Tag Archives: #china

Kind of a Ruse

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The central bank mantra worldwide
Is ‘flation is set to subside
So, rate cuts remain
The path they’ll maintain
With alternate views all denied
 
But weirdly, despite these strong views
The data just seems to refuse
To show ‘flation slowing
In fact, it keeps showing
Their comments were kind of a ruse

 

Ask any central banker around the world their view on the path of inflation and I assure you they will claim it is slowing and will return to their 2% goal over time.  They will point to obscure signals some months, and headline inflation prints other months, but nothing will dissuade them from this view.  

Now, I am just an FX guy and so clearly don’t have the same expertise in econometric modeling that all those PhD’s in all those central banks have but…it does sort of seem like all their models simply have 2% as one side of the equation and they use goal-seek in Excel to create their outcomes. And anyway, how did 2% become the “natural” rate of inflation?  After all, that inflation rate was literally pulled out of thin air by RBNZ Governor Donald Brash back in 1990 and has been copied by virtually every other central bank around the world since.  

But, whatever the history, that is the goal and recent data from countries throughout the G10 show that prices are not really converging to this rate.  The UK is the latest to release data with the Headline CPI rising 2.3%, a tick more than expected and Core rose 3.3%, 2 ticks more than expected.  It seems that the same problems the Fed is having with services ex-shelter are being felt in many places around the world.  This is the portion of the CPI basket that is most directly impacted by wages and wages continue to rise (which is a good thing for most people), just not necessarily quickly enough to keep up with inflation.  For example, Eurozone Negotiated Wage Growth rose 5.42% in Q3, its fastest rise since the Eurozone was formally created as per the chart below.  It strikes me that the ECB is going to find it very difficult to push prices lower absent causing a deep enough recession where layoffs are widespread, and wages fall.  And my guess is that is not one of their goals.

Source: tradingeconomics.com

Of course, we all know the situation here in the States, where the CPI data has formed a base above 3% and seems far more likely to rise than fall, also absent a major recession. 

Ultimately, it begs the question why we care about this data (other than the obvious reason we all have to live with rising prices) from a market perspective.  To the extent that monetary policy is a key driver of markets around the world, and relative monetary policy is an important input into the value of different currencies, the relative inflation rates are a critical piece of the puzzle to try to figure out what is happening and how one can hedge their exposures.  So, if inflation rates everywhere are slow to return to that sacred 2% level, then different central banks are going to behave differently in order to achieve their goals.

For instance, earlier this week we saw the Minutes of the RBA’s meeting where they were distinctly hawkish regarding the fact that inflation does not seem to be falling the way they hoped prayed for expected based on their models.  As such, markets adjusted their pricing for interest rates to remain higher for longer and that helped support the AUD on a relative basis.  This morning, amidst a broad-based dollar rally, the pound (-0.25%) is the second-best performer in the G10, after the dollar, as the higher than forecast CPI data has traders expecting the BOE to slow the pace of rate cuts to address the issue.  And this is why we care.

Remember, too, while there is currently an extraordinary amount of digital ink being spilled as pundits around the world try to anticipate what President-elect Trump is going to do regarding fiscal policy and tariffs and how that is going to impact relative trade flows as well as monetary policy responses to these actions, my take is that is an enormous waste of time.  The first thing we know is that nobody, not even Trump himself, really knows how this is going to play out as there are so many potential paths down which he can tread.  And second, the situation seems akin to Keynes’ famous analogy to a beauty contest where you need to select the person who the crowd thinks is the most beautiful, not the one you may think fits that description.  In other words, trying to predict the outcome implies understanding what everyone else is expecting, and right now, expectations are widely disparate. 

It is for this reason that hedging is so critical, and having a consistent hedging plan is key.  None of us has a crystal ball, and managing risk is far more about mitigating big drawdowns than capturing big gains.

Ok, a little long-winded this morning so let’s zip through the overnight market activities.  Mixed is the best description for yesterday’s US session, with the DJIA sliding while the other two major indices rallied a touch. It also describes the Asian session overnight as the Nikkei (-0.2%) slipped along with Australia (-0.6%) while China and Hong Kong both managed modest 0.2% gains.  The PBOC left Loan Rates unchanged last night, as widely forecast and I expect they will not do anything until Trump is in office and has his team in place.  As to European bourses, they are all in the green this morning, but just barely so, with gains between 0.1% and 0.3%, hardly exciting.  As to US futures, they are edging higher this morning by 0.1% or so as the most important news in the world, Nvidia earnings, are due to be released after the close today.

In the bond market, yesterday’s yield declines are being almost perfectly reversed this morning with Treasury yields higher by 3bps and European sovereign yields rising between 4bps and 6bps.  Certainly, the higher inflation print in the UK has not helped sentiment and I suppose there is some reaction to some of Trump’s recently announced Cabinet picks, notably the Commerce Secretary choice, Howard Lutnick, who is by all accounts a major proponent of tariffs.

In the commodity markets, oil (+0.5%) is holding its recent gains although WTI remains below $70/bbl.  My take is that a Trump presidency is going to be quite negative for the price of oil as reduced regulations on drilling along with access to more sites will see production increase.  As to the metals markets, gold (-0.2%) has slowed its recent rebound, as has silver (-1.2%) although copper (+0.6%) is holding its own this morning.  The last week has seen the metals markets recoup a substantial portion of the recent drawdown although all of them remain lower than levels seen a month ago.

Finally, the dollar is back in fine form this morning, rising against all its counterpart currencies.  The laggards in the G10 are NOK (-0.8%) and SEK (-0.8%) although the euro (-0.5%) is under severe pressure again as it continues to probe toward the key 1.0500 technical level.  In the EMG bloc, HUF (-1.0%) is the laggard although most of the bloc is softer by between -0.3% and -0.5%.  We continue to see CNY (-0.25%) slide as the dollar pushes back above 7.25 this morning.  That is the level that has held things in check for the past 5 years, and many believe that when Trump takes office, we could see the renminbi weaken much further once tariffs are imposed.  Of course, one of the things the PBOC has been fighting for a long time is a chaotic slide in the renminbi as that does not suit President Xi’s goals of stability to encourage more use by other parties.

The only US data today is the EIA oil inventories with a modest build expected after last week’s large draws.  Yesterday’s housing data was a touch weaker than expected and we have heard very little from Fed speakers since Powell explained he was sauntering toward the next rate cut rather than hurrying there.  As of this morning, the market probability of that cut happening in December sits at 57%, which is the lowest it has been since the previous meeting.

There are many cross currents in the market narrative at this time with nothing remotely clear.  The one thing we know about Donald Trump is he has the capacity to surprise absolutely everyone with his actions, regardless of his words.  Again, this is what informs us that a consistent hedging program is the only way to mitigate against major surprises.

Good luck

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Whining and Bleating

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In Rio, the G20’s meeting
With typical whining and bleating
No progress was made
On tariffs or trade
And Trump, though not there, took a beating
 
Seems leaders in most of these nations
Are fearful of future relations
With Trump and the States
Which just demonstrates
How low are their own expectations

 

I guess the idea of these broad talking shops is rooted in a desire to keep open lines of communication between parties with different views on the way things should be in the world.  But, boy, the G20 has really deteriorated over time.  Probably, this is merely a symptom of the underlying changes in international relations.  Remember, the G20 is an outgrowth of the Group of 7 nations (US, Germany, UK, Japan, France, Canada and Italy) and only began in 1999.  The idea was to help develop the globalization initiative by creating an organization that included both developed and developing nations.  It was this group that led to China joining the WTO in 2001 and, ironically, which laid the groundwork for its own slow disintegration.

This is not to say that these leaders are going to stop meeting each year, just that the opportunity for substantive policy proposals has likely passed us by.  And understand, this has been the case for a while now as the Chinese mercantilist policy has seemingly reached the end of its global acceptance.  While President-elect Trump tends to get the most bashing for this, one need look no further than Europe to see tariff and non-tariff barriers rising quickly.  Below, I will allow Bloomberg’s reporters to summarize some of the key issues highlighting the lack of agreement on anything.

  • Germany’s Olaf Scholz and France’s Emmanuel Macron are pushing for tougher language in the summit communique against Hamas and Russia on the wars. Brazil doesn’t want to reopen the text, fearing that it will reignite battles over other issues too. 
  • UK Prime Minister Keir Starmer irritated Chinese officials by raising human rights and the issue of Taiwan with President Xi Jinping at their first bilateral meeting.
  • The potential impact of Donald Trump’s impending return to the White House on trade and diplomatic relations hung over many of the day’s bilaterals. 
  • The rivalry between host Brazil’s Luiz Inacio Lula da Silva and Argentina’s Javier Milei was on full display on everything from the role of the state in fighting poverty to climate change, with the latter leader maintaining his contrarian stance to some of the key points in the summit’s statement.
  • There was even drama around the traditional family photo, which US President Joe Biden, Canada’s Justin Trudeau and Italian Prime Minister Giorgia Meloni somehow missed.

As I said, I expect that these meetings will continue but their usefulness is very likely to continue to deteriorate.  One way you know that this process has reached the end of the road is that no financial markets have reacted to any commentary from anyone at the meeting.  In the past, the G20 statement or comments from leaders on the sidelines would move markets as they implied policy shifts.  No longer.  Remember, too, that at least four of these leaders are lame ducks (Biden, Macron, Scholz and Trudeau) and will be out of office within a year.

Away from the photos and sun
Investors see fear and not fun
Ukraine’s getting hotter
Midst greater manslaughter
While pundits, new stories, have spun

However, if we step away from the glitz (?) of the G20 meeting, markets are demonstrating a fearful tone this morning.  Yesterday saw US equities with a mixed session as investors continue to try to determine the impacts of President Trump’s return.  Will there be tariffs?  If so, how big and on what products?  And which companies will benefit or be hurt by the process.  Generally speaking, the thought has been small-cap companies would be the big beneficiaries while both Big Pharma and Big Food would feel pressure from this new administration.  But how has that impacted other nations and other markets?

In truth, I have a feeling one of the key issues this morning is that President Biden’s change in policy to allow Ukraine to fire long-range missiles into Russia is now a growing concern.  Russia has altered their nuclear response policy, essentially threatening that if this keeps up, they will both blame the US and NATO and respond with nuclear weapons if they determine that is appropriate.  Funnily enough, investors, especially those in Europe, have determined that may not be a positive outcome for European companies.  Hence, bourses across the continent are all lower this morning with declines greater than -1.1% everywhere with Poland (-2.1%) the laggard.  As to Asian markets overnight, they were broadly firmer as the potential escalation in Europe is likely to have a smaller impact there.  But US futures are under pressure this morning, -0.4% across the board at this hour (6:30).

That risk off feeling is being felt in bond markets as well, with yields falling everywhere as investors switch from stocks to bonds.  Treasury yields have fallen -6bps and we are seeing similar declines, between -4bps and -6bps, across the continent as well.  Fear is palpable this morning here.

This fear is clear in the commodity markets as well where oil (-1.0% after a 3.3% rally yesterday) is softer along with copper (-0.7%) but precious metals (Au +0.8%, Ag +0.5%) are both in demand.  The one other noteworthy move this morning is NatGas (+0.6%), bucking the oil trend as despite the oft-feared global boiling (to use UN Secretary General Antonio Guterres term), Europe is feeling an unseasonable cold spell with rain and temperatures just 40° Fahrenheit, some 15° below normal.

Finally, the dollar is back on top this morning as fear has driven investors and savers to holding the greenback despite all its problems.  Using the Dollar Index (DXY) as our proxy, you can see from the below chart that despite all the huffing and puffing that the post-election climb of the dollar had ended last Thursday, in fact, we have only seen a very modest correction of the sharp election move and my take is we have higher to go from here.

Source: tradingeconomics.com

Adding to the risk-off thesis is the fact the JPY (+0.4%) is firmer and CHF (0.0%) has not declined with both of those traditional havens holding up well.  One other note is AUD (-0.2%) is one of the better performers after the RBA Minutes last night indicated that the central bank Down Under is also in no hurry to cut rates with fears of inflation still percolating there.  A quick look across the EMG bloc shows us that virtually all these currencies are softer with PLN (-0.8%) and ZAR (-0.65%) the laggards.  I guess given the concerns over Poland and a potential escalation of the war in Ukraine, it is no surprise the zloty is under pressure.

On the data front, this morning brings Housing Starts (exp 1.33M) and Building Permits (1.43M) as well as Canadian inflation (1.9% headline, 2.4% Median).  There are no Fed speakers scheduled today and quite frankly; it doesn’t strike me that Housing data is critical to decision making right now.  Fear is in the air and that is likely to continue to drive markets.  With that in mind, a deeper equity correction along with continued USD strength seem like the best bets for the day.

Good luck

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Not in a Hurry

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Said Jay, we are not in a hurry
To cut, as the future is blurry
As well, since it’s Trump
We don’t want a slump
‘Cause really, his favor, we curry

 

Apparently, the Chairman is reading FX Poetry (🤣) these days as he has come to the same conclusions I have drawn, there is no reason to cut rates anytime soon.  Yesterday, in a moderated discussion in Dallas, the Chairman said, “The economy is not sending any signals that we need to be in a hurry to lower rates. The strength we are currently seeing in the economy gives us the ability to approach our decisions carefully.”  And let’s face it, yesterday’s data simply added to the picture where the employment situation is not in trouble (Initial Claims rose only 217K, less than expected) while inflation signals remain hotter than desired with both core CPI and core PPI looking like they have bottomed as per the chart below.

Source: tradingeconomics.com

One of the things that Fed speakers consistently discuss is whether or not current policy is accommodative or restrictive based on their view of where the neutral rate of interest lies.  The problem, of course, is that neutral rate, also known as R* (R-star) is unknown and unknowable, only able to be determined in hindsight.  But that doesn’t stop them from trying.

At any rate, a consistent theme we have heard recently from Fed speakers is that they believe their policy is restrictive, hence the need to lower interest rates at all.  But there is a case to be made that policy is not restrictive at all right now as evidenced by the fact that the 10-year Treasury rate is actually below the “true” risk free rate.  How is that possible you may ask.

Consider that 30-year mortgage rates are also generally considered risk-free as not only are they collateralized, but they are mostly guaranteed by FNMA, GNMA and FHLMC, quasi government agencies that were shown to have the full faith and credit of the US government behind them when things got tough during the GFC.  Historically, meaning prior to Covid, the spread between 30-year mortgage rates and 10-year Treasuries was about 165bps on average.  However, since February of 2020, that average spread has expanded to 230bps.  (Notice how the green line representing the difference between the two rates is stably higher since Covid in 2020.)

Source: data FRED database, calculations @fx_poet

That difference is important because if you consider the idea that mortgage rates represent a better estimate of the “true” risk-free rate, then Treasury yields are cheap by 65bps relative to where they would otherwise be.  In other words, policy is looser by that amount than the Fed believes.  Why would this be the case?  Well, QE has very obviously distorted the price signals from the bond market.  Now, I grant that the Fed has also distorted the mortgage market (recall, they still own $2.26 trillion of those), but despite the ongoing QT process, they own $4.3 trillion of Treasuries.  And if price signals are distorted, making policy becomes that much tougher for the Fed.  It seems quite possible that through their own actions they have lost sight of reality and therefore, continue to make policy based on inaccurate data.  I would offer that as an explanation as to why the Fed always seems out of touch…because they are looking at the wrong things.

Ok, let’s take a look elsewhere in the non-political world to see what is going on.  Last night, China released their monthly data on Retail Sales (4.8% Y/Y), IP (5.3% Y/Y), Unemployment (5.0%) and Fixed Asset Investment (3.4% Y/Y).  Some parts were good (Unemployment was a tick lower than last month and expected, Retail Sales was a full point higher than expected) and some not so good (IP was 0.3% lower than forecast and Fixed Asset Investment came in 1 tick lower.). As well, the House Price Index there fell -5.9% Y/Y last month, which as you can see in the chart below, is indicative of the fact that the property problems in China are still significant and seemingly getting worse.

Source: tradingeconomics.com

However, one thing China is doing is pumping up its exports ahead of the inauguration of Donald Trump as they are clearly very concerned over the widely mooted 60% tariffs to be imposed on Chinese exports to the US.  In October, exports exploded higher by 12.7% and I expect we will see that again in November and December as companies there do all they can to beat the clock.  One thing this will do is help goose GDP data in China so that 5.0% growth target seems much more attainable now.  How things play out going forward remains to be seen, but for now, China is going to push as hard as possible.

Alas for the Chinese, that data and this idea did nothing to help the stock market there where the CSI 300 fell -1.75% last night, the laggard in the Asian time zone.  Given equities are discounting instruments, it appears people are more concerned over the future than the past.  Elsewhere in Asia, markets were generally flat to modestly firmer (Nikkei +0.3%) after (despite?) the US equity declines yesterday.  In Europe this morning, most markets are little changed to slightly softer  although Spain’s IBEX (+0.9%) is bucking the trend with its financial sector performing well, perhaps on the idea that the two big Spanish banks, Santander and BBVA, will benefit from the Fed’s seeming policy shift.  However, US futures are softer at this hour (7:15) lower by between -0.3% and -0.6%.

In the bond market, yields around the world are virtually unchanged this morning with 10yr Treasuries at 4.43% and no movement in either Europe or Japan.  This feels to me like investors are not sure which way to go.  Perhaps more are beginning to understand my type of explanation above regarding where things are now and are unsure how to play the future regarding inflation prospects, especially with potentially large changes coming under a new administration.  My take is yields will continue to drift higher alongside rising inflation, but that is not a universal view at all.

In the commodity space, oil (-0.4%) is a touch softer this morning although the big declines seemed to have stopped for now.  Here, too, uncertainty about how policy will evolve going forward has traders on the sidelines. In the metals markets, yesterday’s lows seem to be holding for now as while gold is unchanged on the session, both silver (+0.85%) and copper (+1.75%) seem to be rebounding.  If yields are going to continue higher, the road for metals is likely to be tough, but ultimately, lack of supply is going to drive this story.

Finally, the dollar is giving back some of its gains from this week in what appears to be a profit taking move.  It can be no surprise this is the case, especially given holding positions over the weekend at the current time remains a fraught exercise.  After all, will there be an escalation in Israel/Lebanon?  Ukraine?  Somewhere else?  And what will Trump announce over the weekend?  There has still been no announcement regarding his Treasury Secretary, and that is obviously crucial.  So, the dollar has given back about 0.3% of this week’s move largely across the board and I wouldn’t give it any more thought than that.

On the data front, this morning brings the Empire State Manufacturing Index (exp -0.7) as well as Retail Sales (0.3%, 0.3% ex autos) at 8:30.  Then, at 9:15 we see IP (-0.3%) and Capacity Utilization (77.2%).  There are no other Fed speakers scheduled today, although after Powell pushed back on further rate cuts yesterday, it will be interesting to hear the next ones and how they describe things.  If today’s data is hot, I would expect the probability of a rate cut in December, which currently sits at 62.4%, to fall below 50%.  As I have maintained, there just doesn’t seem to be much of a case to keep cutting given the economy’s overall strength.

With that in mind and given that growth elsewhere in the world is lagging, I still like the dollar to maintain and gain strength going forward.

Good luck and good weekend

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Great Expectations

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In Europe, the largest of nations
Is faltering at its foundations
The ‘conomy’s sagging
And tongues are now wagging
‘Bout voting and great expectations
 
Alas for the good German folk
The government’s turned far too woke
Their energy views
Have caused them the blues
And soon they may realize they’re broke

 

With elections clearly on almost everybody’s mind, it can be no surprise that the crumbling government in Germany has also finally accepted their fate and called for a confidence vote to be held on December 16 which, when Chancellor Olaf Scholz loses (it is virtually guaranteed), will lead to a general election on February 23, 2025.  As has happened in literally every election held thus far in 2024, the incumbents are set to be tossed out.  The problems that have arisen in Europe, with Germany being ground zero, is that the declarations by the mainstream parties to avoid working with the right-wing parties that have garnered approximately 25% of the population’s support almost everywhere, means that the traditional parties cannot create working coalitions that make any sense.  After all, the German government that is collapsing was a combination of the Center-left Social Democrats, the far-left Greens and the free market FDP.  That was always destined to fail so perhaps the fact it took so long is what should be noted.

At any rate, it is not hard to understand why the people of Germany are unhappy given the economic situation there.  The economy hasn’t grown in more than two years, basically stagnating, while inflation continues to run above 2%.  Meanwhile, energy prices have risen sharply as a consequence of their Energiewende policy; the nation’s attempt to achieve net zero CO2 emissions.  However, not only did they shutter their nuclear generating fleet, the most stable source of CO2 free electricity, they decided that wind and solar were the way forward.  Given that there are, on average, between 1600 and 1700 hours of sunshine annually (4.3 to 4.5 hours per day), that seemed like a bad bet.  The results cannot be surprising as Germany energy costs are amongst the highest in the world.  The below chart shows electricity prices around the world.

Source: statista.com

If you want a good reason as to why incumbent governments around the world are falling, you don’t have to look much further than this.  Meanwhile, this morning brought the German ZEW Economic Sentiment Index which printed at 7.4, well below both last month and expectations.  As well, the Current Conditions Index fell to -91.4, which while not the lowest ever, certainly indicates concern given -100 is the end of the scale.  

I’m sure you won’t be surprised to note that the euro (-0.4%) has fallen further this morning amid a broad-based dollar rally, that German stocks (DAX -0.8%) are falling and German bund yields (-2bps) are also falling as it becomes ever clearer that the ECB is going to need to cut rates more aggressively than previously anticipated.  Perhaps the story of Bayer Chemical today, where their earnings fell 26% and the stock has fallen 11% to a level not seen since 2009, is a marker.  Just like Volkswagen, they are set to cut costs (i.e., fire people) further.  Germany is having a rough go, and if they continue to perform like this, Europe will have a hard time going forward.

So, while the media in the US continues to focus on President-elect Trump and his activities as he fills out his cabinet posts and other government roles, elsewhere around the world, governments are trying to figure out how to respond to the changes coming here.

In that vein, the COP 29 Climate Conference is currently ongoing in Baku, Azerbaijan (a major oil drilling city) but finding much less press than previous versions.  As well, the attendee list has shrunk, especially from governments around the world.  This appears to be another consequence of the shift in voting preferences.  In fact, I expect that over the next four years, the number of discussions on climate will decline substantially.  

Perhaps the best place to observe how things are changing is China, as they now find themselves in the crosshairs of Trump’s policy changes and they know it.  The question is how they will respond with their own policies.  Recall, last week there were great hopes that we would finally see that big bazooka of fiscal stimulus and it was never fired.  Recent surveys of analysts, while continuing to hope for that elusive stimulus, now see a greater chance of Xi allowing the CNY to decline more rapidly to offset the impacts of tariffs.  This is something that I have expressed for a long time, that the CNY will be the relief valve for the Chinese economy as it comes under pressure.  Certainly, the market seems to be on board with this thesis as evidenced by the CNY’s movement since the election.  I expect there is further to run here.

Source: tradingeconomics.com

Ok, between Germany and China, those were the big stories away from the Trump cabinet watch.  Let’s see how markets behaved overnight in the wake of yet another set of record high closings in the US yesterday.  Despite the yen’s weakness, the Nikkei (-0.4%) was under pressure, although nothing like the pressure seen in China (Hang Seng -2.8%, CSI 300 -1.1%) or even elsewhere in Asia (Korea -1.9%, India -1.0%, Taiwan -2.3%) with pretty much the entire region in the red.  Of course, the same is true in Europe with all the major bourses under pressure (CAC -1.3%, FTSE 100 -1.0%) alongside the DAX’s decline.  As to US futures, at this hour (7:15) they are essentially unchanged as we await a series of five more Fed speeches.

In the bond market, Treasury yields (+6bps) are rising as it appears the 4.30% level is acting as a trading floor now that we have seen moves above it.  However, as mentioned above, the weaker economic prospects in Europe have seen yields across the continent soften between -1bp and -2bps.  Futures markets are now pricing more rate cuts by the ECB over the next year than the Fed although both are pricing about the same probability of a cut in December.  I think the direction of travel is less Fed cutting and more ECB cutting and that will not help the euro.

In the commodity markets, the rout in the metals markets continues with both precious (Au -0.8%, Ag -1.0%) and industrial (Cu -2.0%, Al -0.8%) finding no love.  In fairness, these had all seen very substantial rallies since the beginning of the year, so much of this is profit-taking, although there are those who believe that Trump will be able to arrest the constant rise in US debt issuance.  I’m not so sure about that.  As to oil (+0.6%) it has found a temporary bottom for now, but I do expect that it will continue to see pressure lower.

Finally, the dollar is king today, higher against every one of its counterparts in both the G10 and EMG blocs.  In the G10, the movement is almost uniform with most currencies declining between -0.4% and -0.5% although CHF (-0.1%) is trying to hang on.  In the EMG bloc, there are some larger declines (ZAR -0.8%, CZK -0.9%, HUF -0.9%) while LATAM currencies are lower by -0.5% and we saw similar movements in Asia overnight, -0.5% declines or so.  Again, it is difficult to make a case, at least in the near term, for the dollar to decline very far.  Keep that in mind when considering your hedges.

On the data front, the NFIB Small Business Optimism Index was released earlier at a better than expected 93.7, roughly the same as the July reading and potentially heading back toward the 2022 levels obtained during the recovery from the covid shutdowns.  I expect the election results had some part in this move.  Otherwise, its Fed speakers and we wait for tomorrow’s CPI.  All signs continue to point to a positive view in the US and a stronger dollar going forward.  Parity in the euro is on the cards before long.

Good luck

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Fraught

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The job growth that everyone thought
Existed, seems like it was fraught
Meanwhile ISM
Showed further mayhem
As growth slowed while prices were hot
 
The funny thing was the reaction
Where stocks were a source of attraction
But at the same time
Bond buys were a crime
With sellers the ones gaining traction

 

The NFP data was certainly surprising as the headline number fell to its lowest level, 12K, since December 2020 with the worst part, arguably, the fact that government jobs rose 40K, so there were 52K private sector job losses.  That is just not a good look, nor were the revisions to the previous months which saw another 112K jobs reduced from the rolls.  It cannot be surprising that the Fed funds futures market immediately took the probability of a rate cut to 99% this week and raised the December probability to 82%, up more than 10 points in the past week.  After all, Chair Powell basically told us that he has slain inflation, and they are now hyper focused on the employment mandate.  With that in mind, the futures reaction makes perfect sense.

Perhaps even more surprising was the market reaction, or the dichotomy of market reactions, which saw equity markets in the US rally nicely, with gains between 0.4% and 0.8% in the major indices, while Treasury yields spiked 10bps despite the data.  That yield spike helped carry the dollar higher as the greenback rallied smartly against virtually all its counterparts by more than 0.50%, and it undermined commodity prices.  

The most common explanation here, though, had less to do with the NFP data and more to do with the recent polls regarding the US election, where it appeared the former president Trump was gaining an advantage.  Remember, the ‘Trump trade’ is being described as a steeper yield curve with benefits for the dollar and US equities on the back of stronger growth and higher inflation.

There once was a US election
Where both candidates lacked affection
The worry it seems
Is half the world’s dreams
Are likely soon met with dejection
 
Meanwhile for investors worldwide
This week ought to be quite a ride
To all our chagrins
No matter who wins
Look for either outcome denied

However, this morning, the markets have changed their collective mind, with virtually all of Friday’s movement now unwound, at least in the bond and FX markets.  What would have caused such a reversal?  Well, the latest polls show that the race is much tighter than thought on Friday, with VP Harris gaining ground in a number of them, which now has most pundits simply calling for their favored candidate to win, rather than trying to read the polls.  As such, the Trump trade has been partially unwound and my sense is that until there is an outcome, it will be difficult for markets to do more than increase the amplitude of their moves amid less and less actual trading.  At least, that is true in bonds, FX and commodities.  Stocks, as we all know, are legally mandated to rise every day, so are likely to continue to do so. 

And now, despite the fact that the Fed meets on Thursday, with a rate cut all but assured and ostensibly a great deal of interest in Chairman Powell’s press conference, all eyes are on the election.  Remember, too, not only is that the case in the US, but also around the world.  Whether friend or foe of the US, pretty much all 195 nations on the planet are invested in the outcome.

With that in mind, and since this poet has no deep insight into the outcome, let me simply recount the overnight market activity with the understanding that many trends have the opportunity to reverse depending on the results.

Starting with equity markets, Japanese shares (-2.6%) fell sharply as a combination of both their domestic political struggles (remember their government situation is unclear after the recent snap election) and the significant rebound in the yen (+0.9%) weighed on equities there.  India (-1.2%) also struggled but elsewhere in the time zone, stocks rallied nicely led by China (+1.4%) and Korea (+1.8%) as visions of that Chinese fiscal bazooka continue to dance in investors dreams.  Interestingly, the WSJ had an article this morning downplaying the idea, which based on their history makes a great deal of sense to me.  Turning to Europe, most markets there are firmer, albeit only modestly so, with gains from the CAC and IBEX (+0.3% each) outpacing the DAX (0.0%).  Finishing off, US futures are basically unchanged at this hour (7:00).

In the bond markets, while the Treasury move Friday did help drag European yields somewhat higher, it was nothing like seen in the US and this morning, those yields are essentially unchanged, +/- 1bp in most cases.  The only data of note was the final PMI data which confirmed the flash data from last week.  As to JGB yields, they have been stuck in the mud for a while now, still hanging below the 1.0% level with no designs of a large move.

Oil prices (+3.1%) are rebounding nicely on news that OPEC+ has delayed their previous plans to start increasing production as of December this year.  Concerns about oversupply in the global market plus the return of Libyan production and record high US production have convinced them they better leave things as they are.  Metals markets are a bit firmer this morning with gold (+0.2%) actually somewhat disappointing given the magnitude of the dollar’s decline, while both silver (+1.25%) and copper (+1.1%) show nice gains.

Finally, the dollar is under severe pressure across the board.  The biggest gainers are MXN (+1.2%), NOK (+1.2%) and PLN (+1.1%) although most gains are on the order of 0.7% or more.  Certainly, the oil story is helping NOK, and given the concerns that traders have about prospective tariff increases on Mexico if Trump wins, the idea that the race is closer than previously thought has supported the peso.  As to the zloty, it seems that their PMI data, printing at 49.2, a fourth consecutive rise) has traders looking for a more hawkish central bank on the back of stronger economic activity.

On the data front, aside from the election and the Fed, there is other information, although it is not clear that anyone will notice.

TodayFactory Orders-0.4%
TuesdayTrade Balance-$84.1B
 ISM Services53.8
ThursdayBOE Rate Decision4.75% (current 5.00%)
 Initial Claims223K
 Continuing Claims1865K
 Nonfarm Productivity2.5%
 Unit Labor Costs1.1%
 FOMC Rate Decision4.75% (current 5.0%)
FridayMichigan Sentiment71.0

Source: tradingeconomics.com

Of course, the election will dominate everything, and it certainly appears that there will be legal challenges from the losing side regardless of the outcome.  My expectation is that markets will remain jumpy with outsized moves on low volumes until there is more clarity.  It is not often that an FOMC meeting is seen as an afterthought, but much to Chairman Powell’s delight, I sense that is going to be the case this week.  

I have already voted early and I encourage each of you to vote as the more voices heard, the better the case the winner will have at achieving a mandate.  And the reality is, we need a president with a mandate if we are going to see broad-based positive changes in the nation going forward.

Good luck

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Looking Elsewhere

Posted on by

The Middle East story is back
With fears that Iran might attack
So, oil is rising
And it’s not surprising
The dollar is leading the pack
 
But til anything happens there
The market is looking elsewhere
The Payrolls report
May well be the sort
That causes Chair Powell to care

 

It was only a week ago when the Israeli response to the Iranian missile barrage was seen by market participants as a clear de-escalation of tensions in the Middle East.  The market’s response was to reduce the risk premium in the price of oil which promptly fell $5/bbl amid signs of slowing growth in China as well.  Alas, as can be seen in the chart below, that was Monday’s story and no longer pertains.  Rather, the new concern is that Iran is planning to launch yet another attack, this time via proxies in Iraq, with Israel vowing to respond more severely.  You cannot be surprised that oil has regained its levels prior to Monday’s narrative.

Source: tradingeconomics.com

Adding to the buying pressure for oil has been the better than expected growth data from China (Caixin Mfg PMI printing better than expected 50.3) and solid US GDP data on Wednesday along with stronger Personal Income and Spending data yesterday.  And remember, the market is also looking ahead to the Standing Committee of the National People’s Congress in China to add significant fiscal stimulus there, with CNY 10 trillion (~$1.4 trillion) the most popular number being bandied about.  If that comes to pass, it will seemingly increase demand for oil on China’s part.

Of course, there is another piece of news that the market is awaiting with the potential for a significant impact, today’s Employment Report.  Ahead of the release, these are the current consensus forecasts:

Nonfarm Payrolls113K
Private Payrolls90K
Manufacturing Payrolls-28K
Unemployment Rate4.1%
Average Hourly Earnings0.3% (4.0% Y/Y)
Average Weekly Hours34.2
Participation Rate62.5%
ISM Manufacturing47.6
ISM Prices Paid48.5

Source: tradingeconomics.com

You may remember that last month, the NFP number printed much higher than expected at 233K which began the questioning of the Fed’s expected rate cutting path.  Frankly, the data since then has done very little to argue for much policy ease as Retail Sales have held up, GDP was solid and prices appear to be moving higher, not lower.  In fact, you can see how things have played out over the past month in the chart/table below from the CME showing the market priced probability of future Fed funds rates.  Check out where things were a month ago, just prior to the last NFP report.

The market was pricing a more than 50% probability of at least 75 basis points of rate cuts by December. Obviously, that is no longer the case and if this morning’s data proves stronger than forecast (remember, ADP Employment was significantly stronger than expected) many more people are going to call into question the assumption that the Fed is going to be cutting rates at all.  If you think about it, GDP is growing above trend at 2.8%, inflation remains above target with core CPI 3.3% and Unemployment is at a still historically low 4.1%.  if I look at those three major economic guideposts, the one that stands out to be addressed is inflation, not Unemployment, and that takes tighter policy.

Now, maybe this morning’s data will be awful, with a 50K NFP print and a jump in the UR to 4.3%.  That would certainly bring the doves out more aggressively but absent something like that, I continue to scratch my head as to why the Fed is so keen to cut the Fed funds rate.  Let’s put it this way, if the data surprises to the upside, I expect the December rate cut probability to fall close to 50%.

At any rate, those are the topics du jour, away from the election stories that are suffocating most everything else.  So, let’s see how things behaved overnight.

Well, I guess there has been one other story that has gotten tongues wagging, the fact that US equity markets had their worst session in two months with all three major indices falling sharply.  This was blamed on weaker than forecast earnings releases from several companies in the tech sector, where even if the actual earnings were solid, there were other issues like guidance or breakdowns of revenues, that disappointed.  It is far too early to declare that the love affair with the tech sector, especially AI, is ending, but there are a few names in the sector that are suffering greatly.  This certainly bears close watch going forward, because if this theme starts to lose adherents, even in the short run, it appears there is ample room for a move lower in stocks.

Turning to other markets overnight, Tokyo (-2.6%) led the way lower in Asia with most regional exchanges falling and only Hong Kong (+0.9%) bucking the trend.  There are those who believe there is a causal relationship between the Nikkei, the NASDAQ and USDJPY with one theory that it is the FX rate that drives these movements.  While it is certainly true that we have seen correlation amongst these three markets, I find it difficult to make the case that USDJPY is the driver.   A quick look at all three on the same chart certainly shows that they regularly move in similar directions, but I have a harder time claiming which one is the leader.

Source: tradingeconomics.com

However, despite the negativity from yesterday’s US moves and the overnight sell-off and the sharp rise in oil prices, European bourses are all in the green today, higher by about 0.5% across the board.  In fact, this is in sync with US futures which are also trading higher, by about 0.4%, this morning.

In the bond market, other than UK Gilt yields, which rose 7bps net yesterday although traded as high as 20bps higher than Wednesday’s close during the session, the rest of the bond markets were quiet.  It seems that UK bond investors are not that happy with the recently promulgated budget, and neither are voters as there was a by-election in a “safe” Labour seat that went to Nigel Farage’s Reform UK party.  I have a feeling that bond markets are going to be the epicenter of market activity over the next week or two as huge differences of opinion remain regarding the potential outcomes of the US election.

Away from oil (+1.9%) this morning, the rest of the commodity sector is also doing well today with both precious and base metals all in the green.  But they have not recouped yesterday’s declines which saw gold fall back -1.5% with even larger losses in silver (-3.2%) although copper (-0.6%) didn’t have nearly as bad a day.  This morning, the metals are higher by between 0.2% (gold ) and 0.6% (silver), so it seems like it was a month-end position adjustment and profit-taking exercise.

Finally, the dollar is strong this morning, rallying against most of its G10 counterparts with JPY (-0.4%) the laggard while the pound (+0.1%) seems to be benefitting from higher yields.  Versus the EMG bloc, the dollar is also broadly higher with only MXN (+0.2%) showing any life.  The peso has a number of issues ongoing with concerns that a Trump victory may lead to tariff increases and strain on the economy while domestic issues have arisen over the potential resignation of eight of their Supreme Court Justices which will have a big impact on the judicial system and potentially the Morena party’s ability to rule effectively.  However, after a steady weakening of the peso throughout October, it appears we are seeing a bit of a bounce this morning.

And that’s really what we have today.  At this point, we will all await the NFP and respond accordingly.  Something to keep in mind is that the hurricanes last month could well impact the data, so whatever the outcome, you can be sure that there will be those saying to ignore it as incomplete.  Regarding the dollar, it is still hard to bet against in my mind given the US economic data continues to be the best around.

Good luck and good weekend

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Full Throat

Posted on by

The news cycle’s still ‘bout the vote
With Harris and Trump in full throat
‘Bout why each should be
The one filled with glee
When voters, to prez, they promote
 
Meanwhile, out of China we hear
More stimulus is coming near
The rumor is on
That ten trillion yuan
Is how much Xi’ll spend through next year

 

The presidential election continues to be the primary source of news stories and will likely remain that way until a winner is decided.  The vitriol has increased on both sides, and that is unlikely to stop, even after the election as neither side can seem to countenance the other’s views on so many subjects.  

As we watch Treasury yields continue to rise, many are ascribing this move to the recent polls that show former President Trump gaining an advantage.  The thesis seems to be that his proffered plans will increase the budget deficit by more than Harris’s proffered plans, but I find all this a bit premature as budget deficits are created by Congress, not presidents, so the outcome there will have a significant impact on the budget.  With that in mind, though, if we continue to see the yield curve steepen as long-end rates rise, my take is the dollar will continue to perform well.

But the election is still a week away and while there is no new data of note today, we do see important numbers starting tomorrow.  In the meantime, one of the big stories is that the Chinese National People’s Congress is now considering a total stimulus package of CNY 10 Trillion to help support the economy, and that if Trump wins, that number may grow larger under the assumption that he will make things more difficult for the nation.  This report from Reuters indicates that there would be a lot of new debt issuance to help support local governments repay their current borrowings as well as support the property market.  

Now, this is very similar to what was reported last week, although the totals are larger, but there is nothing in the story indicating that President Xi is going to give money to citizens, nor focus on new production.  This all appears to be an attempt to clean up the property market mess (remember, most local government debt problems are a result of the property debacle as well), which while necessary is not sufficient to get China back to its pre-pandemic growth trend.

As it happens, this story did not print until after the Chinese equity markets closed onshore, so the CSI 300’s decline of -1.0% has been reversed in the futures aftermarket.  As well, given that Hong Kong’s market doesn’t close until one hour later, it had the opportunity to rebound before the close and finished higher on the day by 0.5%.  As to the rest of Asia, it mostly followed the US rally from yesterday with the Nikkei (+0.8%) performing well and gains seen across virtually all the other markets there.

Turning to Europe, the only data of note was the German GfK Consumer Confidence index which rose to -18.3.  While this was better than last month and better than expected, a little perspective is in order.  Here is the series over the past ten years.

Source: tradingeconomics.com

While it seems clear that consumers are feeling a bit more confident than they have in the past year, ever since the pandemic, the German consumer has been one unhappy group!  And the other story from Germany this morning helps explain their unhappiness.  VW is set to close at least 3 factories and reduce wages by 10% as they try to compete more effectively with Chinese EV’s.  I can only imagine how confident that will make the people of Germany!

Now, the interesting thing about confidence is that while it offers a view of the overall sentiment in markets, it doesn’t really correlate to any specific market moves.  For instance, the euro (-0.2%) remains rangebound albeit slightly lower this morning, while the DAX (+0.25%) has actually rallied a bit, although that is likely on the basis of the VW news helping to convince the ECB that they need to cut rates further and faster.  In fact, most European bourses are firmer this morning on the lower rate thesis I believe, although Spain’s IBEX (-0.25%) is lagging after some moderately worse earnings news from local companies.

Turning to the commodities sector, it should be no surprise that they are higher across the board as the combination of proposed Chinese stimulus and potential future inflation in the US based on a possible Trump victory (although there is nothing in the Harris policies that seem likely to reduce inflation) means that commodities remain a favored outlet for investors.  After a couple of days of choppiness, we are seeing oil (+1.2%) rise nicely (perhaps the decline was a bit overdone on position adjustments) and the metals complex rise as well (Au +0.3%, Ag +1.3%, Cu +1.1%) as all three will benefit from all the new spending that is likely to occur in the US as well as China.  

One other thing to note, which disappointed the gold bulls, as well as the dollar bears, is that the BRICS meeting in Kazan, Russia resulted in…nothing at all regarding a new currency to ‘challenge’ the dollar.  Toward the bottom of their proclamation, they indicated they would continue to look for ways to work more closely together, but there is nothing concrete on this subject.  As I have been writing for the past several years, and paraphrasing Mark Twain, rumors of the dollar’s demise have been greatly exaggerated.  So, there will be no BRICS currency backed by gold or anything else, no new payment rails and Treasuries are going to remain the haven asset of choice alongside gold.

As to the dollar vs. its other fiat counterparts, it is a bit stronger this morning alongside US yields (Treasuries +3bps) with even the commodity bloc having difficulty gaining ground.  Of note is USDJPY, which is higher by 0.35% and now firmly above 153.00.  Last night, we did hear our first bout of verbal concern from a MOF spokesman explaining they are watching the yen carefully.  I’m sure they are, but I believe they will be very reluctant to enter the market when US yields are rising, and the BOJ is not keeping pace.  In fact, while the November rate cut is baked in at this point, the probability of the Fed cutting in December continues to slowly decrease (now 71%).  If we see a good NFP number Friday, I would look for that to decrease more rapidly and the dollar to see another leg higher.

And that’s all the market stuff today.  On the data front, Case Shiller Home Prices (exp 5.1%) and the JOLTS Job Openings data (7.99M) are the major releases.  As well, the Treasury is auctioning 7-year Notes this morning after a tepid 2-year auction yesterday.  It is very possible investors are starting to get a bit nervous about the US fiscal situation and if that continues, the irony is that higher yields will beget a higher dollar despite the concerns.

It is difficult to get away from the election impact on markets, and it seems that as momentum for Trump builds, the market is going to continue to push yields and stocks higher with the dollar gaining ground alongside gold.  Go figure.

Good luck

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This is the Vibe

Posted on by

In DC, the IMF tribe
Is meeting, and this is the vibe
Leave China alone
While they all bemoan
Das Trump to whom, problems, ascribe
 
Meanwhile in Beijing, Xi’s delayed
His policies as he’s afraid
If Trump wins the vote
More tariffs, he’ll float
Reducing Xi’s winnings in trade

 

With the US election fast approaching, it appears that virtually every aspect of life now hinges on the outcome.  This is even true in ostensibly neutral NGOs like the IMF.  As an example, the title of this Bloomberg article, Trump 2.0 Haunts World Economy Chiefs Gathering in Washington Before Vote is enough to make you question the neutrality of both Bloomberg and the ongoing activity at the IMF.  Briefly, in this article, the authors quote several meeting participants explaining that a Trump victory could disrupt the current global “stability” in trade.  (I’m not sure why they think the current situation is stable given the ongoing increases in tariffs already being implemented by the Eurozone as well as the US vs. Chinese manufactured goods, but they all are certain it will be a problem only if Trump is elected.)

In fact, earlier this week, the IMF explicitly said that a Trump victory would be negative for the global economy and that his policies would be worse for the US as well when compared to Harris’s policies.  My first thought is, how do they know Harris’s policies as she hasn’t been able to articulate any, but second, the idea that a supranational organization would express its electoral preferences leading up to a major national vote is remarkable.  Clearly the concept of neutrality no longer exists.

At any rate, as I explained yesterday, the US election remains THE topic on both investors’ and traders’ minds.  As well, it is THE topic on every other government’s mind around the world.  As such, arguably until the vote is complete and a victor declared, I suspect that all markets will see plenty of volatility with each change in the polls but limited additional secular movement.

One of the ongoing activities that passes for analysis these days is the forecasting of future bond yields or equity returns based on the winner.  This is generally explained as this market will rise if one wins and fall if the other does, or vice versa.  My take is this is simply another way for analysts to proffer their political views under the guise of economic analysis and as such, while I get a chuckle from these earnest descriptions of the future, I certainly don’t see them as rigorous analysis.  

But really, this week, that is all that is happening.  Next week, we do see a lot of data, including the NFP report as well as PCE readings and the BOJ’s interest rate decision, so perhaps there will be more market focused discussion.  But right now, virtually everything you read revolves around the election and the possible results.

So, with that in mind, let’s take a look at what happened overnight.  Yesterday’s mixed US session, with the DJIA slipping while the other major indices rallied a bit, led to a mixed picture in Asia as well.  Japanese shares (-0.6%) suffered a bit as Japan, too, is heading toward a general election and questions about whether new PM Ishiba will be able to win a majority in the Diet are very real this time.  Apparently, even in a homogenous society like Japan, there are questions about the ruling party and how much it is focused on helping the population.  As to the rest of Asia, both China (+0.7%) and Hong Kong (+0.5%) managed modest gains, but there are still many questions as to exactly how much stimulus China is going to inject into the economy there.  In fact, you can see the market asking those questions by the chart below, where the spike was the initial euphoria that something was going to be done, and the retracement is the realization that it was hope and not policy that drove things.

Source: tradingeconomics.com

The numbers show that after a >30% rally in a few sessions, investors have unwound about one-third of the climb as they await the outcome of the National People’s Congress meeting to see if a new fiscal package will be approved.  (Cagily, they have set the dates for the meeting to be November 4-8 to make sure that they can encompass the outcome of the US election in their decisions.  The rest of Asia saw a mix of gainers (Taiwan, Philippines, Australia) and laggards (India, Singapore, Malaysia) with other markets barely moving.

Meanwhile, in Europe, this morning is a down day, although the losses are quite modest (CAC -0.3%, IBEX -0.4%, FTSE 100 -0.2%) as traders head into the weekend with limited confidence on how things will play out going forward.  As to the US, at this hour (7:30), futures are pointing slightly higher, 0.2% or so.

In the bond market, Treasury yields (-2bps) have backed off their highs from earlier in the week but remain far above the levels seen prior to the Fed’s rate cut in September.  A view growing in popularity is that the 10yr yield will rise above 5.0% if Trump is elected while it will decline to 3.5% in a Harris victory.  Personally, I cannot see any outcome that doesn’t boost yields as there seems to be scant evidence that either side will slow spending and the Fed has made it clear that higher inflation is ok, at least by their actions, if not yet by their words.  As an aside, I couldn’t help but notice comments from Secretary Yellen explaining that the budget deficit was getting out of hand and “something” needed to be done about it, as though she had no part in the situation!  Meanwhile, European sovereign yields are mostly edging higher this morning, but only by 1bp or 2bps, as they continue to hold onto the gains that came alongside the Treasury market.  In the end, Treasury yields remain the key global driver.

In the commodity markets, oil (+0.7%) is bouncing slightly this morning after yesteray’s decline.  The talk in the market is that the Saudis are considering opening a price war to regain market share after they have withheld so much production.  That would certainly be a different tack than their recent activities and I imagine that President Putin would not be pleased, but that is one rumor.  As to the metals markets, they are under pressure this morning with all the major metals somewhat softer (Au -0.2%, Ag -0.9%, Cu -0.2%) as we continue to see profit taking in the space after a very large run higher over the course of the entire year.

Finally, the dollar is little changed overall this morning with no G10 currency having moved even 0.2% since the close yesterday although we have seen a couple of EMG currencies (KRW -0.7%, ZAR +0.3%) with a little dynamism.  The won fell further after weaker than forecast GDP encouraged traders to look for further rate cuts by the BOK while the rand’s movement appears more trading than fundamentally focused as there was neither data nor commentary to drive things.

On the data front, this morning brings Durable Goods (exp -1.0%, ex Transport -0.1%) and Michigan Sentiment (69.0).  As explained above, the data doesn’t seem to matter right now with all eyes on the election.  There are no Fed speakers scheduled but it is not clear that all their chatter this week had any impact.  The market is still pricing a 25bp cut in November and a 75% probability of another one in December, which is what it has been doing for a while.

It is very difficult to observe recent market activity and come away with a strong directional view.  My take continues to be that the December rate cut will lose its support based on the data and the dollar will appreciate accordingly.  But right now, that is a minority view.

Good luck and good weekend

Adf

Not Persuaded

Posted on by

In China, Xi’s still not persuaded
The actions he’s taken have aided
The ‘conomy’s course
The outcome, perforce
Is access to money’s upgraded

 

In an otherwise very uninteresting session, the biggest news comes from China where the PBOC cut both the 1yr and 5yr Loan Prime Rates by a more than expected 25bps last night.  While PBOC chief Pan Gongsheng did indicate that more cuts were coming, the speed and size of this move are indicative of the fact that worries are growing about the nation’s ability to achieve their “around 5%” GDP growth target.  At least the people who will be blamed if they don’t achieve it are starting to get worried!

The interesting thing about this move is the singular lack of impact it had on Chinese markets with the CSI 300 rising a scant 0.25% for the session.  Although, perhaps it had more impact than that as the Hang Seng (-1.6%) seemed to express more concern over the need for the move than embrace any potential benefits.

Ultimately, the issue for Xi is that the breakdown of economic activity in China remains unbalanced in a manner that is no longer effective for current global politics.  China’s rapid growth since its accession to the WTO in 2001 has been based on, perhaps, the most remarkable mercantile effort in the world’s history.  But now, that mercantilist model is no longer politically acceptable to their main markets as the rest of the world has seen a significant political shift toward populism.  Populists tend not to be welcoming to foreign made goods (or people for that matter), and so Xi must now recalculate how to continue the growth miracle.

Economists have long explained that China needs to see domestic consumption, currently ~53%, rise closer to Western levels of 65% – 70% in order to stabilize their economy.  However, that has been too tall an order thus far.  It is far easier in a command economy to command businesses to produce certain amounts of stuff, than it is to command the citizens to consume a certain amount of stuff, especially if the citizens remain shell-shocked over the destruction of their personal wealth as a result of the imploding property bubble.  As much as Xi wants to change this equation, it seems clear he doesn’t feel he has the time to wait for the gradual adjustment required, as that might result in much weaker GDP growth.  Given that the most important promise he has made, at least tacitly, to his people is that by taking more power he will increase their prosperity, he cannot afford any indication that is not the path on which they are traveling.

My take is that we are going to continue to see more efforts by the Chinese to prop up the economy, but it remains unclear if the fiscal ‘bazooka’ that many in markets have anticipated will ever be fired.  History has shown the Chinese are much more comfortable with slow and steady progress, rather than massive changes in policy, at least absent an actual revolution!  Ultimately, nothing has changed my view that the ultimate relief valve is for the renminbi to depreciate over time.  Xi is fighting that for geopolitical reasons, not for economic ones, but unless or until the domestic situation there changes, I believe that will be the destiny.

Away from the China story, though, there is precious little else of note ongoing, at least in the financial markets.  As this is not a political discourse, I will not discuss the election until afterwards as only then will we have an idea of what will actually happen fiscally and economically.  Meanwhile, everything else seems status quo.  

So, let’s look at the overnight markets.  Aside from China and Hong Kong, and following Friday’s very modest rally in the US, the rest of Asia had no broad theme attached.  There were gainers (Korea, Australia, New Zealand) and laggards (India, Japan, Singapore) with movements of between 0.5% and 0.75% while the rest of the region saw much lesser activities.  In Europe, the mood is dourer with red the only color on the screen ranging from the UK (-0.2%) to virtually all the large continental bourses (CAC, DAX, IBEX) at -0.8%.  There has been no data of note to drive this decline except perhaps the fact that the dollar continues to rise, a situation typical of a risk-off environment.

In the bond markets, yields are climbing across the board this morning, a very risk-on perspective.  (This is simply more proof that the traditional views of asset performance for big picture risk on or off movements is no longer valid.)  At any rate, Treasury yields have risen 4bps while European sovereign bonds have all seen yields jump between 7bps and 8bps.  It appears that bond investors are growing somewhat concerned that central banks are going to allow inflation to run hotter than targeted over time as they are desperate to prevent any significant economic downturn.  As well, given the Treasury market leads all other bond markets, and US economic data continues to perform, that is a key global yield driver as well.

Arguably, the biggest story in markets continues to be the commodities space, specifically metals markets, as once again, and despite today’s dollar strength, we see gold (+0.5%), silver (+1.0%) and copper (+1.1%) rallying with the barbarous relic making yet another set of new all-time highs while silver has broken above a key technical resistance level at $32.00/oz as seen in the chart below.

Source: tradingeconomics.com

One of the reasons I focus on commodities so much is I believe they are telling an important story about the state of the global economy.  We have seen a decade of underinvestment in the production of stuff, especially metals, but also energy, as this has been sacrificed on the altar of ESG policies.  But the world marches on regardless, and that stuff is necessary to build all the things that people want and are willing to pay for.  As they say, the cure for high prices is high prices, meaning high prices are required to increase supply.  That is what we are witnessing, I believe, the beginning of high enough prices to encourage the investment required to increase the supply of these critical inputs to the economy.  However, given the often decade-long process to get from discovery to production of things like metals, look for these prices to continue to rise as a signal that demand is growing ahead of supply.  

As to oil prices, they too, have found legs this morning with a significant bounce (+2.2%) and back above $70/bbl.  On the energy front, we are also seeing NatGas rally sharply with gains in both the US and Europe of > 2%.

Finally, the dollar, as I mentioned, is stronger this morning with only NOK (+0.1%) outperforming the greenback in the G10 space as the dollar benefits from rising yields and continued strong growth, at least as measured by the major data points.  In the EMG bloc, it is universal with the dollar higher against all comers and the worst performers (KRW -0.75%, HUF -0.7%, MXN -0.3%) in each region continuing their recent trend declines.  Until we see a substantive change in the US economic situation, I see no reason for the dollar to fall very far at all.

On the data front, this week brings a lot more Fedspeak than hard data, but this is what we have.

TodayLeading Indicators-0.3%
WednesdayExisting Home Sales3.9M
ThursdayChicago Fed Nat’l Index0.2
 Initial Claims247K
 Continuing Claims1865K
 Flash PMI Manufacturing47.5
 Flash PMI Services55.0
 New Home Sales720K
FridayDurable Goods-0.9%
 -ex Transport-0.1%
 Michigan Sentiment69.3

 Source: tradingeconomics.com

None of this is all that exciting or likely market moving, but we will be regaled with speeches from seven more FOMC members, both governors and regional presidents.  While ordinarily I feel like these comments have limited impact, my take is the market is starting to adjust its views of future Fed actions.  After all, the rationale to cut rates is hard to understand if the economic data continues to rise alongside inflation.  As of this morning, the market is pricing in a 93% probability of a November cut and a 73% probability of a December one as well.  While I agree November is a necessity for them to save face, I think December is a much longer shot than that based on recent data.

With the last two weeks ahead of the election upon us, things are heating up further and most focus will be there.  Given the secondary nature of this week’s data, my suspicion is that absent a massive surprise, or a really consistent theme amongst the Fed speakers that rates are going to go a lot lower soon, the dollar is going to continue its recent rebound.

Good luck

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Panic Attack

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The FX Poet will be in Nashville at the AFP Conference October 21-22, speaking about effective ways to use FX options in a hedging program.  Please come to the presentation on Monday at 1:45 in Grand Ballroom C1 if you are there.  I would love to meet and speak.
 
Said Madame Lagarde, we’re “on track”
To make sure inflation gets back
Below two percent
So, we can prevent
A government panic attack
 
The subsequent news from the East
Is Chinese growth, once more, decreased
Their five-percent goal
Ain’t on cruise control
So, Xi needs more skids to be greased

 

See if you can find the conundrum in the ECB statement issued yesterday after they cut interest rates 25bps, as expected, taking the Deposit Rate down to 3.25%,. [emphasis added]

“The incoming information on inflation shows that the disinflationary process is well on track. The inflation outlook is also affected by recent downside surprises in indicators of economic activity. Meanwhile, financing conditions remain restrictive.

Inflation is expected to rise in the coming months, before declining to target in the course of next year. Domestic inflation remains high, as wages are still rising at an elevated pace. At the same time, labour cost pressures are set to continue easing gradually, with profits partially buffering their impact on inflation.”

While I realize that I am just an FX guy, and that my education at MIT was far more focused on numbers than words, I cannot help but read the highlighted phrases and be confused how the conclusion of high domestic inflation and expectations for it to rise means the disinflationary process is “well on track.”  Of course, it is important to remember that Madame Lagarde is a politician, not an economist nor banker nor any other background familiar with numbers, so perhaps she is the one that doesn’t understand.  Either that or as with every politician she is simply lying.

Regardless, as you can see in the chart below, the market response in the wake of the announcement was to sell the euro as interest rate traders priced in a December rate cut as well.

Source: tradingeconomics.com

The juxtaposition of US and Eurozone data remains the key here and as yesterday’s US numbers showed, the long-awaited recession continues to be postponed.  It becomes ever more difficult to see how the Fed will justify easing policy in any substantive manner if every economic print beats expectations.  (To clarify, Retail Sales printed at 0.4%, 0.5% ex-autos vs. expectations of 0.3% and 0.1% respectively. Philly Fed printed at 10.3 vs. expectations of 3.0 and Initial Claims fell to 241K despite the hurricanes, vs expectations of 260K). 

In the end, all this simply reinforces my view that the euro has further to decline going forward.  I still like the 1.05 – 1.06 level as a target by year end.

Turning to China, last night they had their monthly data dump and the numbers there continue to point to an economy struggling to gain momentum. (The first, black, number is the September data, the second, green or red, number is the August data.)

Source: tradingeconomics.com

Xi’s 5% target, or even if you use their recent “around 5%’ concept, is getting strained.  While Retail Sales there was a positive, the ongoing disintegration of the housing/property market is a major problem.  Now, all this data represents activity before the plethora of stimulus measures that have been announced.  However, recent equity market performance there, if using as an indicator of the belief that the stimulus was going to be effective, had shown a substantial decline from the early sugar highs back in September immediately following the first stimulus announcements.

With that in mind, PBOC Governor Pan Gongsheng strongly hinted that there would be another interest rate cut next week, as the government struggles to not only convince investors that they have things under control, but to also implement the measures already described.  Now, last night, after Pan hinted at the rate cuts, along with other comments regarding the funds allocated to help companies buy back shares, Chinese equity markets rose sharply in the afternoon session, as per the below chart, rising 3.6% on the day.

Source: Bloomberg.com

Once again, I will highlight the irony of the Chinese Communist Party focusing on the epitome of capitalism, the equity market, as a key means of economic improvement and a key signal that they are on the right track.

That was really all the big news since I last wrote.  Let’s look at the overall market activity.  After yesterday’ lackluster US session, Japanese shares (+0.2%) managed to edge a bit higher and Hong Kong (+3.6%) mirrored Chinese mainland shares.  The other beneficiary of the Chinese stimulus discussion was Taiwan (+1.9%) but Australia (-0.9%), Korea (-0.6%) and a host of other regional exchanges did not seem to appreciate the effort.  In Europe, only the UK (-0.3%) is really under any pressure although the gains on the continent are not terribly impressive with the CAC (+0.5%) the leader at this point.  Most other markets there are little changed to slightly higher.  As to US futures, at this hour (7:20), they are higher by about 0.25%.

In the bond market, after yesterday’s much stronger than expected US data, Treasury yields jumped 7bps and this morning have edged higher by another 1bp to get back to 4.10%.  However, on the continent, sovereign yields this morning are lower by between -2bps and -4bps after yesterday’s ECB action and comments.  The one exception here is the UK, where gilt yields are higher by 2bps after UK Retail Sales data printed much stronger than expected at +0.3% in September, vs. -0.3% expected.

In the commodity markets, oil (-0.4%) is modestly lower this morning but really going nowhere for now as evidenced by the chart below.  Once the word had come that Israel was not going to target Iranian oil infrastructure and the price fell, it has basically been flat.

Source: tradingeconomics.com

As to the metals complex, gold (+0.6%) continues its ongoing rally and is at yet another new all-time high, above $2700/oz this morning, as demand continues to be present from all segments.  However, this morning, all the metals are rallying with silver (+1.0%) and copper (+1.5%) showing even better performance.  The combination of continued solid data from the US and hopes for a return to Chinese demand seem to be the drivers.

Finally, the dollar is closing the week on a down note, as traders reduce positions and take profits ahead of the weekend.  During the week, the dollar rose against virtually every one of its main counterparts in both the G10 and EMG blocs.  Again, the big picture here is that for the dollar, good US economic data is going to continue to benefit the greenback, and we will need to see not just one bad number, but a series of them before the dollar truly suffers.

On the data front, we see Housing Starts (exp 1.35M) and Building Permits (1.46M) at 8:30 this morning and then we hear from three more Fed speakers (Bostic, Kashkari and Waller) with Bostic making two appearances.  At this stage, despite the strong data, the Fed funds futures market is pricing in a 92% probability of a 25bp cut next month and then a 75% probability of another one in December.  I know that Powell seems desperate to cut rates, but if the data continues to show strength, the case to do so is going to be much harder to make.  That doesn’t mean he won’t do it, but if he continues down that path, it just means that inflation will return that much sooner.  

Good luck and good weekend and reach out if you are in Nashville at the AFP!

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