of elections that have already taken place and are yet to come. Certainly, nothing has occurred that has changed that opinion, and in fact, I have a feeling the changes are going to be larger than I thought.

The reason this matters is made clear by today’s market price action. If the world is turning away from globalization, with a corresponding reduction in trade, equity markets which have been a huge beneficiary of this process (or at least large companies have directly) are very likely to come under further pressure. As well, fiscal policies are going to put more pressure on central banks as the natural response of politicians is to spend more money when times are tough, and we could see some major realignments in market behaviors. This will lead to ongoing inflationary pressures, thus weaker bond prices and higher yields, weaker equity prices, much strong commodity prices and the dollar, ironically, likely to do well as it retains its haven status. Certainly, the euro is going to be under pressure, but very likely so will many other currencies. This is a medium to long-term concept, certainly not something that is going to play out day-to-day right now, but I remain firmly in the camp that many changes are coming.

As to the rest of the markets overnight, yields are falling everywhere (Treasuries -5bps, Gilts -9bps, Bunds -12bps, OATs -6bps, Italian BTPs -1bp) as investors are seeking havens and for now, bonds seem better than stocks. You will also notice that the spread between Bunds and other European sovereigns is widening as there is clear discernment about individual nation risk. This is not a sign that everything is well.

Maintaining the risk-off thesis, gold (+1.25%) and silver (+1.00%) are rallying despite a much stronger dollar this morning and we are also seeing some strength in oil (+0.2%).

As to the dollar, it is stronger vs. almost every one of its counterparts this morning, most by 0.3% or more with CE4 currencies really under pressure (PLN -1.0%, HUF -0.8%). However, there are two currencies that are bucking this trend, CHF (+0.25%) which is showing its haven characteristics and ZAR (+0.5%) where the market is responding to the news that the ANC has put together a coalition and that President Ramaphosa is going to remain in office.

Yesterday’s PPI data showed softness similar to the CPI on Wednesday but more surprisingly, the Initial Claims number jumped to 242K, its highest print since August 12, 2023, and a big surprise to one and all. The combination of data certainly added to yesterday’s feel that growth and inflation were ebbing. This morning, we get the Michigan Sentiment (exp 72.0) and then a couple of Fed speakers (Goolsbee and Cook) later on during the day.

I should note that equity futures are all in the red this morning, with the Dow continuing to lag the other markets, probably not a great signal of future strength. Arguably, part of today’s price movement is some profit taking given US equity markets have rallied this week and month. But do not discount the bigger issues discussed above as I believe they will be with us for quite a while to come and put increasing pressure on risk assets with support for havens. As such, I think you have to like the dollar given both the geopolitical issues and the positive carry.

Good luck and good weekend

Adf

Crushed

Posted on June 10, 2024 by fxpoet

On Friday, the NFP showed
That job growth has not really slowed
And wages were hot
So, pundits all thought
That ‘flation just might well explode

But under the NFP’s hood
Some things didn’t look quite so good
The joblessness rate
Itself did inflate
Though household jobs fell, understood?

Meanwhile across Europe the vote
For Parliament seems to denote
Incumbents were crushed
And governments flushed
While media seeks a scapegoat

Remember the narrative that had everyone feeling so good? Inflation was drifting lower, albeit not in a straight line, but central bankers around the world were quite confident that their collective 2.0% targets were coming into view, and pretty soon at that. This would lead to lower bond yields, continued strong performance in risk assets and slowing, but still solid economic activity. In other words, many were invested in the Goldilocks thesis of a soft landing.

Now, the data that we had seen last week seemed to indicate that was a viable process as the ADP Employment number was a touch soft, the JOLTS Job Openings number was definitely soft and although the ISM Services data was a lot stronger than anticipated, the ISM Manufacturing number was soft as well. In addition, if we go back to the previous week, the Chicago PMI print was abysmal at 35.4.

This was all a prelude to Friday’s NFP data which ~~confirmed~~ confused everything. While the headline number was much stronger than expected at 272K, the Unemployment Rate rose to 4.0% for the first time in more than two years, and Average Hourly Earnings rose 0.4% with an annual increase of 4.1%. But even more confusing was the fact that looking at the Household survey, the survey that is used to calculate the Unemployment Rate, showed the number of jobs FELL by 408K while 250K people exited the workforce. Now, if things were truly running smoothly, as the NFP number indicated, we would expect to see that household number of jobs rise, not fall. Something is amiss.

Having read far too much about this over the weekend, it appears that the BLS data and its models are not a very accurate representation of the current reality, at least for the monthly data. The BLS also produces a quarterly survey called the Quarterly Census of Employment and Wages (QCEW) which is a census of 11 odd million businesses in the US, rather than a survey of some 600k businesses for the NFP. If one looks at the growing discrepancy between the number of jobs shown in that data vs. the NFP data, the NFP data has been rising far faster with the gap widening severely. This can be seen in the below graph from the mishtalk.com website (from Mike Shedlock, an excellent economist/analyst).

The upshot is that while that headline NFP number has looked very good, there appears to be something else happening in the underlying data. Early next year, the BLS will revise its NFP data, and you cannot be surprised if they reduce the readings significantly. But revisions don’t have the same cachet as headlines, and so this is our current world.

The market response was as you would expect; bonds got crushed with the entire yield curve jumping 15bps, the dollar rallied sharply, up nearly 1% on the DXY with several currencies falling farther than that (e.g., MXN -2.85%, NOK -1.5%, BRL -1.6%), and equity markets falling although not nearly as much as you might expect, only about -0.15% on average across the big indices. But the notable moves were in commodities with gold (-2.2%), silver (-3.9%) and copper (-3.0%) just in the wake of the NFP data, with larger declines overall on the day. Energy was the only space that held in on the day, but of course, it has been under pressure for several weeks.

What’s next? Well, this week brings a great deal of new information including CPI, PPI, the FOMC Meeting and the BOJ meeting. My take is many traders are licking their wounds right now, so given today’s calendar is quite benign, I imagine things will be a bit choppy as positions get adjusted, but direction will be hard to discern. Except…

The European Parliament elections were held starting last Thursday but running through Sunday, with all 27 nations in the EU voting for their parliamentary representatives. The story is, as you will clearly have heard by now, that the left wing, center-left and centrist parties got decimated while everyone on the right side of the aisle massively outperformed. The Belgian PM resigned and there will be elections there. French President Macron dissolved parliament for a snap election as his party won just 15% of the vote while Marine Le Pen, the conservative candidate leading the National Rally, won more than 31% of the votes. As well, German Chancellor Olaf Sholz has been decimated as have the Green parties across the continent. Times, they are a-changin’. It is no surprise that the euro continues to falter after Friday’s declines as the European part of the equation just added to the woes from the US implication of higher interest rates.

What will these elections mean for markets? The clearest message that I see is that the climate agenda is likely to be altered such that demand for oil and gas may well increase. Do not be surprised to see more European nations abandon the Net Zero concept, at least reaching it by 2050. Ironically, while the first move was seen as a negative for the euro, this may well be a harbinger of future euro strength if the Eurozone economies waste less money on impossible dreams and spend more on actual economic activity that generates benefits and income for its citizens without government subsidies. But that will take a bit more time.

Perhaps the most important thing is that this election may well be a harbinger of the US election in November as the European people have clearly rejected the current themes and are looking for a change. Far left Green policies that have been promulgated by the Biden administration have found no favor in Europe and certainly the current polling indicates it is equally unpopular in the US.

OK, a quick tour of the overnight session shows that Japanese equity markets performed well after GDP data there last night showed a less negative outcome in Q1 than originally reported, while most of the rest of Asia was closed for various holidays. European bourses, however, are under pressure across the board led by France (-2.2%) although most of the rest of the continent has seen declines on the order of -1.0%. As to the US futures markets, at this hour (6:15), they are lower by -0.3%.

Bond yields continue to climb with Treasuries up another 2bps and European sovereigns rising between 2bps (Germany) and 8bps (France and Italy) as the combination of higher US yields and some concerns over the future direction in Europe have come to the fore. Overnight, JGB yields also jumped 7bps and are back above 1.00%, with the Japanese data and US data the drivers. The BOJ meets Friday this week, so there is much speculation as to the outcome, although a rate hike is not forecast.

In the commodity markets, after Friday’s rout in the metals space, the big ones are all firmer this morning, although this looks like a trading bounce rather than a change of views. Oil markets are little changed this morning, trading at the lower end of their recent ranges but NatGas, something I haven’t discussed in a while, is rallying again. It is higher by 3% this morning and 26% in the past month, rising to $3.00/MMBtu, its highest price since November and double the lows seen in March. Consider that if there is continued pushback against the Green agenda, as evidenced by the European elections, demand for NatGas is likely to grow quite strongly.

Finally, the dollar is continuing to gain strength this morning, with the euro down -0.6% following Friday’s declines and the EEMEA currencies all falling more than that. Given the holidays in Asia, there was limited trading in the onshore markets there, and other than MXN, which is unchanged this morning, the rest of LATAM hasn’t opened yet. However, remember that the peso has fallen 10% in the past week, so there is likely going to be some more movement in that space going forward. Markets typically don’t dislocate by 10% and then just stop.

As if last week didn’t bring enough surprises between the NFP and election results in India, Mexico and Europe, this week we have a lot more to look for, although today is a blank slate.

Tuesday	NFIB Small Biz Optimism	89.8
Wednesday	CPI	0.1% (3.4% Y/Y)
	-ex food & energy	0.3% (3.5% Y/Y)
	FOMC Rate Decision	5.5% (unchanged)
Thursday	Initial Claims	224K
	Continuing Claims	1800K
	PPI	0.1% (2.5% Y/Y)
	-ex food & energy	0.3% (2.5% Y/Y)
Friday	BOJ Rate Decision	0.10% (unchanged)
	Michigan Sentiment	72.0

Source: tradingeconomics.com

As this is a quarterly meeting of the FOMC, we will get new projections and a new dot plot, and of course, Chairman Powell will be speaking afterwards. As of now, the market is pricing about a 50:50 chance of the first cut coming in September and a total of one and one-half cuts for the rest of the year. It remains very difficult to discern what is really happening in the economy with all the conflicting data. However, whatever the growth stories, nothing has indicated that inflation is going to decline very far. I maintain the Fed is going to be higher for longer for even longer. It continues to be difficult to see the benefits of many other currencies, although I would not be surprised to see MXN regain much of its lost ground as I doubt Banxico will be easing policy anytime soon, and president-elect Sheinbaum is not going to change things there that much and doesn’t take office until October.

Good luck

Adf

Not Soaring

Posted on May 24, 2024 by fxpoet

It seems that prices
In Japan are not soaring
Like the hawks would want

Japanese inflation data last night showed a continued decline as the Core rate fell to 2.2%, and the so-called super core rate slipped to 2.4%, its lowest level since October 2022. As you can see in the super core chart below, the trend seems clearly to be downward although the current level remains far above inflation rates for most of the past 30 years.

Source: tradingeconomics.com

The irony here is that were this the chart of the inflation rate in any other G7 nation, the central bank would be crowing about how successful they had been at slaying the inflation dragon. Alas, as the chart demonstrates, Japan’s dragon was a different species, and one that I’m pretty sure the 122 odd million people there were very comfortable having as a “pet”. After all, I have never met a consumer who was seeking prices to rise before they bought something, have you?

From a market perspective, the continued decline in inflation rates calls into question just how much further Japanese interest rates need to rise in order to achieve the BOJ’s goals. Again, remember the BOJ’s goals for the past decade has been to RAISE the inflation rate to 2% and their tactic has been to create the largest QE program in the world such that they now own more than 50% of the outstanding Japanese government debt across all maturities. If inflation continues to decline back to, and below, 2%, while I’m confident the general population there will have no objections, Ueda-san may find himself in a difficult position.

Arguably, if higher inflation is the goal (and politically that seems nuts) then the most effective tool the nation has is to allow the yen to continue to weaken and import inflation. I continue to believe that this will be the process going forward, and while very sharp and quick declines will be addressed, a slow erosion will be just fine. Absent a major change in US monetary policy to something much easier, I still don’t see a case for a much stronger yen. However, as a hedger, I would continue to consider options to manage the risk of any further bouts of intervention.

While many are still of the view
That rate cuts are long overdue
What yesterday showed
Is growth hasn’t slowed
So, Jay and his friends won’t come through

Back home in the US, yesterday’s data releases did nothing to encourage the large contingent of people who are ~~desperate~~ looking for a rate cut before too long. While New Home Sales were certainly lousy, falling from the previous month’s downwardly revised level, and the Chicago Fed’s National Activity Index was also quite soft, indicating economic activity had slowed last month, the Flash PMI data got all the attention with both Manufacturing (50.9) and Services (54.8) rising sharply, an indicator that there is still life in the economy yet. The result was that we saw US yields rise (10yr +7bps), the dollar strengthen, and equity markets give back their early, Nvidia inspired, gains to close lower on the day. While equity futures are rebounding slightly this morning, confidence that a rate cut is coming soon has clearly been shaken.

Adding to the gloom was a reiteration by Atlanta Fed president Bostic that it is going to take a lot longer for rates to impact inflation than in the past. In a discussion with Stanford Business School students, he focused on the fact that so many people locked in low mortgage rates during the pandemic and recognized, “the sensitivity to our policy rate — the constraint and the degree of constraint that we’re going to put on is going to be a lot less.” For those reasons, Bostic said, “I would expect this to last a lot longer than you might expect.” This discussion has been gaining more adherents as the punditry is grudgingly beginning to understand that their previous models are not necessarily relevant given all the changes the pandemic wrought. Summing up, there continues to be no indication, especially in the wake of the more hawkish tone of the Minutes on Wednesday, that the Fed is going to cut rates soon.

So, with the new slightly less perfect world now coming into view, let’s take a look at market behavior overnight. Yesterday’s US equity slide was continued everywhere else around the globe with Asian markets (Nikkei -1.2%, Hang Seng -1.4%, CSI 300 -1.1%) under uniform pressure and European bourses, this morning, also in the red, but by a lesser -0.4% or so across the board. For many of these markets (China excepted) they have recently run to all-time highs, or at least very long-term highs, so it should be no surprise that there is some consolidation. There is a G7 FinMin meeting this weekend and the comments we have heard so far indicate that the ECB is on track to cut rates next month, but there are no promises for further cuts. Net, it seems clear that as much as most central banks want to cut interest rates, they are still terrified that inflation will return and then they have an even bigger problem.

In the bond market, it has been a very quiet session after yesterday’s yield rally with Treasury yields unchanged this morning and European sovereign yields similarly unmoved. Even JGB yields are flat on the day as it appears bond traders and investors started their long weekend a day early. Remember, not only Is Monday a US holiday, but it is a UK holiday as well, so there will be very little activity then.

In the commodity markets, oil prices remain under pressure and are drifting back toward the low end of their recent trading range. One story I saw was that there is a renewed effort to get the ceasefire talks in Gaza back on track, but that seems tenuous at best. Given the strength seen in the PMI data across Europe and the US, it would seem the demand side of the story would improve things here, but not yet. As to the metals markets, after a serious two-day correction, this morning is bringing a respite with both gold and silver prices bouncing while copper prices remain unchanged. I remain of the view that the longer-term picture for metals is still intact, so day-to-day trading activity should be taken with a grain of salt. Ultimately, I continue to believe that the central banking community is going to cut rates before inflation is controlled and that will lead to much bigger problems going forward along with much higher commodity prices.

Finally, the dollar, which rallied alongside yields yesterday, is giving back some of those gains, albeit not very many of them. The commodity currencies (AUD +0.2%, NZD +0.2%, ZAR +0.4%, NOK +0.6%) are the leading gainers this morning although the euro is also firmer as is the pound despite much weaker than expected UK Retail Sales data. Alas, the poor yen can find no support and continues to drift a bit lower, with the dollar back above 157 this morning and keep an eye on CNY, which is now back above 7.25 for the first time in a month after Chinese FDI data showed larger than expected -27.9% decline. It seems that President Xi has successfully scared off most foreign investment which is very likely a long-term problem for the nation. While it has been very gradual, the fixing rate continues to weaken each day as it appears the PBOC is finally accepting the need for a weaker yuan.

On the data front, we see Durable Goods (exp -0.8%, +0.1% ex-Transports) and then Michigan Confidence (67.5) which continues to be a problem for President Biden’s reelection campaign as the people in this country are just not happy. We also hear from Governor Waller this morning. It will be very interesting to hear him as my anecdotal take is that the regional presidents have been much more hawkish than the governors and Chairman Powell, so if he leans dovish, it may demonstrate a bigger split between factions on the board than we have been led to believe. We shall see.

Net, it remains very difficult for me to make a case for the dollar to weaken substantially at this time. While it may not power ahead, a decline seems unlikely for as long as higher for longer remains the mantra.

Good luck and good long weekend

Adf

There will be no poetry on Monday due to the holiday.

Losing His Doubt

Posted on May 16, 2024 by fxpoet

The jury is no longer out
And Jay may be losing his doubt
That ‘flation is slowing
So, bulls are now crowing
Let’s end, soon, this rate-cutting drought!

I am old enough to remember when Chairman Powell explained that he did not have confidence inflation was falling back to the target level and so maintaining the current, somewhat restrictive, policy stance would be appropriate for longer than had been originally anticipated. In other words, higher for longer was still the operating thesis. That is soooo two days ago! Apparently, when CPI prints at 0.3% M/M for both headline and core with the Y/Y readings at 3.4% and 3.6% respectively, that means the inflation fight is won. Now, I will grant that the headline monthly number was 0.1% below expectations, but everything else was right on the money. On the surface, it is not clear to me that this signaled the all-clear for the end of inflation. As my good friend Mike Ashton (@inflation_guy) said in his write-up yesterday, “the sticky stuff is not yet unstuck.” But the market saw this news and combined with a clearly weaker than expected Retail Sales print (0.0%) and weaker than expected Empire State Manufacturing print (-15.6) and was off to the races.

So, risk is back in vogue and bond yields are tumbling. Hooray! This is the perfect encapsulation of how the actual data may not mean very much per se, but the framework of how investors and traders were positioned and anticipating the data is the key driving force. So, not only did equity markets in the US rally 1% or more, but Treasury yields fell 10bps in the 10yr and 8bps in the 2yr. Meanwhile, September is now the odds-on favorite for the first interest rate cut, politics be damned.

At this point, the question becomes will the Fed respond to this small sample of data in the same way the market has? The first comments from Fed speakers seemed more circumspect than the market opinions. Chicago Fed president Goolsbee, who was not on the calendar, said the following in an interview, “[inflation showed] some improvement from last time, pretty much what we expected, but still higher than we were running for the second half of last year, so there’s still room for improvement.” Meanwhile, Minneapolis Fed president Kashkari explained, “The biggest uncertainty in my mind is how much downward pressure is monetary policy putting on the economy? That’s an unknown. And that tells me we probably need to sit here for a while longer until we figure out where underlying inflation is headed before we jump to any conclusions.”

To my eye, there is no indication that the Fed has changed their tune, at least not yet. If we continue to see data that indicates the long-awaited recession is actually closing in, I expect that we will begin to hear more of a consensus view regarding the initial rate cuts other than the current higher for longer stance. Of course, if a recession is making an appearance, my sense is that will not be a huge benefit for risk assets either, but what do I know, I’m just a poet. Ok, I don’t think we need to spend any more time on that subject for today so let’s see what is happening elsewhere.

In Japan, the economic news remains less positive than the Kishida administration would like to see. Last night, Q1 GDP was released at a worse than expected -0.5%, its second negative print in the past three quarters with Q4 a ‘robust’ 0.0% in between. While not technically a recession, the situation there certainly does not have a positive feel. Making things even worse, of course, is the fact that inflation remains higher than their target of 2%, although it has been slowly drifting lower over the past year.

The interesting thing about this situation is that the BOJ does not have a dual mandate regarding prices and employment; but is focused only on price stability. However, if economic activity continues to slow there, can Ueda-san really tighten policy further? And what of the yen? It has drifted higher (dollar lower) alongside the dollar’s broad down move on the back of the recent decline in US yields. However, it feels to me like Ueda’s path to tighter policy just got a lot narrower if economic activity in Japan is going to remain so lackluster. Many pundits have decided that the yen’s weakness reached its peak ahead of the recent bout of intervention two weeks ago. I am not so sure. Absent a significant slowdown in the US, I’m sensing that the policy divergence may even widen going forward, not narrow, and the yen would not respond well to that outcome.

With all that in mind, let’s survey the overnight session to see what else is happening. Asian equity markets followed the US rally with solid gains across the board. Clearly, the prospect of lower US rates was seen as a positive. However, the same is not true in Europe, where bourses are all lower this morning albeit not dramatically so. Declines of between -0.25% and -0.5% are universal. My take is that this is a bout of profit-taking as to much less fanfare than US markets, many European bourses have just touched all-time high levels, so a little pullback should be no surprise. This is especially true given there was neither data nor commentary that would indicate something in Europe has changed. The situation remains slow growth, slowing inflation and rate cuts next month. Lastly, US futures are essentially unchanged at this hour (6:45) as traders await more data and, perhaps more importantly, 4 more Fed speakers. I think the trading community is looking for Fed confirmation of their response to the CPI data yesterday which, as mentioned above, was not forthcoming.

Bond markets, which all rallied yesterday following the Treasury move, are little changed this morning with virtually no movement in the US or Europe. Overnight, JGB yields slipped 3bps in the wake of the US data, but this market is entirely focused on the US economy and the Treasury marker for its lead.

In the commodity markets, oil is a touch softer this morning, but remains firmly toward the middle of its recent trading range as conflicting reports regarding expected demand continue to confuse practitioners. FWIW any report that indicates demand for oil is going to decrease makes no sense to me given how many people on this earth are energy poor and will do as much as they can to get hold of energy. But that’s just my view. The IEA continues to forecast reductions in demand ~~because they are desperately pushing their transition thesis~~ because their models are old and unreliable. As to metals markets, yesterday saw a major rally in gold and silver, with the latter making a push for $30/oz for the first time since 2013. Copper, however, may have seen a blow-off top yesterday as it has fallen back sharply from its peak and is now back below $5.00/lb. In truth, the demand story here remains attractive, but the price action did seem to get out of hand there.

Finally, the dollar, which sold off hard yesterday on the CPI and Retail Sales news is bouncing slightly this morning. Those sharply lower yields in the US, even though they were matched by Europe, were a signal to sell dollars across the board. Thus, this morning’s 0.2% ish bounce should not be that surprising. It is in this segment of the market that I believe the opportunity for the biggest structural changes exist. After all, the dollar’s strength over the past 3 ½ years has been built on the Fed being the most hawkish central bank around as they belatedly fought inflation. While they have made clear they want to start to cut interest rates, the data has not been supportive of that move. If yesterday’s data is the beginning of a more consistent slowdown in the US, those rate cuts may be coming sooner than currently priced and regardless of what happens to risk assets, the dollar would suffer. We shall see.

On the calendar today we have a bunch more data and four more Fed speakers (Barr, Harker, Mester and Bostic). The data brings the weekly Initial (exp 220K) and Continuing (1780K) Claims, Housing Starts (1.42M), Building Permits (1.48M) and Philly Fed (8.0) all at 8:30 then IP (0.1%) and Capacity Utilization (78.4%) at 9:15. As Chairman Powell has repeatedly explained, he and his colleagues look at the totality of the data, so another wave of soft numbers here would likely get risk asset markets excited. However, listening to what they have all continued to say informs me that the Fed is not nearly ready to cut rates. September remains the odds-on favorite for the first cut, but I still suspect that they could be here all year long. If I am right about that, the dollar will retain its bid overall.

Good luck

Adf

Less Stout

Posted on May 14, 2024 by fxpoet

Suzuki-san and
Ueda-san are clearly
Flocking together

Events continue to unfold in Japan that appear to point to a more concerted effort to address the still weakening yen. The problem, thus far, is that it hasn’t yet really worked, absent the direct intervention we saw at the beginning of the month. For instance, last night, 10-yr JGB yields rose to their highest level since June 2012, trading up to 0.969% and finally looking like they are going to breech that 1.00% level that had so much focus back in October. At the same time, the two key players in this drama, FinMin Suzuki and BOJ Governor Ueda are actively speaking to each other as they try to coordinate policy. The problem for Suzuki-san is that Q1 GDP fell back into negative territory again, thus bringing two of the past three quarters down below zero. While that is not the technical definition of a recession, it certainly doesn’t look very good.

And yet, the yen remains under pressure, slipping another 0.1% last night, and as can be seen from the chart below, continuing its steady decline (dollar rise) from the levels seen immediately in the wake of the intervention.

Source: tradingeconomics.com

Another interesting thing is that our esteemed Treasury Secretary, Janet Yellen, seems to be concerned over any intervention carried out by the Japanese, at least based on comments she recently made in a Bloomberg interview, “It’s possible for countries to intervene. It doesn’t always work without more fundamental changes in policy, but we believe that it should happen very rarely and be communicated to trade partners if it does.”

There have been several analysts of late who have made the case that Yellen’s trip to Asia last month included a ‘secret’ Plaza Accord II type arrangement, where there was widespread agreement that the dollar needed to come down in value. First off, secrets like that are extremely difficult to keep secret, and history shows that doesn’t happen very frequently. But more importantly, based on the fact that inflation is one of the biggest problems that her boss has leading up to the election, a weaker dollar is the last thing she would want. I suspect if we continue to see the yen decline, the BOJ/MOF will be back at the intervention game again, but the US will not be helping. Keep in mind, though, Japanese yields. If the BOJ is truly going to allow yields to rise in Japan, that would have a significant impact on the yen’s value in the FX markets. While 1.00% is a big round number, I think we will need to see the BOJ demonstrate a more aggressive stance overall…or we need to see the data turn softer in the US to allow the Fed to get on with their much-desired rate cuts. We will need to watch this closely going forward.

While everyone’s waiting to see
How high CPI just might be
One cannot rule out
An outcome less stout
Where bond and stock bulls are set free

Which brings us to the inflation story. By this time, everyone is aware that tomorrow’s CPI data is seen as a critical piece of the puzzle. I continue to read coherent arguments on both sides of the debate regarding the trend going forward. (Let’s face it, the error bars are far too wide to be confident in a specific forecast.) For the inflationistas, they continue to look at things like the housing market, which while frequently expected to see declining price pressures, has maintained an upward trend for the past several years. As well, things like the dramatic rise in certain commodity prices (coffee comes to mind) and the substantial rise in the price of insurance (something of which I speak from personal experience!), there is ample evidence that prices continue to climb.

Part of this puzzle may be the result of the fact that companies continue to successfully raise prices, or at least had been doing so for the past two years, as evidenced by the continued strong earnings, and more importantly, still high gross margins they are able to achieve. So, as input prices have risen, they have passed those costs along to the consumer quite successfully. Now, the comments from Starbucks and McDonalds at their earnings reports indicating business is slowing down and attributing that slowdown to rising prices may well be a harbinger that companies have lost the ability to keep this up. But two companies, even large ones, are not nearly the whole economy. As well, much has been made, lately, of the K-shaped economy, where the haves continue to benefit from the rise in asset prices and are far less impacted by rising prices as they can afford them. This has led to continued strong demand for luxury goods, which while a smaller sector of the economy, remain highly visible. Meanwhile, the less fortunate lower 90% of the population find themselves struggling to make ends meet as real wages remain stagnant and there continues to be a switch from full-time to part-time employment ongoing as companies adjust their staffing needs. PS, those part time jobs don’t pay as well and generally don’t have benefits, so any price increases are very tough to swallow. In the end, it appears that housing, insurance services and food remain in upward price trends.

On the flipside, there are many who see that while Q1’s inflation data was sticky on the high side, things should begin to improve going forward. They point to things like M2, which has fallen dramatically over the past two years, although has recently inflected higher again. However, the argument is that the lag between the movement in M2 and inflation is somewhere in the 16-24-month period, and we are now due to see prices decline. In addition, they point to things like loan impairments and credit card delinquencies rising as signs that companies have lost their pricing power and prices will reflect that by slowing their ascent.

Now, today we see the PPI, which may give clues as to tomorrow’s outcome and the following are the median expectations: headline 0.3% M/M, 2.2% Y/Y; core 0.2% M/M, 2.4% Y/Y. Looking at the chart, it certainly appears that this statistic has bottomed out just like CPI.

Source: tradingeconomics.com

But here’s the thing…I have a feeling that regardless of the outcome, the market is going to rally in both stocks and bonds. Certainly, if it is a softer than forecast number, the rate cut narrative is going to be going gangbusters and stocks will rocket while yields fall. If it is on the money, my sense is the market is still in the camp that despite what we continue to hear, especially with Powell having removed the possibility of a rate hike, that the view will turn to rate cuts are coming as the Fed’s underlying dovishness will prevail. But if the numbers are hot, while the initial reaction will almost certainly be a decline in risk asset prices, I have a feeling it will be short-lived. Positioning is not overly long here, at least according to the fear/greed indicators, and the theme that the administration will do all it can to get re-elected, meaning lots more fiscal support, is going to work in favor of risk assets. One other thing, if there is some trouble in the bond market, the one thing we know for sure is that Powell will come to the rescue and support the whole structure.

Net, while the timing of each outcome may differ, I sense the end result will be the same. As to the dollar, I remain in the camp that international investors will continue to buy dollars to buy the S&P. As well, given it seems very clear that both the ECB and BOE are going to cut rates in June while the Fed remains a much lower probability to do so, that should prevent any sharp dollar decline, although it may not push it any higher.

Overnight, basically nothing happened as everybody is holding their collective breath for tomorrow. Maybe today will be a harbinger, but I expect a generally slow session overall absent a HUGE surprise in PPI.

Good luck

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Adrift

Posted on May 9, 2024 by fxpoet

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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fxpoetry

Explaining the rhyme and rhythm of the FX markets each day

Tag Archives: #BOJ

Jay’s Motivation

No Choice

To Oblivion

Will They Return?

Ain’t

Crushed

Not Soaring

Losing His Doubt

Less Stout

Adrift