Tag Archives: #dollarup

Capitalism is Spurned

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When looking through history’s pages

It seems there are only two stages

At times capital

Has markets in thrall

At others, it’s all about wages

Four decades past Maggie and Ron

Convinced us, for things to move on

T’was capital needed

For growth unimpeded

But seemingly those days are gone

Instead, now the cycle has turned

As two generations have learned

That labor should take

The bulk of the cake

While capitalism is spurned

The upshot is that now inflation

Will percolate throughout the nation

While central banks claim

That prices are tame

Your costs will increase sans cessation

With markets fairly quiet this morning I thought it would be an interesting idea to step back to a more macro view of the current financial and economic framework as I strongly believe it is important to understand the very big picture in order to understand short term market activities.

A number of prominent historians and economists contend that both history and the economy are cyclical in nature although long-term trends underlie the process.  One might envision a sine wave overlaying an upward sloping line as a description.  Now the period and amplitude of the sine wave are open to question, but I would offer that a full cycle occurs in the timeframe of 80-100 years.  As per Neil Howe’s excellent book, The Fourth Turning, this encompasses four generations over which time each generation’s response to their upbringing and the events that occurred during those formative years result in fairly similar outcomes every fourth generation.

Ultimately, I believe it is valid to consider the cyclical nature in terms of the importance of the two key inputs to economic activity; capital and labor.  It is the combination of these two inputs that creates all the economic wealth that exists.  However, depending on the government regulatory situation and the societal zeitgeist, one will always dominate the other.

If we look back 100 years to the Roaring Twenties, it was clear capital had the upper hand as the administrations of Warren Harding and Calvin Coolidge maintained a very laissez faire attitude to the economy and watched as large companies grew to dominate the economy.  Of course, the Great Depression ended that theme and resulted in FDR’s New Deal and ultimately the ensuing 40 years of government intervention in the economy alongside labor’s growing power.  Forty years on from the Depression saw the height of government interventionism with the ‘guns and butter’ strategy of LBJ, the Vietnam War, the Great Society and also, the seeds of the next change, the Summer of Love.  At that point, the economic effects of the government’s heavy hand were starting to have a negative impact, restricting growth and driving inflation higher.

Like day follows night, this led to a change in the zeitgeist and a change in the relationship between capital and labor.  The Reagan/Thatcher revolution arose at a time when people saw only the negatives of government and led to a reduction of government control and activity (on a relative basis), as well as the beginnings of the financialization of the economy.  Arguably, that peaked in the dot com bubble in 2001, or perhaps in the GFC in 2008, but certainly, ever since the latter, we have seen a significant adjustment in the relationship of the government and the governed.

My contention is that we are entering into a new period of labor’s ascendancy versus capital and increased government involvement in every facet of life.  While this has manifest itself in numerous ways, from the perspective of markets, what this means is that the heavy hand of central banks is going to weigh even more greatly on events than it has until now. The myth of the independent central bank is no longer even discussed.  Rather, central banks and finance ministries are now working hand in hand as partners in trying to manage their respective economies.  And ultimately, what that means is that QE has become a permanent part of the financial landscape as debt monetization is required in order to fund every new government initiative.  If this thesis is correct, the idea that the Fed may begin to taper its QE purchases starting next year seems highly unlikely.  Instead, as I have written before, it seems more likely they will increase those purchases as the latest ‘sugar high’ of fiscal stimulus wanes and the economy once again slows down.

Interestingly, the most salient comments made today appear to back up this thesis.  Madame Lagarde was interviewed on Bloomberg TV this morning and explained that a new policy shift would be forthcoming in the near future from the ECB.  Recognizing that the PEPP was due to expire come March and recognizing that the Eurozone economy was not growing anywhere near its desired rate, the ECB is already preparing for the PEPP’s successor.  In other words, QE will not end at its originally appointed time.  In addition, she explained that they would be adjusting their forward guidance as the previous model clearly did not achieve their goals.  (Might I suggest, QE Forever?  It’s catchy and sums things up perfectly!)

So, to recap; the broad cycles of history are turning through an inflection point and we are very likely to see capital’s importance diminish relative to labor going forward.  This means that profit margins will shrink amid higher wages and greater regulatory burdens.  Equity returns will suffer accordingly, especially on a real basis as price pressures will continue to rise.  However, debt monetization will prevent yields from rising, so negative real yields are also likely here to stay for a while.  As to currencies, their value will depend on the relative speed with which different countries adapt to the new realities, so it is not yet clear how things will turn out.  It is also largely why currencies have range-traded for so long, the outcome is not yet clear.

With that to consider as a background, I would offer that market activity remains fairly unexciting.  For now, the ongoing themes remain in place, so, central bank liquidity continues to be broadly supportive of asset markets and arguably will continue to be so for the time being.

Turning to today’s session shows that Asian equity markets followed Friday’s US lead by rallying nicely (Nikkei +2.2%, Hang Seng and Shanghai +0.6%) as markets continue to respond to the PBOC’s modest policy ease announced last week regarding the RRR reduction.  Europe, though, is a bit less bubbly this morning (DAX -0.1%, CAC -0.3%, FTSE 100 -0.6%).  Finally, US futures are mixed with the NASDAQ continuing its run higher (+0.2%) but the other two markets less happy with modest declines.

Bond markets, after selling off Friday in what was clearly a short-term profit taking act, have rallied back a bit this morning with yields declining in Treasuries (-1.5bps), Bunds (-1.5bps), OATs (-2.0bps) and Gilts (-2.0bps).

Commodity prices are under pressure, with oil (-1.4%) leading the way lower, but weakness across both precious (Au -0.45%) and base (Cu –1.4%) metals and most ags.  In other words, the morning is shaping up as a risk-off session.

This is true in the FX market as well with the dollar broadly firmer in both the G10 and EMG blocs.  Commodity currencies are the biggest laggards (NOK -0.6%, CAD -0.45%, AUD -0.4%) but the dollar is higher universally in the G10.  As to the EMG bloc, ZAR (-1.8%) is by far the worst performer as a combination of increased Covid spread and local violence after the imprisonment of former president Jacob Zuma has seen capital flee the nation.  However, here too, the bulk of the bloc is softer with the commodity currencies (MXN -0.5%, RUB -0.45%) next worse off.

While there is no data today, this week does bring some important news, including the latest CPI reading tomorrow:

Tuesday NFIB Small Biz Optimism 99.5
CPI 0.5% (4.9% Y/Y)
-ex food & energy 0.4% (4.0% Y/Y)
Wednesday PPI 0.5% (6.7% Y/Y)
-ex food & energy 0.5% (5.0% Y/Y)
Fed’s Beige Book
Thursday Initial Claims 350K
Continuing Claims 3.5M
Philly Fed 28.0
Empire Manufacturing 18.0
IP 0.6%
Capacity Utilization 75.6%
Friday Retail Sales -0.4%
-ex autos 0.4%
Michigan Sentiment 86.5

Source: Bloomberg

On the Fed front, the highlight will be Chairman Powell testifying before the House on Tuesday and the Senate on Wednesday, with only a few other speakers slated for the week.

At this point, the market question is; will the dollar rally that has been quite impressive for the past weeks, albeit halted on Friday, continue, or have we seen the top?  Given the breakdown in the treasury yield – dollar relationship, my gut tells me the dollar has a bit further to go.

Good luck and stay safe

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Quite Unforeseen

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When OPEC, a group of fifteen

Producers, all gathered in Wien

Nobody assumed

The meeting was doomed

To failure, t’was quite unforeseen

Alas, for the group overall

The UAE prince had the gall

To strongly demand

Their quota expand

The Saudis, though, wouldn’t play ball

The big story this morning revolves around the failure to agree, by OPEC+, on new production quotas going forward.  While expansion of output was on the agenda as each member was keen to take advantage of the rising price of crude and its products, it seems the UAE demanded a much larger share of the increase than the Saudis wanted to give.  Ordinarily, this type of horse trading takes place in the background as OPEC likes to show its unity, but for some reason, this particular situation burst into plain sight.  Undoubtedly there are many underlying issues between Saudi Arabia and the UAE, but right now, this is the one that matters.  The result has been that oil continues to rise sharply, up another 1.75% this morning taking the gains this year to nearly 60%.  As is frequently the case in a bullish commodity market, the price curve is in steep backwardation, with the front month contracts being significantly more expensive than the outer months.  This is an indication of a lack of short-term supply, something borne out by the continued drawdown of reserves in storage.

What makes this situation so interesting is the fact that the dollar has not fallen sharply while the price of oil has risen.  Historically, rising commodity prices go hand in hand with a weaker dollar, at least versus its counterpart currencies, but that is not really the case this time.  Thus, for those nations that import oil, their local costs have increased more than proportionally as the lack of dollar weakness means it costs much more local currency to procure each barrel.  For instance, since the start of 2021, the Japanese yen has weakened 6.8% and the Swiss franc has fallen 4.1% while oil’s price has soared.  Neither of these nations produces a drop of oil, so their energy costs have climbed substantially.  In the emerging markets, TRY (-14.1%), ARS (-12.2%), PEN (-8.0%) and THB (-7.0%) are the worst performers this year, none of whom have a significant oil industry and all of whom rely on imports for the bulk of their usage.  A weaker currency and higher oil prices are very damaging to those economies.

The question at hand is whether or not this internecine spat will end soon, with some sort of compromise, or if the UAE will stand its ground under increasing pressure.  One thing to consider is that the US shale producers are not likely to come to the market’s rescue in the near term, if ever, as it appears that even at these prices, the capital flowing into the sector to increase production has not expanded, and if anything, given the green initiatives and demands to stop funding fossil fuel production, is likely to decrease.  We may be approaching a scenario where the US, which continues to pump about 11 million barrels/day, will find itself in very good stead relative to many other developed nations that import a higher percentage of their energy needs.  Arguably, this will help the dollar, which means that for some countries, things are only going to get tougher.

As an aside, there is another commodity that has been performing pretty well despite the dollar’s strength, gold.  Here, too, history has shown that a rising dollar price of gold is highly correlated with a weaker dollar on the foreign exchange markets.  But that is not the current situation, as after a very short-term drop in the wake of the FOMC meeting’s alleged hawkishness, gold has rebounded while the dollar has retained virtually all of its gains from the same meeting.  My sense is that there are larger underlying changes in market perception, one of which is that inflation expectations are becoming embedded.

Of course, that is not evident in the bond market, where Treasury yields remain in their downtrend that began in early May in the wake of the massively disappointing NFP report that month.  Since then, yields have fallen more than 20 basis points and show no sign of slowing down.  Oddly, if the market was pricing in a tapering by the Fed, I would have anticipated bond yields to rise somewhat, so this is simply another conundrum in the market right now.  

Turning to the overnight session, one might argue we are looking at a very modest risk-off session.  Equity markets have been desultory with Asia (Nikkei +0.15%, Hang Seng -0.25%, Shanghai -0.1%) not showing much activity while European bourses (DAX -0.4%, CAC -0.3%, FTSE 100 -0.15%) are a bit softer.  Arguably, the European markets have responded to much weaker than expected German data with Factory Orders falling -3.7% ad the ZEW Expectations Survey falling to 63.3, well below the expected 75.2 reading.  Questions about whether or not the global economy has peaked are starting to be asked as stimulus measures fade away.  By the way, US futures are essentially unchanged at this hour.

While today’s Treasury movement has been nil, we are seeing yields decline across Europe with Bunds (-1.5bps), OATs (1.9bps) and Gilts (-1.1bps) all seeing a bit of demand on the back of waning risk appetite.  Remember, too, that the inflation impulse in Europe remains far less substantial than that in the US.

Aside from oil (+1.75%) and gold (+0.8%), the rest of the commodity bloc is also pretty firm this morning with Copper (+1.5%) and Iron ore (+1.6%) leading the base metals higher.

Finally, in the FX market, the best way to describe things would be mixed.  The RBA met last night and was more hawkish than anticipated.  They not only indicated they were going to reduce the amount of QE purchases when the current program comes up for renewal, but they appear to be ending YCC as well, explaining that they would not be supporting the November 2024 bonds when they become the 3-year maturity.  Not surprisingly, we saw AUD (+0.6%) rally, which dragged NZD (+0.8%) up even more as traders speculate the RBNZ is going to raise rates as well.  Away from that, though, the bulk of the G10 bloc was softer led by NOK (-0.55%), which given oil’s continued rise makes little sense.  At this point, I will chalk it up to trading technicals as I see no strong rationale.  As to the rest of the bloc, modest declines are the name of the game.

Emerging markets have also seen similar mixed price action with ZAR (+0.25%) the leading gainer on the back of gold’s strength while HUF (-0.65%) is the laggard as the market awaits comments from the central bank regarding its green policy ideas.  The next weakest currency in this bloc is PHP (-0.5%) as the central bank confirmed it would not be reducing stimulus until it had further confidence the economy there would be picking up.

On the data front, there are only a few releases due although we do see the FOMC Minutes tomorrow.

TodayISM Services63.5
WednesdayJOLTs Job Applications9313K
 FOMC Minutes 
ThursdayInitial Claims350K
 Continuing Claims3325K

Source: Bloomberg

Aside from this limited information, we hear from just one Fed speaker tomorrow.  Perhaps the market will have the opportunity to make up its own mind about where things are going to go.

At this point, the Fed narrative remains that inflation is transitory and that they will continue to support the economy going forward.  However, there is a group of FOMC members who clearly believe that it is time to cut back on QE.  That will be the major discussion for the next several months, to taper or not, and if so, how quickly it will occur.  My view continues to be that the core of the Fed is not nearly prepared to taper QE purchases as they know that the ongoing expansion of Federal debt will require the Fed to remain an active part of the market lest things get more concerning for bond traders.

As to the dollar, it remains in its trading range having reached the top of that range last week.  I would not be surprised to see a bit of dollar weakness overall, if for no other reason than the dollar is likely to slip back toward the middle of its range.

Good luck and stay safe

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Poor Madame Lagarde

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As prices worldwide start to rise

And central banks, rates, normalize

Poor Madame Lagarde

May soon find it hard

To ably, her goals, realize

Let me start by saying that I will be out of the office starting tomorrow, returning July 6th.

Despite the fact that the markets in the US are showing only limited signs that the Fed is actually considering tightening, the punditry continues to believe that tapering asset purchases is next up on the Fed’s agenda.  In fact, the discussion is becoming granular with respect to which assets they should consider addressing.  The two current theses are; reduce purchases of both Treasuries and Mortgages at a similar rate, or just reduce Mortgage purchases given the bubble the Fed has blown in the housing market.  And there are FOMC members on both sides of that argument although it cannot be surprising that the more dovish members continue to insist that buying $40 billion / month of Mortgage-backed securities is having absolutely no impact on the housing market.  But the point is that the analyst community is fully on board with the idea the Fed is going to be reducing its asset purchases soon.

I highlight this because when combined with the fact that so many other countries are more definitively moving past unlimited policy ease, with some already tightening, it becomes interesting to consider which nations are not considering any policy changes.  And this is where the ECB comes into view.

As of now, the ECB (and BOJ) insist that there are no plans to change their policy mix anytime soon.  And yet, they seem to have the opposite problem of the Fed, the market is pricing in rate increases there, currently a 0.10% hike by the end of Q3, and bond yields have been rising steadily with German bund yields almost back up to 0.00%.  (As an aside, it continues to be remarkable to me that one can make the statement, back up to 0.00%!)  Given the slower trajectory of growth thus far in Europe, especially with respect to inflation readings, Madame Lagarde and her cadre of central bankers certainly have their work cut out for them to maintain the policy stance they desire and believe is necessary to support the economy there.  Will the ECB be forced to ease further in some manner, like extending PEPP in order to achieve their aims?

In contrast, despite the fact that the Fed is talking about talking about tapering, and the dot plot indicated a majority of FOMC members believe they will be raising rates by the end of 2023, the bond market remains sanguine over the prospect of either higher inflation or higher interest rates.  Go figure.  

So, who do we believe when surveying the current situation?  On the one hand, it is always tough to argue with the market.  Whether or not we understand the actual drivers, the collective intelligence of investors tends to be exceptionally accurate at recognizing trends and future outcomes.  On the other hand, the phrase, ‘don’t fight the Fed’ has been around for a long time because it has proven to be an effective input into any investment thesis.  The problem is, when those two indicators are at odds with each other, choosing the likely outcome is extraordinarily difficult, more so than normal.

One way to think about it is that both can be right if you consider they may have differing timelines.  For instance, the market tends to discount actions in the 9 month to 1year timeframe while the Fed may well be considering more immediate actions.  However, in this case, I feel like the Fed is looking at a similar timeline as the market.  Ultimately, as I’ve mentioned before, it appears the Fed remains completely reactive to market movement.  Thus, right now, regardless of their rhetoric, my take is if the market demands easier policy, they will make it known via a sell-off in equities that will result in the Fed stepping in with support.  If, on the other hand, the market is comfortable with the current situation, a continued benign rise in equities is on the cards.  As the Fed has put themselves in the position of reactivity, my money is on the market this time, not the Fed.  We shall see.

As I was quite delayed this morning, a very quick recap of the overnight session shows that risk was under pressure in Asia but that Europe has responded very well to much stronger than expected confidence indicators for manufacturing and consumers across the continent.  So while all three main Asian indices fell about 1.0%, Europe has seen gains of at least 0.6% with the DAX up 1.2%.

As it happens this morning, Treasury prices have edged a bit lower with the 10-year yield rising 2bps, but that was after a nice rally yesterday, so we continue to trade right around 1.50%.  Big picture here is nothing has changed.  European sovereigns are softer as risk appetite improves on the continent, with 2.0bp rises in the major markets.

While oil prices (+0.5%) are a bit firmer, the metals complex is under pressure this morning with gold and silver both down sharply (-1.4%) and base metals also falling (Cu -1.0%, Al -0.7%).

The metals’ movement is more in sync with the dollar, which has rallied against all its G10 peers and most EMG currencies.  AUD (-0.7%) and NZD (-0.7%) are the laggards here with NOK (-0.6%) next in line.  Obviously, oil is not the driver, although Aussie and Kiwi would suffer from metal price declines.  However, it appears that Covid continues to haunt many countries and the market seems to be responding to perceptions that growth will be slowing rather than continuing its recent uptrend.  

In EMG, RUB (-0.8%), PLN (0.65%) and ZAR (-0.6%) are amongst the worst performers with ruble and rand clearly impacted by metals prices while the zloty seems to be suffering from a more classical interpretation of inflation’s impact on a currency, as higher inflation expectations are leading to a weaker currency.

On the data front, Case Shiller House Prices rose 14.88%, higher than expected and continuing the trend that has been in place for more than a year.  Later we get Consumer Confidence exp (119.0) although it seems unlikely with payrolls coming on Friday, that the market will pay much attention.

Only Thomas Barkin from Richmond speaks on behalf of the Fed today, but there is no reason to believe that it will change any views.  The narrative is still the same.

The dollar is feeling quite strong this morning and seems likely to maintain those gains as the day proceeds.  If the market truly believes the Fed is going to taper, we should see the evidence in the bond market with higher yields.  But for now, the dollar’s strength feels more like short-covering than a change in the long-term view of ultimate dollar weakness.  However, this can persist for a while (just like inflation 😊)

Good luck, and have a great holiday weekend.  I will be back on the 6th.

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A Popular View

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It seems that a popular view

Explains that the Fed will pursue

A slowdown in buying

More bonds as they’re trying 

To bid, fondly, QE adieu






At least that’s what pundits all thought





The Powell press conference had wrought





They talked about talking





But are not yet walking





The path to where policy’s taut





It appears virtually unanimous that the punditry believes the FOMC is going to be tightening policy (i.e. tapering) in the ‘near future’.  Of course, the near future is just as imprecise as transitory, the Fed’s favorite word.  Neither of these words convey any specificity, which makes them very powerful in the narrative game, but perhaps not so powerful when directly addressed.  My take on transitory is as follows: initial expectations were it meant 2 or 3 quarters of price pressures which would then dissipate as supply chains were quickly reconnected.  However, it has since morphed into as much as 2 to 3 years given the reality that certain shortages, notably semiconductors, may take much longer to abate as the timeline to build out new capacity is typically 2 to 3 years.  I guess it all depends on your frame of reference as to what transitory means.  For instance, to a tortoise, 2 to 3 year is clearly but a blip in their lives, but to a fruit fly, it is beyond an eternity.  Sadly, the market’s attention span is much closer to that of a fruit fly’s than a tortoise’s so 2 to 3 years feels a lot more permanent than not.  This is especially so since there is no way to know if other, more persistent inflationary issues may arise in the interim.





As to the ‘near future’, that seems to mean somewhere between the middle of 2022 and the middle of 2024.  Here too, the timeline is extremely flexible to accommodate whatever story is trying to be sold told.  When puffing up the strength of the economic recovery, expectations tend toward the earliest estimates.  In fact, we continue to hear from several FOMC members that tapering will soon be appropriate.  However, if we look at who is making those comments (Bullard, Kaplan, Rosengren and Bostic), we find that only Raphael Bostic from Atlanta currently has a vote.  At the same time, those who are least interested in the idea of tapering include the leadership (Powell, Clarida and Williams) as well as the other governors (Bowman, Brainard, Quarles and Waller), and they have permanent votes.  In other words, my take on the FOMC meeting is it was far less hawkish than much of the punditry has described.  And there is one group, which really matters, that is apparently in agreement with me; the bond market!  Treasury prices after an initial sell-off (yield rally) have reversed that move and are essentially unchanged with a flatter yield curve.  It strikes me that if the Fed were to taper, yields would start to rise in the long end as the removal of that support would have a significant negative price impact.





So, if I were to piece together the narrative now it appears to be the following: inflation is still transitory if it remains well above target for the next 2 years and the bond market is convinced that is the case (ostensibly a survey showed that 70% of fixed income managers believe the transitory story).  Meanwhile, despite the transitory nature of inflation, the Fed is going to tighten its monetary policy sometime next year and potentially even raise the Fed Funds rate in 2023.  Personally, that seems somewhat contradictory to me, but apparently cognitive dissonance is a prerequisite to becoming an FOMC member these days.





At any rate, given the lack of actual policy changes by the Fed, all we have is the narrative.  This week we will have four more Fed speakers to continue to reiterate that narrative, that despite the transitory nature of inflation we are going to tighten policy in the future.  Of course, that begs the question, Why?  Why tighten policy if there is no inflation?  Cognitive dissonance indeed.





In the meantime, as markets continue to try to figure out what exactly is happening, we wind up with paralysis by analysis and relatively limited movement.  For instance, equity markets in Asia were all essentially unchanged overnight, with not one of them moving even 0.1%.  Europe, on the other hand is having a tougher go this morning with red across the screen (DAX -0.1%, CAC -0.5% and FTSE 100 -0.5%) with a real outlier as Spain’s IBEX (-1.5%).  There has been no data released but there is growing concern that the Delta variant of Covid is going to cause another lockdown in Europe before they finished reopening the first time.  This is based on the fact that we have seen lockdowns reimposed in Australia, Japan, Singapore and Israel after all those nations seemed to be moving forward.  As to US futures, they are either side of unchanged at this hour awaiting some clarity on anything.





It can be no surprise that bond markets are rallying slightly with Treasuries (-1.7bps) leading the way but small yield declines in Europe as well (Bunds -0.8bps, OATs -1.1bps, Gilts -1.8bps).  With equity markets under pressure, this is a natural reaction.  And if you consider the reasoning, worries over another Covid wave, then slower growth would be expected.





Funnily enough, Covid is having a currency impact today as well.  In the G10, the new Health Minister, Sajid Javid, has said he wants to see the country return to normal “as soon and as quickly as possible.”  Despite the equity market concerns, the FX market saw that as bullish and the pound (+0.2%) is the leading gainer in the G10 this morning.  But as the morning has progressed and risk sentiment has become less positive, the dollar is starting to asset itself against most of the rest of the bloc with NZD (-0.35%) and NOK (-0.3%) the laggards.  Both of these are under pressure from declining commodity prices as oil (-0.1%) is sagging a bit.





In the EMG bloc, ZAR (-0.8%) is in the worst condition this morning as the Delta Covid variant has increased its spread and the government is behind the curve in treating the issue.  But we saw weakness overnight in THB (-0.6%), and this morning the CE4 are all under the gun as well.  And the story seems to be the same everywhere, tighter Covid restrictions are undermining currencies while positivity is helping them.





It is a big data week as it culminates in the payroll report on Friday:





TuesdayCase Shiller Home Prices14.85%
 Consumer Confidence119.0
WednesdayADP Employment550K
 Chicago PMI70.0
ThursdayInitial Claims389K
 Continuing Claims3335K
 ISM Manufacturing61.0
 ISM Prices Paid86.0
FridayNonfarm Payrolls700K
 Private Payrolls600K
 Manufacturing Payrolls25K
 Unemployment Rate5.7%
 Average Hourly Earnings0.3% (3.6% y/Y)
 Average Weekly Hours34.9
 Participation Rate61.7%
 Trade Balance-$71.3B
 Factory Orders1.5%





Source: Bloomberg





Obviously, all eyes will be on the payroll data as the Fed has made it clear that employment is their key focus for now.  There was an interesting story in the WSJ this morning highlighting how the states that have ended the Federal Unemployment Insurance bonus have seen an immediate pickup in employment with jobs suddenly being filled.  That bodes well for the future, but it also means we will have this issue for another quarter if all the states that maintain the bonuses continue to do so.





As mentioned above, several Fed speakers will be out selling the narrative that inflation is transitory, but tapering may be coming anyway.  (A cynic might think they are not being totally honest in what they are saying, but only a cynic.)





A quick top down look at the FX market leads me to believe that individual national stories are currently the real drivers.  So those nations that are raising interest rates to fight inflation (Mexico, Brazil, Hungary, Russia) are likely to see their currencies hold up.  Those nations that are having serious relapses in Covid infections (South Africa, much of Europe) are likely to see their currencies come under pressure.  Where the two meet (South Korea), it seems to depend on the day as to which way the currency goes.  With that in mind, though, I would bet the monetary policy story will have more permanence will be the ultimate driver.





Today, the dollar seems to be in fine fettle as risk is on the back foot given the increasing Covid concerns over the Delta variant.  But do not be surprised if tomorrow is different.





Good luck and stay safe





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			Do Not Be Afraid
		


				

			Posted on  by 		

			


		

		

Said Jay, “you must listen to me”





And not to the numbers you see





Do not be afraid





Inflation will fade





So, keep up the stock buying spree!





Last week’s FOMC meeting seems to have been an inflection point in the recent market narrative which has resulted in a great many conflicting thoughts about the future.  The dichotomy of the meeting was the virtual absence of discussion on current high inflation readings juxtaposed with the Dot Plot forecasts on interest rates rising in 2023.  Arguably, the Dot Plot reflects the participants’ growing concern that inflation is rising, and that the FOMC will need to address that situation.  One could argue that this dichotomy has been the underlying cause for the increased volatility evident in markets, with sharp gains and losses seen across bonds, equities and currencies.





This afternoon, Chairman Powell will once again regale us with his views as he testifies before the House Select Subcommittee on the Coronavirus Crisis.  His prepared testimony was released yesterday afternoon with some key comments.  “Inflation has increased notably in recent months.  As these transitory supply effects abate, inflation is expected to drop back toward our longer-run goal.”  That pretty much sums up the Fed view and confirms that there is very little concern about inflation over time.  





Yesterday we also heard from three other Fed speakers, NY’s Williams, Dallas’ Kaplan and St Louis’ Bullard, with slightly different messages.  Williams, a permanent voter, remains adamant that it is too soon to consider adjusting policy, although he is willing to discuss the idea of tapering.  Meanwhile, both Kaplan and Bullard, both non-voters, are far more interested in getting the tapering talk off the ground as both see the economy picking up pace and have evidenced concern about overheating areas in the economy.  One can surmise from these comments that both of them are amongst the ‘dots’ above 1.0% for 2023.  In fact, Bullard admitted that he was a 0.6% ‘dot’ for 2022 in comments last week.  





Looking ahead, we have a long list of Fed speakers this week, with Mester, a hawkish non-voter, and Daly, a dovish voter, also set to comment today.  It almost appears as though voting members have been given a set of marching (speaking?) orders to which they are to adhere that express no concern over prices and the need to continue with current policy for the foreseeable future, while non-voting members have no such restrictions.  This is a very different dynamic than what we have become used to seeing, where everybody on the committee was saying the same thing.  Perhaps this is Powell’s solution to being able to maintain the policy he wants while having the Fed overall avoid criticism for groupthink.  But groupthink remains the base case, trust me.





During this period of policy adjustments, or at least narrative adjustments, investors have found themselves without their previous strong signals that all asset prices will rise and that havens serve little purpose.  Instead, we have seen a much choppier market in both stock and bond prices as previously long-held convictions have come into question. The most notable change has been in the shape of the yield curve, which has flattened dramatically.  For instance, the 2yr-10-yr spread, which had reached a high above 160 basis points in early April has seen a decline from 137 to below 110 and a rebound back to 122 in the past three sessions.  Other than March 2020, during the initial Covid confusion, there has not been movement of that nature since President Trump was elected in 2016.  And that was a one-day phenomenon.  At this point, the volatility we are experiencing is likely to continue until a new narrative takes hold.  As to today’s session, so far, we are seeing a modest bond rally with yields softer in Treasuries (-1.7bps after a 5bp rally yesterday) and European sovereigns (Bunds -0.4bps, OATs -1.4bps, Gilts -0.5bps) all slightly firmer on the day.  





Meanwhile, equity markets are also somewhat confused.  Last night, for instance, the Nikkei (+3.1%) rebounded sharply after the BOJ explained they had restarted their ETF buying program on Monday, so all was right with the world.  The Hang Seng (-0.6%) didn’t get that message but Shanghai (+0.8%) did despite rising short-term interest rates in China.  Those climbing rates appear to be a function of quarter end demand for bank funding that is not being supplied by the PBOC.  My sense is once July comes those rates will drift back down.  Europe, has had a more mixed equity session after a nice rally yesterday, with both the DAX and CAC flat on the day and the FTSE 100 (+0.3%) rising a bit, but weakness in the peripheral markets of Spain and Italy, with both of those lower by about 0.5%.  US futures are virtually unchanged at this hour as market participants seem to be awaiting Mr Powell.





Commodity markets are following suit, with some gainers (Au +0.2%, Ag +0.2%, Al +0.1%), some losers (WTI -0.7%, Soybeans -0.7% and Fe -3.2%) and many with little overall movement.  In a market that has lost its direction with respect to both growth and inflation expectations, or at least one which is re-evaluating those expectations, it should be no surprise there is a hodgepodge of price movements.





The dollar, however, is broadly firmer on the day, with GBP (-0.35%) the weakest performer in the G10 as traders await Thursday’s BOE meeting and their latest discussion on the inflation situation in the UK.  This will be BOE Chief Economist Andy Haldane’s last meeting, and he is expected to make some hawkish noises, but thus far, the rest of the committee has not been aligned with him.  Right now, the market is not looking for him to receive any support, hence the pound’s ongoing weakness, but if we do hear some hawkishness from another member or two, do not be surprised if the pound jumps back up.  As to the rest of the G10, losses range from 0.1%-0.25% and are all a reflection of the dollar’s strength, rather than any idiosyncratic stories here.  





Emerging market currencies are also broadly softer this morning, with a mix of laggards across all three blocs.  HUF (-0.5%), ZAR (-0.5%, THB (-0.45%) and MXN (-0.35%) reflect that this is a dollar and Fed story, not an EMG one.  The one exception to this rule is TRY (+1.0%) as hopes for an early lifting of Covid restrictions and a modest rise in Consumer Confidence there has underpinned the lira.





On the data front, we see Existing Home Sales (exp 5.72M) this morning at 10:00, but that seems unlikely to excite the market.  Rather, I expect limited movement until Chairman Powell speaks this afternoon.  





For now, volatility is likely to be the norm as the market adjusts to whatever the new narrative eventually becomes.  The inflation debate continues to rage and when Core PCE is released later this week, there will be more commentary.  However, it will require high inflation readings into the autumn to change the Fed’s stance, in my view, and until then, the idea that the Fed is considering tighter policy is likely to support the dollar for now.  However, that doesn’t mean further strength necessarily, just not any real weakness.





Good luck and stay safe





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			No Exit
		


				

			Posted on  by 		

			


		

		
So, Powell and friends started talking


‘bout talking, and markets were rocking


Though they won’t stop buying


More bonds, they are trying


To exit QE, which is shocking


The question is how long they last


Ere haunted by all of their past


As Sartre made clear


No Exit is near


Be careful, the trouble is vast


Technically, I am out of the office today and tomorrow, but felt that I needed to quickly opine on yesterday’s FOMC meeting.


While the FOMC statement was virtually identical to the April statement, not really even mentioning the fact that inflation is running much hotter than they had obviously expected, the big news was the dot plot, where the median expectation changed to 0.50% of rate rises by the end of 2023.  Previously, that rate was still expected to be 0.00%, so clearly at least some FOMC members have figured out that inflation is rising.  Substantial further progress on their goal of maximum employment has not yet been made and remains “a way’s off.”


But the market focused on the dot plot as it is the first indication that tighter policy may be coming.  In fact, in the press conference, Powell explicitly said that this was the meeting where they began to talk about talking about policy changes, so perhaps that tired phraseology will be discarded.


The bond market reacted in quite an interesting manner, as every maturity up to the 10-year saw yields rise, but the 30-year was unchanged on the day.  The fact that the 30-year ignored all the fireworks implies that market opinions on growth and inflation have not really changed, just the timing of the eventual movement by the Fed has been altered.  Stock prices sold off a bit, but not very hard, far less than 1.0%, but boy did precious metals get whacked, with gold down nearly 3% on the day and a further 1% this morning.


And finally, the dollar was the star of the markets, rallying against everyone of its major counterparts, with the biggest laggards the commodity focused currencies like NOK (-2.7%), SEK (-2.5%), MXN (-2.5%) and ZAR (-2.3%).  But it was a universal rout.  Markets had been getting shorter and shorter dollars as the narrative had been the rest of the world was catching up to the US and trusting that the Fed was no nearer raising rates now than in April.  I’m guessing some of those opinions have changed.


However, my strong suspicion is that nothing really has changed and that the Fed is still a very long way from actually tapering, let alone raising rates.  Ultimately, the biggest risk they face, at least the biggest risk they perceive, is that if they start to tighten and equity prices decline sharply, they will not be able to sit back and let that happen.  They have well and truly painted themselves into a corner with No Exit.  Thus far, the movement has been insignificant.  But if it begins to build, just like the Powell Pivot on Boxing Day in 2018, the Fed will be back to promising unlimited liquidity forever.  And the dollar, at that point will suffer greatly.


For those who are dollar sellers, take advantage of this movement.  It may last a week or two but will not go on indefinitely.  At least sell some!


Good luck, good weekend and stay safe


Adf

			

	
	



				
					


	

		

			No Yang, Only Yin
		


				

			Posted on  by 		

			


		

		
According to every newspaper


The Fed’s getting ready to taper


With late Twenty-two


The popular view


Of when, QE, they will escape(r)


But what if, before they begin


To taper, to Powell’s chagrin


The bond market tanks


As traders and banks


Believe there’s no yang, only yin


The Fed begins its two-day meeting this morning and the outcome remains the primary topic of conversation within every financial market.  The growing consensus is that there will be some discussion in the meeting of when the Fed should begin to reduce their QE purchases as well as what form that should take.  Given the extraordinary heat in the housing market, there have been numerous calls for the Fed to stop buying mortgage-backed securities first as that market hardly needs any more support.  In the end, however, the details of how they choose to adjust policy matters less than the fact that they are choosing to do so at all.


As pointed out yesterday, the bond market’s rally thus far in Q2 appears to be far more related to the lack of new Treasury supply than increasing demand and declining concerns over future inflation.  If that view is correct, then discussing the timing of tapering QE will seem quite premature.  It is true Treasury Secretary Yellen said that higher interest rates would be a good thing, but it seems highly likely she was not thinking of 10-year yields at 3.0% or more, rather somewhere just south of 2.0%.  In other words, a modest increase from current levels.  History, however, shows that markets rarely correct in a modest manner, rather they tend to move to extremes before retracing to a new equilibrium.  Thus, even if 2.0% is a new equilibrium (and I don’t believe that will be the case) do not be surprised to see yields significantly higher first.


In this view, the impact on markets worldwide is likely to be significant.  It seems unlikely that equity markets anywhere will respond positively to higher interest rates at all, let alone sharply higher rates.  As well, bond markets will, by definition, have been falling rapidly with much higher yields, not just in the US but elsewhere as well.  As to the dollar, it would seem that it will also be a big beneficiary of higher US yields, arguably with USDJPY the most impacted.  A quick look at recent correlations between different currencies and US 10-year yields shows the yen is the only major currency that has a significant correlation to yields (0.46).  But I would not discount the idea that the dollar will rally versus pretty much the rest of the G10 as well as the EMG bloc in a situation where dollar yields are rising sharply.  Consider that in this situation, we will likely be looking at a classic risk-off scenario when the dollar tends to perform best.


Of course, there are many in the camp who believe that the central banking community will remain in control of markets and that inflation is transitory thus allowing them to adjust policy at their preferred pace.  It is this scenario that Ms Yellen clearly is expecting, or at least describing in her desire for higher yields.


And this is the crux of the market’s future decisions; will central banks be able to slowly reduce monetary accommodation as economies around the world slowly return to pre-pandemic levels of activity, or will the dramatic increase in government debt issuance force central banks to maintain their QE programs in order to prevent the economic chaos that could result from sharply higher interest rates?  While my money is on the latter, it remains too soon to determine which broad outcome will occur.  It is also not clear to me that tomorrow’s FOMC announcement is going to be that big a deal in the long run, as it seems doubtful there will be any actual policy changes, even if they begin to discuss how they might do so in the future.  Remember, talk is cheap, even central bank forward guidance!


Markets remain in a holding pattern ahead of tomorrow’s FOMC statement and Powell’s press conference, although there have been some idiosyncratic moves overnight.  For instance, while Japanese equity markets continue to rally (Nikkei +1.0%) on the back of optimism regarding the Olympics and the idea that Covid inspired lockdowns will be ending soon, the same was not true in China where the Hang Seng (-0.7%) and Shanghai (-0.9%) markets both suffered after the PBOC failed to inject any additional liquidity into the money markets there.  With quarter-end approaching, demand for funds by financial institutions is rising and the fact that the PBOC continues to be somewhat parsimonious has been a key support for the renminbi, but not really helped the equity markets there.  Remember, China is quite concerned over what had been a growing housing bubble, and this is designed to help restrict the growth of that situation.


European equity markets are somewhat mixed this morning as the major indices have performed well (DAX +0.5%, CAC +0.4%, FTSE 100 +0.3%) but both Italy (-0.2%) and Spain (-0.5%) are lagging on the day.  The data of note has been CPI which showed that Germany (+2.5%) continues to feel the most inflationary pressure, while both France (+1.8%) and Italy (+1.2%) remain unable to find much inflationary impulse at all.  This is certainly a far cry from the situation here in the US and speaks to the idea that the ECB is not likely to begin tapering anytime soon.  In fact, it would not be surprising if they wind up either extending PEPP or expanding the original QE known as APP.  US futures, meanwhile, are little changed at this hour after yesterday’s mixed session.


Global bond markets are on hold this morning with none of the major nations seeing movement of even 1 basis point, despite yesterday’s Treasury sell-off raising 10-year yields by nearly 6 bps.  That movement has been described as technical in nature given the complete lack of new information seen.


On the commodity front, oil (WTI +0.8%) continues to power higher driving the entire energy complex in that direction but the rest of the space has seen quite a different outcome.  Precious metals (Au -0.2%, Ag -0.8%) continue their recent weak performance while industrial metals (Cu -3.5%, Al -1.3%, Sn -2.1%) have been absolutely crushed.  Agricultural products are mostly softer on the weather story, although soybeans is bucking that trend with a modest gain on the day.


As to the FX market, the dollar is mixed in both G10 and EMG blocs.  In the G10, AUD (-0.2%) has suffered on the back of dovish RBA Minutes released last night as they indicated it was premature to discuss tapering.  CAD (-0.3%) appears to be suffering on the back of the base metals decline and the pound (-0.25%) is on its back foot after slightly disappointing employment data.  Interestingly, NOK is unchanged on the day despite oil’s rally and CHF’s 0.1% gain, which leads the pack appears to be technical in nature.


In the EMG bloc, TRY (-1.3%) is suffering after the US-Turkey meeting at the G7 meetings was less fruitful than hoped with no breakthroughs achieved.  HUF (-0.7%) is declining after conflicting statements from a central bank member regarding a short-term liquidity facility has traders uncertain if policy accommodation is going to be ended soon or not.  Remember, uncertainty breeds contempt in markets.  Away from those two, however, the rest of the block saw very small movements with no significant stories.


On the data front, we get two important pieces this morning; Retail sales (exp -0.7%, +0.4% ex autos) and PPI (6.2%, 4.8% ex food & energy).  In addition, at 8:30 we see Empire Manufacturing (22.7) and then later we see IP (0.7%) and Capacity Utilization (75.1%).  Retail Sales is likely to dominate the discussion unless PPI is really high, above 7.0%.  But in the end, markets continue to wait for tomorrow’s FOMC, so large movement still seems unlikely today.  That said, if we do see Treasury yields creeping higher, I expect the dollar to perform pretty well.


Good luck and stay safe


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			Yields Are Repressed
		


				

			Posted on  by 		

			


		

		

You have to be mighty impressed
The bond market’s not even stressed
Although CPI
Has reached a new high
One wonders if yields are repressed

Clearly, there is only one story of import these days, and that is whether or not inflation is transitory.  Chairman Powell and his minions have spent the last several months harping on this idea, and although there was a time when several FOMC members seemed to get nervous and wanted to discuss tapering QE, it seems highly likely that next week’s FOMC meeting will focus on the fact that “substantial progress” has not yet been made toward the Fed’s goals of maximum employment and 2% average inflation.  Well, at least on the goal of maximum employment.  It seems pretty clear that they have made some progress on the inflation front.

While the headline Y/Y print of 5.0% was clearly impressive, and the highest since August 2008, personally, I am more impressed with the core M/M print of 0.7% as that is not impacted by what happened during the pandemic.  And the fact that this followed last month’s 0.9% print could indicate that inflation is becoming a bit less transitory.  But the Fed has done a wonderful job of selling its story.  One has to believe that Chairman Powell could not have wanted a better outcome than yesterday’s market price action with the S&P 500 making new highs while the bond market rallied sharply with the 10-year yield falling 6 basis points to 1.43%.

For a moment, let us try to unpack this price action.  On the one hand, it is easy to understand the equity rally as the decline in nominal yields alongside the rising recorded inflation has led to a dramatic fall in real yields.  One view, which many utilize, is that real 10-year yields are simply the 10-year yield less the current headline CPI rate.  Of course, right now, that comes to -3.57%, a level only seen a handful of times in the past, all of which occurred during significant inflationary periods in the 1970’s and early 1980’s.  Negative real yields are a boon for stocks, but historically are awful for the dollar and yet the dollar actually rallied slightly yesterday.  It seems to me that a more consistent outcome would require the dollar to decline sharply from here.  After all, even using Bund yields, currently -0.284%, and Eurozone CPI (2.0%), one sees real yields in the Eurozone far higher (-2.284%) than here in the US.  Something seems amiss.

Something else to consider is bond positioning.  There continues to be a great deal of discussion pointing to the bond market rally as a massive short squeeze.  Last week’s CFTC data was hardly indicative of that type of movement, although we will learn more this afternoon.  However, there is another place where both hedge funds and retail investors play, the ETF market, and when it comes to bond speculation, TLT is the product of choice.  Interestingly, more than 37% of the shares outstanding have been shorted in this ETF, a pretty good indication that there were a lot of bets for a higher yield.  But the word is that a significant portion of these shorts were closed out yesterday, on the order of $7 billion in short covering in total, which would certainly explain the sharp rally in the bond market.  This begs the question, is the price action technical in nature rather than a reflection of the views that inflation is truly transitory?  The problem with this question is we will not be able to answer it with any certainty for at least another three to four months.  But for now, the Fed has the upper hand.  In fact, there doesn’t seem to be any reason for them to adjust policy next week at all.  Why taper if the current policy mix is working?

Speaking of policy mixes that seem to be working, I would be remiss if I didn’t mention that the ECB meeting yesterday resulted in exactly…nothing.  Policy was left unchanged, Madame Lagarde promised to continue to buy assets at a faster pace than the first quarter, and then she spent an hour in her press conference saying virtually nothing.  It may have been her finest performance in the role.

The bond market seems to have made up its mind that the Fed is correct although there remain many pundits who disagree.  I expect that we will be continuing this discussion all summer long and with every high CPI print, you can look for the punditry to pump up the volume of their critiques of the Fed. However, we need only see one dip in the data for the Fed to claim victory and move on from the inflation discussion.  Next month’s CPI report will truly be important as the base effects will have disappeared.  Last year, the June M/M CPI was 0.5%.  If inflation is truly with us, we need to see M/M in June 2021 to be at least that high, if not a repeat of the 0.6%-0.8% numbers we have been seeing lately.  Between now and then we will see a number of price indicators including the Fed’s favorite core PCE.  For the past several months, every price indicator has been high and surprising on the high side.  The next months’ worth of data will be very important to both the Fed and the markets.  Enjoy the ride.

With two of the three key near-term catalysts now out of the way, all eyes will turn to next Wednesday’s FOMC meeting.  But that leaves us 4 sessions to trade in the interim.  Right now, with the fed narrative of transitory inflation dominating, it is easy to expect continued risk-on market performance.  Interestingly, that was not actually the case in Asia as the Nikkei (0.0%) was flat and Shanghai (-0.5%) fell although the Hang Seng (+0.35%) managed to close higher on the day.  Europe, however, got the memo and is green across the board (DAX +0.4%, CAC +0.7%, FTSE 100 +0.5%).  US futures, too, are picking up buyers as they all trade 0.25% or so higher at this hour.  

Meanwhile, in the bond market, Treasury yields have backed up 1.3bps, which looks far more technical than fundamental.  After all, they have fallen 18 bps in the past week, a rebound is no surprise.  However, European sovereign markets were closed before the bond party really started yesterday afternoon and they are in catch up mode today.  Bunds (-2.0bps) and OATS (-2.1bps) are performing well, but nothing like Gilts (-4.6bps), nor like the PIGS, all of which are seeing yield declines of at least 4bps.

Commodity prices are generally higher led by oil (WTI +0.5%) with the industrial metals all performing well (Cu +1.9%, Fe +1.0%, Sn +0.6%) although despite the dramatic decline in yields, gold (-0.5%) continues to underperform.  That feels like it is going to change soon.

Finally, in FX markets, the dollar is king of the G10, rising against all of its counterparts here with NZD (-0.4%) and SEK (-0.4%) leading the way down.  While the kiwi price action appears to be technical after having seen a decent rally lately, Sweden’s krona continues to suffer from its lower CPI print yesterday, once again delaying any idea that they may need to tighten policy in the near term.  The rest of the bloc is softer, but the movement has been far less impressive.

What makes that price action interesting is the fact that EMG currencies have actually had a much better performance with IDR (+0.4%), KRW (+0.4%) and TRY (+0.4%) all showing modest strength.  In Turkey, FinMin comments regarding the divergence between CPI and PPI were taken somewhat hawkishly.  In Seoul, a BOK governor mentioned the idea that one or two rate hikes should not be seen as tightening given the current record low level of interest rates (currently 0.50%).  However, it seems the market would see 50bps of tightening as tightening.  And lastly, the rupiah continues to benefit from foreign buying of bonds with inflows rising for a third consecutive week.

Data this morning brings Michigan Sentiment (exp 84.4) and careful attention will be paid to the inflation expectation readings, with the 1yr expected at 4.7%.  Remember, the Fed relies on those well-anchored inflation expectations, so if they are rising here, that might cause a little indigestion in Washington.

At this stage, just as we are seeing the bond market rally ostensibly on short covering, my sense is the dollar is behaving in the same way.  The data and rates would indicate the dollar should fall, but it continues to grind higher right now.  In the end, “the fundamentals things apply, as time goes by”1, and right now, they all point to a weaker dollar.  

Good luck, good weekend and stay safe
Adf

1.	Apologies to Wilson Dooley 







			

	
	



				
					


	

		

			Crucial Advice
		


				

			Posted on  by 		

			


		

		
The Chinese Department of Price


Is proffering crucial advice


Don’t think about hoarding


It won’t be rewarding


And don’t make us speak to you twice!


There really is such a thing as the Department of Price in China.  It is part of the National Development and Reform Commission, the Chinese economic planning agency, although I have to admit it sounds more like something from Atlas Shrugged than a real agency.  But soaring commodity prices during the past year have become quite the problem for China, resulting in rising inflation and shortages of inputs for their manufacturers.  Apparently, President Xi is not pleased with this result and so this obscure (absurd?) government agency is now tasked with preventing prices from rising across a range of commodities.  Their tactics include threats against buyers deemed to be hoarding, against speculators in commodity trading firms and against manufacturers for passing on rising input costs to their final customers.  While one cannot help but chuckle at the futility of this effort (prices of things in demand will rise or shortages will result) it also highlights just how much of a concern inflation is to the Chinese and helps explain the recent PBOC action regarding FX reserves in order to stop/reverse the renminbi’s recent strength.  While a stronger renminbi would help ease inflationary pressures, its impact on exports, especially with input prices rising, was just too much to take.  For the foreseeable future, you can expect USDCNY to rise in a slow and steady manner.


Along with the FOMC


Investors are anxious to see


The payroll release


With forecast increase


To offset last month’s perigee


Turning to today’s news, markets remain quiet and rangebound ahead of this morning’s NFP report.  Last month’s abysmal outcome, just 266K new jobs, hugely below the nearly one million expected has increased the concern today.  While yesterday’s ADP Employment report was spectacular at 978K, last month it was nearly 750K and we still got that huge surprise.  Estimates this morning range from 335K to 1000K which tells us that nobody really knows, and none of the econometric models out there are well tuned to the current economic circumstances.  Here are the current median forecasts according to Bloomberg:






Nonfarm Payrolls
674K




Private Payrolls
610K




Manufacturing Payrolls
25K




Unemployment Rate
5.9%




Average Hourly Earnings
0.2% (1.6% Y/Y)




Average Weekly Hours
34.9




Participation Rate
61.8%




Factory Orders
-0.3%






Following yesterday’s ADP report, the dollar, which had been drifting higher, got a huge boost and rallied strongly versus all its counterparts.  In addition, we saw sharp declines in precious metals prices and more modest declines in bond prices (yields on the 10-year rose about 4bps).  Arguably, that is exactly what one would expect with news that the US economy is growing more rapidly than previously thought.  But that begs the question for today, has the market already priced in a much larger number and so become subject to some serious profit-taking on a ‘sell the news’ meme?  My sense is that we will need to see a very large number, something on the order of 1.3 million to continue yesterday’s price action in markets.  Anything less, even if above the median forecast, will likely be seen as toppish and given it is a summer Friday, traders will be quick to square up positions.


Obviously, the FOMC is watching this data closely.  Recall, their stated goal is maximum employment and they continue to harp on the 8.1 million jobs that have not yet been replaced due to the Covid shutdown as well as the 2 million jobs that would have otherwise been created based on trend growth prior to the shutdown.  The point is that, given the transitory inflation pressures theme that has been universally repeated by every FOMC member, the Fed seems very likely to maintain the current policy settings for a while yet.  So, while today’s number is important for the market’s understanding of the current situation, I don’t believe there is any number that will change Fed policy.  At least no large number.  On the flipside, a second consecutive weak number might just encourage discussion that the current QE is not sufficient.  It will certainly raise eyebrows and cause a great deal of angst at the next FOMC meeting in two weeks’ time.


At this point, however, there is nothing we can do but wait.  A recap of the overnight activity shows that equity markets had minimal movements with no major index moving more than 0.4% (Nikkei -0.4%) and US futures essentially unchanged at this time.  Bond markets are exhibiting the same lack of direction, with movements less than 1 basis point ahead of the release across Treasuries and European sovereigns.  Commodity prices, after yesterday’s spectacular declines in the precious metals of more than 2%, have stabilized with oil drifting slightly higher (WTI +0.3%), and metals and agricultural prices either side of unchanged.


Finally, the dollar has also been ranging with no G10 currency having moved more than 0.2% from yesterday’s closing level and an even spread of gainers and losers.  In other words, everyone is biding their time here.  EMG currencies have displayed a bit more weakness, but much of that is due to last night’s APAC session where most currencies fell in response to the ADP number, just like everything else did during yesterday’s NY session.  Looking at the EEMEA currencies, only PLN (-0.4%) is showing any type of noteworthy movement and that mostly appears to be a reaction to the fact it has been amongst the best performers over the past month, having gained more than 3.0%, and so is subject to more profit-taking.  In other words, every market is simply biding its time ahead of the release.


Away from the payroll report, Chairman Powell does speak this morning, but the focus is on climate change, not monetary policy, so it seems unlikely we will learn very much.  And after this, the Fed is in its quiet period ahead of the meeting, so we are left to our own devices to determine what will happen.


My sense is we will see a strong showing today, maybe 750K as well as a revision up to last month’s data, which was abnormally weak given other indicators, but I am hard pressed to see the dollar repeat yesterday’s gains.  Rather, consolidation into the weekend seems the most likely outcome.


Good luck, good weekend and stay safe


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			Filled with Frustration
		


				

			Posted on  by 		

			


		

		
The Beige Book explained ‘round the nation


That growth was up, as was inflation


As well, we all learned


Of job offers spurned


And businesses filled with frustration


Meanwhile, round the world, PMI’s


Of Services were no surprise


As nations reopen


Most people are hopin’


The world will, at last, normalize


Ahead of tomorrow’s NFP report in the US, one which given last month’s extraordinary miss will be closely scrutinized by both investors and the Fed, most markets appear to be biding their time in narrow ranges.  This was largely true yesterday and so far, remains the case in the Asian and European sessions.  This lull in activity offers an excellent time to consider the supporting data that we have received in the past twenty-four hours, as well as the remainder due this morning.


Starting with the Fed’s Beige Book yesterday, the report highlighted the features of the economy we have been hearing about for the past several months.  The lifting of Covid inspired restrictions has led to strong increases in demand for products and services ranging from houses and cars to hotels and restaurants.  Business owners indicated that a combination of supply chain bottlenecks and increased demand have been forcing prices higher and that they saw no reason for that to end soon.  They also continue to comment on their inability to hire the workers necessary to satisfy demand, especially in lower wage segments of the economy.  The anecdote I feel best illustrates the issue came from St Louis where a job fair held by a dozen restaurants to fill more than one hundred open positions drew only twelve candidates!  It certainly appears as though the ongoing extra Federal unemployment benefits being offered through September are discouraging a lot of people from going back to work.


One of the underlying beliefs regarding the Fed’s transitory inflation story is that supply chain interruptions will quickly resolve themselves.  And it is not just the Fed that believes this will be the case, but virtually every other economist as well.  But I wonder, what prompts their faith in that outcome?  After all, with available labor scarce, who is going to relink those chains?  Consider, as well, industries like mining and extraction of raw materials.  Shortages of copper and iron ore require the reopening of mines or excavating new ones.  One of the impacts of Covid was that not only were current operating mines closed, but capex was drastically cut, so there is a significant disruption in the exploration process.  Add to that the rise of ESG as a business objective, which will, at the very least slow, if not prevent, the opening of new sources of these raw materials, and it becomes quite easy to believe that these bottlenecks will remain for more than just a few months.  In fact, it would not be surprising if it was several years before the supply/demand balance in many commodities is achieved.  Given the current assessment is a lack of supply, you can be certain that prices will continue to rise far longer than the Fed will have you believe.


As to the overnight session, we were regaled with the Services PMI data from around the world.  In Asia we saw Australia solid, at 58.0, and right in line with last month, while Japan, 46.5, did show a marginal increase, but remains well below the growth-contraction line of 50.0.  China’s Caixin data, at 55.1, was disappointing vs. expectations as well as lower by 1.2 points compared to April’s reading.  Is the Chinese economy beginning to roll over?  That is a question that is starting to be asked and would also explain the PBOC’s sudden concern over a too-strong renminbi.  In a strong economy, a rising currency is acceptable, but if things are not as good, currency strength is an unwelcome event.  Finally, the last major Asian nation reporting, India, showed awful data, 46.4, demonstrating the huge negative impact the recent wave of Covid infections is having on the economy there.


The European story was a bit better overall, with Germany (52.8 as expected), France (56.6 as expected), Italy (53.1 better than expected) and the Eurozone (55.2 slightly better than expected) all demonstrating the recovery is underway on the continent.  As well, the UK continues to burn brightly with a 62.9 reading, more than a point higher than forecast.  And don’t forget, later this morning the US releases both the PMI data (exp 70.1) as well as ISM Services (63.2) both demonstrating that the US economy remains the global leader for now.  With that in mind, it is kind of odd that the dollar is so hated, isn’t it?


The other data coming this morning will give us our first hints at tomorrow’s NFP with ADP Employment (exp 650K) released 15 minutes before both Initial (387K) and Continuing (3.614M) Claims.  As well, at 8:30 we see Nonfarm Productivity (5.5%) and Unit Labor Costs (-0.4%), which on the surface would indicate there are no wage pressures at all but continue to be distorted by the past year’s data outcomes.


As to the market situation, while equity markets in Asia were mixed (Nikkei +0.4%, Hang Seng -1.1%, Shanghai -0.4%), Europe has turned completely red (DAX -0.5%, CAC -0.4%, FTSE 100 -0.9%) despite the solid PMI data.  This feels far more like some profit taking ahead of tomorrow’s data as well as the upcoming ECB meeting next week.  US futures are also under pressure, with all three major indices lower by between 0.5% and 0.75%.


What is interesting about the market is that despite the selloff in stocks, we are seeing a selloff in bonds as well, with Treasury yields higher by 1.5bps and European sovereigns all higher by at least 1 basis point (Bunds +1.1bps, OATs +1.4bps, Gilts +2.7bps).  This, of course, begs the question, if investors are selling both stocks and bonds, what are they buying?


The answer is not clear at this point.  Oil (WTI -0.1%) while outperforming everything else, is still down on the day, as are gold (-0.65%) and silver (-1.4%).  Base metals?  Well, copper (-1.0%) is clearly not the winner, although aluminum (+0.25%) is the only green spot on the screen.  Well, that and agricultural products with Soybeans (+1.25%), Wheat (+1.0%) and Corn (+0.85%) all quite strong this morning, punctuating the idea that food inflation is running at its highest level in more than a decade according to a just released UN report.  That is something I certainly see every week at Shop-Rite and I imagine so does everyone else.


Finally, a look at the FX market shows the dollar is having a pretty good day all around.  In the G10, the pound (+0.1%) is the only currency to hold its own vs. the greenback, with the rest of the bloc lower by between 0.2% and 0.4%.  Frankly, this simply looks like a risk-off session as investors are selling both stocks and bonds across the G10, and no longer need to hold the local currencies.  In the EMG bloc, the story is largely the same, with only INR (+0.25%) rising and the rest of the bloc under some pressure.  The rupee movement seems to be more technical as alongside weak PMI data, the RBI meeting, coming up tonight, is expected to see policy remain unchanged with a dovish bias given the ongoing Covid problems in the country.  On the downside, while most currencies are lower, aside from TRY (-0.5%) on slightly lower inflation, therefore less need to maintain high rates, the rest of the bloc’s declines are only on the order of -0.2%.  Finally, I would be remiss if I didn’t mention yesterday’s price action in LATAM currencies, where we saw significant strength in BRL (+1.5%) and CLP (+1.1%) which has been a broad continuation of funds flowing back into the region.


We have a few more Fed speakers today, but they all say exactly the same thing all the time, it seems, that they are thinking about considering starting a discussion on tapering.  In this vein, there was a big announcement yesterday that the Fed would be unwinding one of the emergency bond buying programs, the secondary market corporate program, and selling out the $13 billion of bonds and ETF’s they own.  Of course, that is such a tiny proportion of their balance sheet, and of that market in truth, it seems unlikely to matter at all.


My observation lately has been that NY tends to go against the prevailing trend for the day during its session, meaning on a day like today, when the dollar is well bid as NY arrives, I would look for a bit of dollar selling.  We shall see, but in fairness, all eyes are really on tomorrow.


Good luck and stay safe


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