Tag Archives: #BOJ

A New Boogeyman

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Confusion today is what reigns
As no pundit clearly explains
Why previous claims
Have gone up in flames
And how much more pain still remains
 
They still blame the Bank of Japan
With spoiling their well thought out plan
And too, yesterday
When bonds went astray
It gave them a new boogeyman

 

Yesterday started out so well for all those who were convinced that it was the BOJ’s surprising and extreme actions last week that led to an unwarranted selloff in stocks and other risk assets.  First off, the BOJ, via one of its members Ichida-san, basically apologized for their actions and said that they would not be making any other changes after all.  That led to a rally in equities and a sell-off in bonds as risk assets were suddenly back in favor.  Alas, by the end of the day, that was no longer the case.

But let’s look at what the BOJ actually did last week.  On the interest rate front, they raised their base rate to 0.25% and regarding their balance sheet, they indicated they had a plan to slow down its growth at a very gradual pace.  Remember, they did not say they were going to sell JGBs, they said that by 2026 they would be buying half as many JGBs as they do today.

Also, let’s remember that inflation in Japan is currently measured at 2.8%, so the base rate remains deeply negative in real terms.  I understand the signaling impact of what they did as any change in the status quo while there is a significantly leveraged market can have major impacts.  And that is what we saw during the past week.  It is also important to remember that given the length of time that the Japanese have maintained their ZIRP/NIRP monetary policy, the opportunity for very large institutions to build up very large positions was, to be succinct, very large.  The chart below shows for just how long Japanese interest rates have been near zero, more than twenty years.

Source: tradingeconomics.com

My point is that Japanese investors have been seeking alternative opportunities for an entire generation.  As well, the concept of the carry trade has been in place for that same amount of time.  It will take a long time for these ideas to be changed and the positions along with them.  Now, according to a Bloomberg article, JPMorgan’s analysts claimed that three-quarters of the carry trade has already been unwound.  And maybe they are right about that.  But I assure you that three-quarters of Japanese investors have not adjusted their positions in the fixed income market.  We have not come to the end of this road.

So, analysts found another cause for yesterday’s negative outcomes, the 10-year bond auction.  It turns out that investors are seeking more yield than the market had anticipated ahead of the auction.  This led to a 3 basis point tail, meaning that the auction cleared at a yield, 3.96%, 3 basis points higher than traders were pricing ahead of time (typical 10-year tails are well less than 1bp.)  There were less bids than anticipated, and generally this is not a good story for Secretary Yellen and the Treasury.  The story that circulated was that the reason stocks fell in the afternoon was the weak auction.  Alas, the timing of that does not make sense.  Equity markets had already given back their morning gains before the auction results were announced and were lower on the day at 1:00pm.  But narrative writers need a story, and that was a good one.

So, what really happened?  Who knows?  But FWIW this poet has seen enough market action during his career to recognize that while fundamentals matter in the long-run, daily changes are often completely random, or at least seemingly so.  Large orders can drive markets, especially when liquidity is lower because of holiday schedules and the time of year.  And lately, the combination of algorithmic trading and extreme retail speculation will also move markets in surprising directions.

I believe that we remain in a period of change.  Monetary policies around the world are adjusting to the realities of inflation remaining stickier than policymakers want to believe.  In addition, the political cycle continues to be difficult to forecast, notably in the US, with market perceptions of very different economic policies to be implemented depending on the next US president.  And finally, I believe the best way to describe the global economy is that it is in transition.  After a decade or more of easy money policies around the world, as those policies start to change, they impact different segments of the economy at different rates.  This means that some parts of an economy can be in recession while other parts can be doing fine.  And that gives rise to confusing data with no broad trend.  This may explain why manufacturing survey data is so weak while service survey data has held up well.  

My best guess is that we are going to continue to see confusion until policy makers are more aligned.  In fact, that is why there are so many calls for the Fed to start cutting rates soon, so they can catch up and unify monetary policies around the world.

Ok, let’s see how things looked overnight.  After yesterday’s reversal and lower closes in the US, that theme was extended largely around the world.  Japanese shares fell (-0.75%) as did shares everywhere else in Asia (Korea, India, Australia, etc.) except in China, where both mainland and Hong Kong shares were essentially flat.  The story is no better in Europe where shares are lower by between -0.7% (DAX ) and -1.1% (CAC, FTSE 100) as investors demonstrate they are concerned with the future.  As to the US, at this hour (7:15) futures are very slightly lower.

In the bond market, after yesterday’s poor auction, and ahead of today’s 30-year Treasury auction, yields have fallen from their highest points.  Treasury yields (-3bps) are pacing the European sovereign market (Bunds -3bps, OATs -3bps, Gilts -1bp, BTPs -2bps) as the fear factor on stocks seems to be encouraging some haven buying.  But the most interesting thing was that JGB yields fell -5bps overnight and are now back down to 0.84%.  The BOJ Summary of Opinions (effectively their Minutes) was released last night and clarified that they are not interested in a rapid tightening of policy.  Given GDP growth was negative last quarter, this can be no surprise.

In the commodity markets, oil is little changed this morning but has recouped most of its losses from the past week and sits back at $75/bbl.  This is still a range-bound situation, and we need something really big to change that.  Gold (+1.1%) is making a comeback and back over $2400/oz as the fear factor seems to be playing a role here today.  However, copper (-0.2%) continues to demonstrate short-term concerns over economic activity around the world.

Finally, the dollar is having a much less volatile session than we have seen recently.  AUD (+0.5%) is the biggest mover I can find after hawkish comments from the RBA, claiming they will not hesitate to raise interest rates again if inflation reappears.  However, the yen (+0.15%) seems like it has found at least a temporary home, perhaps gaining some support on what appears to be a risk off day.  Funnily, though, the major risk proxies in the EMG space, ZAR and MXN are virtually unchanged this morning.  I believe that like most markets today, more clues are sought before views are expressed.

Speaking of clues, this morning brings the other US data with Initial (exp 240K) and Continuing (1870K) Claims at 8:30.  Richmond Fed president Barkin speaks at 3:00 this afternoon, the same time we will hear from Banxico on their rate decision (no change expected).  But once again, there is not much new information expected, so markets are going to respond, in my view, to equity activity.  If US stocks can find support, look for other markets to follow along.  However, that does not feel like today’s message.  As to the dollar, against the majors, I think it has found a temporary range.

Good luck

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The World is Ending

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The world is ending
At least, that’s the way it feels
Owning equities
 
The narrative writers are caught
‘Cause stories those writers had wrought
No longer apply
And folks now decry
The idea that dips should be bought
 


Remember the idea of the summer doldrums where everybody is on vacation, so markets move very little? Yeah, neither do I!  Here’s a different idea though, when risk is under pressure, all correlations go to 1.0.  Look at the following three charts (source: tradingeconomics.com) and explain to me how they behave independently:

There is rioting in the streets today, perhaps not in your neighborhood directly, but in many places around the world (the UK, Bangladesh, Kenya, others), as the global order that we have known for the past X years gets tested.  How big is X?  There will be many different answers to that question, but in this poet’s mind, what we are witnessing in its full glory today is the beginning of the unwinding of the market excesses that began when global interest rates headed to 0.00% in the wake of the GFC in 2009, so X=15 years.  

It is easy to wax philosophical on this subject, discussing the merits of moderating the business cycle and why interest rate policy is a net benefit, and you can be sure that before this week is over, we will get policy interventions.  But ultimately, markets need to clear to function effectively, and I would argue that the last time markets actually cleared was in 1974.  The next big opportunity to allow markets to clear was in October 1987 and the Maestro, although he had not yet earned that moniker, stepped in after that Black Monday and promised unlimited liquidity to prevent too much damage. 

Ever since then, central bankers around the world, led by the Federal Reserve, but do not forget actions like Mario Draghi’s “whatever it takes” moment, have decided that they need to manage the global economy, and market responses, and that markets were only effective if they were going higher.  (It’s ironic that TradFi people scoffed at the crypto maxim ‘number go up’, yet they believed exactly the same thing, only in a different wrapper.) As well, we all know that the concept of political will does not exist anymore, at least not in the West, as no elected politician will ever choose to fight for a policy that has short-term pain and long-term gain.  The result of this constant intervention and guidance from policymakers is that things get overdone, and bubbles inflate.  And it is much easier to inflate a bubble when you maintain policy rates at 0.00% (or negative rates in some cases).  

At this point, you will read many stories about which particular catalyst drove this market reaction, whether it was last week’s BOJ meeting where Ueda-san surprised the market and hiked rates as well as promised to reduce QQE, or whether it was the fact that Chairman Powell did not cut rates, or if it was the weak payroll report.  Others will point to the escalation in hostilities in Ukraine and the Middle East as flashpoints getting people to exit risk positions.  But in the end, the catalyst is not important.  As I wrote on Friday, and is so well explained in Mark Buchanan’s book, Ubiquity, the market was rife with ‘fingers of instability’ and an avalanche has begun.

To this poet’s eye, there needs to be more excess wrung from the market.  After all, given the underlying trade of virtually the entire bull market has been the JPY carry trade, where traders and investors borrowed JPY at 0.00%, converted it to another currency and either held that currency to earn the interest rate differential, or for the truly aggressive, used the currency to buy other risky assets (NVDA anyone?), and that trade has been building for years.  Deutsche Bank has estimated that it grew to $20 trillion in size.  I assure you it is not completely unwound!

However, as I mentioned above, I am confident that central bankers are already getting intense pressure from their respective governments to ‘do something’ to stop the rout.  But central bankers are already (save Japan) in cutting mode.  And the Fed just passed on cutting rates last week.  If they were to cut today, no matter what they said, it would remove any doubt that the only thing they care about is the stock market.  It would destroy whatever credibility they still retain.  But do not count out that response, at this stage, it’s probably 50:50 they cut this week if things continue.  After all, the Fed funds futures market is now pricing in a 95% probability of a 50bp cut in September and a total of 125bps of cuts by December!

I will be the first to say I have no idea where things are going to head from here because while market internals point to further unwinding of risky assets, policy responses have not yet been seen.  So, the best advice I can offer if you are not leveraged is do not panic.  If you are, you have probably been stopped out already anyway.  In the meantime, let’s take a look at the damage overnight.

Equity Markets in Asia:

  • Nikkei 225       -12.4%
  • Hang Seng       -1.5%
  • CSI 300            -1.2%
  • ASX 300           -3.7%   
  • KOSPI               -8.8%
  • TAIEX               -8.3%
  • Nifty 50           -2.7%

In other words, it was quite the rout, with tech shares getting hammered everywhere.  Perhaps the most surprising thing to me as that the CSI 300 didn’t fall further, although I suspect that there was significant intervention by the government to prevent that from happening.  (After all, you don’t need to be a western government to want the number to go up!)

Equity Markets in Europe:

  • DAX                 -2.6%   
  • CAC                 -2.4%
  • FTSE 100         -2.4%
  • IBEX                 -2.8%’
  • FTSE MIB         -3.0%

This tells me that these markets were not nearly as leveraged as Asian markets, likely because prospects throughout Europe have been relatively less interesting to many investors.  After all, if you are leveraging up via borrowing yen, you want to buy growth, not value, stocks, and there aren’t that many growth names in Europe.

Finally, US futures, at this hour (7:00) are lower by:

  • S&P 500          -3.0%
  • NASDQ            -4.5%
  • DJIA                 -2.1%

Bond markets are also seeing very significant movement, in the opposite direction as they are performing their safe haven role brilliantly today.  While the movements today are solid, with Treasury and European sovereign yields all lower by between 5bps and 7bps, to see the real story, you need to see the move since Friday’s opening (these are all 10-year yields).

  • US                    -20bps
  • Germany         -10bps
  • UK                   -9bps
  • Japan               -20bps
  • Australia          -17bps

The US yield curve, at least the 2yr-10yr measurement, is virtually flat today and 30yr yields are now higher than both of those maturities.  Also, look at JGB yields, down to 0.77%, as Japanese investors take their toys and go home.  The thing about this move, and the reason I don’t believe the unwinding is over yet, is that once the Japanese investment community starts to move, it takes a long time for them to get to be where they want given the amount of the assets involved.  And despite all the clutching of pearls about the US ability to sell the amount of debt they need to fund themselves; it won’t be a problem for right now.  Many people around the world will be all too happy to buy Treasury bonds regardless of some political foibles in the US.

Commodity markets are under pressure this morning, but not seeing the same type of pain as equity markets. The story here is that commodities are not directly impacted by the current movements (if anything declining interest rates should help them) but when margin calls come, people sell whatever they can that is liquid.  So, gold (-1.6%) is being liquidated to cover margin calls, not because people don’t want it.  Oil (-1.6%) is likely feeling pressure because these equity moves presage potential economic weakness and a reduction in demand, and we are seeing the same response from the industrial metals.  My take is gold is the one thing, besides bonds, that people are going to be willing to hold, and will rebound first.

Finally, the dollar is under pressure, net, but we are seeing massive movements in both directions.

  • JPY       +2.5%
  • EUR     +0.4%
  • GBP     -0.3%   
  • AUD     -0.9%
  • MXN    -3.3%
  • NOK     -1.0%
  • ZAR      -2.0%
  • CNY     +0.8%  
  • CHF      +0.8%
  • KRW    -0.5%

See if you can determine which were the favorite currencies to hold long against short JPY (AUD, MXN, ZAR). Meanwhile, the renminbi is able to gain as it continues to weaken, net against the yen, its most important competitor.  Remember, currencies are the outlet valves for economies when other markets cannot move enough.  The thing to keep in mind, especially as a hedger, is that volatility is going to be very high for a while yet.  This will not all quiet down and go away in a week’s time. 

At this point, it’s fair to ask, does data matter anymore?  Probably not today, but it will be key for the central banks if for no other reason than to cloak their actions in some fundamental story.  Alas for the Fed, there is virtually nothing to be released this week.  All we see is:

TodayISM Services51.0
TuesdayTrade Balance-$72.4B
ThursdayInitial Claims250K
 Continuing Claims1880K

Source: tradingeconomics.com

As well, and perhaps remarkably, so far on the calendar we only have three Fed speakers, Goolsbee, Daly and Barkin.  However, it seems almost certain we will hear from others, especially if the rout continues.

Right now, fundamentals do not matter.  My sense is we will see a bounce of some sort after the first wave ends, perhaps as soon as tomorrow, but the narrative of the soft landing has been discarded.  Look for more political pressure on the Fed to act, and to act soon.  Also, do not be surprised if the rest of the week ultimately sees a slower, but steady, decline in risk assets as those who haven’t panicked react to the situation and reevaluate just how much they love their positions.  Consider, Warren Buffet sold some of his favorite positions last week and is loaded with cash to act.  But there is nobody who is more patient than he.  

Good luck

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New Shibboleth

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A second rate hike
By Japan has resulted
In strong like bull yen

 

Last night, Governor Kazuo Ueda and the BOJ raised their overnight call rate to 0.25% from the previous level of between 0.00% and 0.10%.  This move was forecast by several analysts but was certainly not the base case for most, nor what this poet expected.  However, it appears that the gradual slowing in inflation in Japan was not seen as sufficient and so they moved.  By far, the biggest reaction came in the FX markets where the yen jumped sharply, now higher by 1.5% compared to yesterday’s NY close.  A look at the longer-term chart of USDJPY below shows that at its current level just above 150.00 (obviously a big round number), the currency has reached a double support level based on its 50-week moving average (the curved line) and the trend line that starts from the time the Fed began raising interest rates in March 2022.

Source: tradingeconomics.com

Surprisingly, given the sharp move seen overnight, there has been virtually no discussion as to whether the MOF asked the BOJ to intervene and further push the yen higher (dollar lower) in concert with its recent strategy of pushing a market that is moving in its favor rather than fighting a market that is moving against its goals.  Regardless, the 150 level is going to be a very important technical support, and any break below may open up another 10 yen decline in the dollar.

What, you may ask, would lead to such a move?  How about the Fed?

The pundits are holding their breath
With “cut Jay” their new shibboleth
But will Chairman Powell
Now throw in the towel
On prices and channel Macbeth?

Of course, this afternoon, the big news is the FOMC meeting wraps up and at 2:00 they release their statement which is followed by the Chairman’s press conference at 2:30.  As of this morning, the probability of a cut today is down to 3.1% according to the CME’s futures market.  However, that market has a 25bp cut locked in for September with a further 10% probability of a 50bp cut then and is pricing in a total of 66bps of cuts by the December meeting, so, a bit more than a 60% probability of three 25bp cuts by the end of the year.  That pricing continues to feel aggressive to this poet as the data has not yet shown that the economy is clearly in trouble.  Remember, too, the Fed is always reactive, despite any of their comments on trying to get ahead of the curve.

Continuing our observations of mixed data, yesterday saw that home prices, as per the Case-Shiller Index, remain robust, rising 6.8% in May (this data is always lagging), but there is little indication that the shelter component of the inflation statistics is set to decline sharply.  As well, the JOLTs Job Openings data printed at a higher than expected 8.184M, indicating that there is still labor demand out there.  Finally, the Consumer Confidence number rose a touch more than expected to 100.3.  My point is there continues to be strength in many parts of the economy and prices are nowhere near declining.  Granted, this Friday’s NFP report will take on added importance as if the numbers there start to decline and Unemployment continues its recent trend higher, there will be far more urgency to cut rates.  Perhaps this morning’s ADP Employment report (exp 150K) will help clear up some things, but I’m not confident that is the case.

Interestingly, there are still a number of analysts who are clamoring for the Fed to cut today, claiming they can get ahead of the curve and stick the soft landing.  However, history has shown that the Fed lives its life behind the curve, and there is no indication that is about to change.

There is one other thing to consider, though, and that is the politics of the situation.  While the Fed is adamant they are apolitical and only trying to achieve their mandated goals, we all know that in order to even be considered to reach the FOMC as a named member of the committee, one needs to be highly political.  Does that mean that partisan politics enters the arena?  These days, it is almost impossible for that not to be the case.  

The current narrative on this subject is that a rate cut will help the current administration, and by extension the candidacy of VP Harris.  I’m not sure I understand that given inflation, which remains a major topic of conversation around the country, especially at the proverbial kitchen table, is so widely hated across the board.  The most interesting poll results I saw were that a majority of those questioned indicated they hated inflation far more than a recession.  This surprised the economic PhD set, but as inflation is an insidious cancer on everyone’s wellbeing, it is no surprise to this poet.  My point is that a rate cut now will do exactly zero to help support growth before the election, but it will almost certainly boost the price of commodities, notably energy and gasoline, and that will show up in inflation post haste.  Thus, does the narrative even make sense?  If Powell is truly partisan (and I don’t think that is the case), he would refrain from cutting rates until September as any impact, other than in financial markets, will not be felt until long after the election.  FWIW, I agree with the market there will be no cut today, but absent a major decline in the employment situation by September, I see only 25bps there.

Ok, a bit too long to start today, but obviously there is much of importance to understand.  So, let’s look at how markets have responded to the BOJ while they await the FOMC.  As earnings season continues, the tech sector in the US continues to struggle as evidenced by the sharp decline in the NASDAQ yesterday, although the DJIA managed to gain 0.5%.  In Asia, though, tech concerns were overwhelmed by the excitement of the BOJ’s action and the strength in the yen.  Perhaps the surprising thing is the Nikkei (+1.5%) rose so much given a strong yen generally undermines the index, but the rate hike boosted bank shares by 5% or more across the board.  And that strong yen was welcomed everywhere else in Asia with Chinese shares (Hang Seng +2.0%, CSI 300 +2.2%) and almost every regional exchange gaining real ground on the back of a less competitive Japan given the higher yen.

In Europe, most markets are much firmer as well this morning, led by the CAC (+1.4%) and FTSE 100 (+1.4%) although Spain’s IBEX (-1.0%) is lagging on uninspiring corporate earnings results.  I would contend these markets are being helped by that stronger yen as well, given Japan’s status as a major exporter.  Lastly, US futures are higher at this hour (7:20) after some better-than-expected results from chipmaker AMD, although MSFT’s numbers were less impressive.  Net, though, NASDAQ futures are up 1.6% this morning dragging everything else along for the ride.

In the bond market, Treasury yields continue to edge lower, down -1bp this morning and European sovereign yields are all lower by between -2bps and-3bps.  That is somewhat interesting given the flash Eurozone inflation data printed higher than expected at 2.6% headline, 2.9% core, but the market is clearly going all-in on the rate cutting narrative.  The big moves in this market, though, came in Asia with JGB yields jumping 5bps after the rate hike and the BOJ’s announcement they would be reducing their monthly purchases by 50%…OVER THE NEXT TWO YEARS!  They are not exactly rushing to tighten policy.  However, even more impressive was the -16bp decline in Australian 10yr bond yields after softer than expected inflation data overnight got the market thinking about rate cuts instead of the previous view of rate hikes being the next move.

In the commodity markets, things have really broken out.  Oil (+3.5%) is finally paying attention to the escalation of hostilities in the Middle East after Hamas leader Haniyeh was killed while in Iran.  While Israel has not officially claimed the act, that is the assumption and concerns are elevated that there will be a more dramatic response impacting many oil producing nations.  This has encouraged the rally in precious metals with gold (+0.4%) continuing its rally after a >1% gain yesterday, and support for both silver and copper as well.  Frankly, the copper story doesn’t make that much sense given the ongoing lackluster economic growth story, but with the metal’s recent sharp decline, this could simply be a trading bounce.

Finally, the dollar is all over the place this morning.  As mentioned above, the yen is today’s big winner, but we have seen strength in CNY (+0.25%) and KRW (+0.85%) as well, with both those currencies directly aided by yen strength.  Meanwhile, AUD (-0.5%) has responded to the quickly evolving rate story Down Under and is cementing its position as the worst performing G10 currency in July.  Not surprisingly, the commodity linked currencies are having a good day with ZAR (+0.6%) and NOK (+0.5%) both stronger, but after that, the financially linked currencies are not doing very much, so the euro, pound, Loonie and Swiss franc are all only marginally changed on the day.

In addition to the ADP and the FOMC, this morning also brings the Treasury’s QRA, although there is little interest in that report this time around as expectations remain that there will be no major change to the recent mix of debt, i.e., mostly T-bills.  We also see Chicago PMI (exp 44.5) and get the EIA oil data, although the latter will have a hard time competing with a pending war in the Middle East.

All told, not only has a lot happened, but there is also room for a lot more to occur before we go home today.  Quite frankly, I don’t see anything extraordinary coming from Powell, but the risk, to me, is he is more dovish than required and the dollar falls more broadly while commodity prices rise.  Keep your eye on that 150 level in USDJPY, as a break there can really get things moving.

Good luck

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German Malaise

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With central bank meetings ahead
Tonight BOJ, then the Fed
The discourse today’s
On German malaise
And why vs. the PIGS its widespread
 


As investors await the news from Ueda-san tonight and Chairman Powell tomorrow, the market discussion has revolved around the potential problems that Madame Lagarde is going to have going forward given the split in economic outcomes within the Eurozone.  As can be seen in the below graph, German GDP growth (grey bars) has been running at a negative rate for the past 4 quarters.  But you can also see that the situation in both Spain (red bars) and Italy (blue bars) has been the opposite, with both of those nations maintaining a steady pace of growth.

 

Source: tradingeconomics.com

So, while Germany is the largest single economy within the Eurozone, its current trajectory is very different than much of the rest of the bloc, ironically specifically the PIGS.  Should the ECB ignore German weakness and manage monetary policy toward the overall group?  Or should they ease more aggressively in order to support the Germans while risking a rebound in still sticky inflation?

Perhaps the first thing to answer is why Germany has been suffering for so long. This is an easy question to answer. Germany’s energy policy, Energiewende, has been an unmitigated disaster.  Their efforts to address climate change have led to the highest energy costs in Europe which, not surprisingly, has resulted in a massive reduction in manufacturing activity.  Areas where Germany had been supreme, like chemicals and autos, are hugely energy intensive industries, so as their cost of production rose, the companies moved their activities elsewhere.  Adding to the insanity was the policy to shutter their nuclear fleet, which had produced 10% of the nation’s electricity, during the post Ukraine invasion energy crisis.  And ultimately, this is the problem.  The cost of money is not Germany’s economic problem, it is their policies which have undermined their own growth ability.  While the ECB cannot ignore Germany outright, there is nothing they can do that will help the nation rebound in any meaningful way.  With that in mind, I would contend Lagarde needs to focus on the rest of the bloc to make sure policy suits them.  But that is a political discussion.

What are the likely impacts of this situation?  Eurozone growth, overall, surprised on the high side despite the lagging German data.  As well, inflation readings released thus far this month have shown that prices remain sticky on the continent.  With that in mind, the idea the ECB needs to cut aggressively seems to make little sense.  This is not to say they will maintain tighter policy, just that it doesn’t seem justified to ease.  But right now, the market zeitgeist is all about easing monetary policy (except in Japan) so I expect they will do just that going forward.  With this in mind, it strikes that the euro (+0.15%) is going to struggle to rally from current levels absent a dramatic shift in Fed policy to aggressive rate cuts.  As to European bourses, I suspect that they will reflect each nations’ own circumstances, so the DAX seems likely to lag going forward.

Will he, or won’t he?
Though inflation’s been falling
Hiking pressure’s real
 
A quick thought regarding tonight’s BOJ meeting and whether Ueda-san believes that further rate hikes are appropriate for the Japanese economy.  As with many things Japanese, the proper move is not necessarily the obvious one.  A dispassionate view of the recent data trends shows that inflation (2.8%) has been sliding slowly, GDP growth (-0.5%) has been falling more quickly and Unemployment (2.5%) remains at levels consistent with the economy’s situation given the shrinking population.   On the surface, this does not seem like a situation where hiking is desperately needed except for one thing, the yen remains broadly weak.  The chart below shows that since the advent of Abenomics in 2011, the yen has lost 50% of its value. 

 

Source: tradingeconomics.com

Now, initially, that was a key plank of the Abenomics platform, weakening the yen to end deflation.  Well, kudos to them, 13 years later they have achieved that result.  But where do they go from here?  There is a growing belief that the BOJ is going to hike by 15bps tonight and bring their base rate up to 0.25%.  I disagree with this theory given the very clear recent direction of travel in the inflation data in Japan as despite the yen’s weakness, it dispels any notion that a rate hike is needed to push things along.  One positive of the weak yen is that the balance of trade has returned to surplus in Japan.  

Source: tradingeconomics.com

For decades, Japan ran a large positive trade balance but since the GFC, that situation has been far less consistent.  However, the trade balance remains an important domestic signal as to the strength of the economy and its recent return to surplus is welcomed by the Kishida government.  It is not clear how raising interest rates will help that situation.  Net, with inflation sliding and the economy under pressure, hiking interest rates does not make any sense to me.

Ok, let’s take a look at how markets have behaved overnight.  Yesterday’s lackluster US equity market performance was followed by very modest strength in Japan (+0.15%), although weakness throughout the rest of Asia with the Hang Seng (-1.4%) the laggard, although mainland Chinese (-0.6%) and Australian (-0.5%) shares also suffered.  Meanwhile, in Europe this morning bourses on the continent are higher by about 0.4% across the board after the Eurozone GDP data seemed to encourage optimism.  The UK (FTSE 100 -0.2%), however, is under a bit of pressure amid ongoing discussions in the new Labour government about the need for austerity.  At this hour (7:20) US futures are edging higher by about 0.25%.

In the bond market, after yesterday’s sharp decline in yields around the world, it has been far less exciting with Treasury yields edging down another basis point and European sovereigns either unchanged or 1bp lower.  Perhaps the most interesting things is that JGB yields fell 2bps overnight and the 10yr yield is now back below 1.00%.  That doesn’t seem like a market preparing for a rate hike there.

In the commodity space, everybody still hates commodities with oil (-0.5%) continuing its recent slide.  In fact, it is down nearly 10% in the past month (which is good for us as we refill our gas tanks).  In the metals markets, copper continues to slide, down another -1.5% this morning as optimism over economic and manufacturing activity around the world remains absent, especially in China.  For instance, the Politburo there met yesterday and pledged to help the domestic economy, although they did not lay out specific actions they would take.  Recall last week’s Third Plenum was also a disappointment, so until the market perceives China is back and growing rapidly, or that the global growth impulse without them is picking up, it seems that industrial metals will remain under pressure.  Gold (+0.4%) however, remains reasonably well bid as continued Asian central bank buying along with retail interest in Asia props up the price.

Finally, the dollar is generally under modest pressure although the outlier is the yen (-0.6%) which does not appear to be expecting a BOJ hike tonight.  But elsewhere, the movements in both the G10 and EMG blocs have been pretty limited overall, on the order of 0.15% – 0.35%.  It is hard to find an interesting story about any particular currency as a driver today.

On the data front, this morning brings the Case-Shiller Home Price Index (exp +6.7%), JOLTs Job Openings (8.0M) and the Consumer Confidence Index (99.7).  I keep looking at that Case-Shiller index and wondering when the housing portion of the inflation readings is going to decline given its consistent strength.  But really, I suspect that all eyes will be on Microsoft’s earnings this afternoon along with the other hundred plus names that are reporting today.  With the Fed coming tomorrow, macro is not important right now.  So, more lackluster trading seems the most likely outcome today, although with the opportunity for some fireworks starting around midnight when the BOJ statement comes out.

Good luck

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Jay’s Motivation

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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:

TuesdayCase Shiller Home Prices6.6%
 JOLTS Job Openings8.03M
 Consumer Confidence99.5
WednesdayBOJ Interest Rate Decision0.1% (unchanged)
 ADP Employment149K
 Treasury QRA 
 Chicago PMI44.5
 FOMC Rate Decision5.5% (unchanged)
ThursdayBOE Rate Decision5.0% (-0.25%)
 Initial Claims236K
 Continuing Claims1860K
 Nonfarm Productivity1.7%
 Unit Labor Costs1.8%
 ISM Manufacturing49.5
 ISM Prices Paid52.5
FridayNonfarm Payrolls175K
 Private Payrolls150K
 Manufacturing Payrolls-2K
 Unemployment Rate4.1%
 Average Hourly Earnings0.3% (3.7% Y/Y)
 Average Weekly Hours34.3
 Participation Rate62.5%
 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

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No Choice

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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

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To Oblivion

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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

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Will They Return?

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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.

TodayDallas Fed Manufacturing-13
TuesdayChicago Fed National Activity-0.4
 Case-Shiller Home Prices6.9%
 Consumer Confidence100.0
WednesdayNew Home Sales640K
ThursdayInitial Claims236K
 Continuing Claims1820K
 Durable Goods0.0%
 -ex Transports0.1%
 Q1 GDP (Final)1.3%
FridayPersonal Income0.4%
 Personal Spending0.3%
 PCE0.0% (2.6% Y/Y)
 Core PCE0.1% (2.6% Y/Y)
 Chicago PMI40.0
 Michigan Sentiment65.7

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

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Ain’t

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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

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Crushed

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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.

TuesdayNFIB Small Biz Optimism89.8
WednesdayCPI0.1% (3.4% Y/Y)
 -ex food & energy0.3% (3.5% Y/Y)
 FOMC Rate Decision5.5% (unchanged)
ThursdayInitial Claims224K
 Continuing Claims1800K
 PPI0.1% (2.5% Y/Y)
 -ex food & energy0.3% (2.5% Y/Y)
FridayBOJ Rate Decision0.10% (unchanged)
 Michigan Sentiment72.0
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

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