It’s Over

“It’s over”, Navarro replied
When asked if the trade deal had died
The stock market’s dump
Forced President Trump
To tweet the deal’s still verified

What we learned last night is that the market is still highly focused on the trade situation between the US and China. Peter Navarro, the Director of Trade and Manufacturing Policy, was interviewed and when asked if, given all the issues that have been ongoing between the two countries, the trade deal was over, he replied, “it’s over, yes.” The market response was swift, with US equity futures plummeting nearly 2% in minutes, with similar price action seen in Tokyo and Sydney, before the president jumped on Twitter to explain that the deal was “fully intact.”

One possible lesson to be gleaned from this story is that the market has clearly moved on from the coronavirus, per se, and instead is now focusing on the ramifications of all the virus has already wrought. The latest forecasts from the OECD show trade volumes are expected to plummet by between 10% and 15% this year, although are expected to rebound sharply in 2021. The key is that infection counts and fatality rates are no longer market drivers. Instead, we are back to economic data points.

Arguably, this is a much better scenario for investors as these variables have been studied far more extensively with their impact on economic activity reasonably well understood. It is with this in mind that I would humbly suggest we have moved into a new phase of the Covid impact on the world; from fear, initially, to panicked government response, and now on to economic fallout. Its not that the economic impact was unimportant before, but it came as an afterthought to the human impact. Now, despite the seeming resurgence in infections in many spots around the world, at least from the global market’s perspective, we are back to trade data and economic stories.

This was also made evident by all the talk regarding today’s preliminary PMI data out of Europe, which showed French numbers above 50 and the Eurozone, as a whole, back to a 47.5 reading on the Composite index. However, this strikes me as a significant misunderstanding of what this data describes. Remember, the PMI question is, are things better, worse or the same as last month? Now, while April was the nadir of depression-like economic activity, last month represented the second worst set of numbers recorded amidst global shutdowns across many industries. It is not a great stretch to believe that this month is better than last. But this does not indicate in any manner that the economy is back to any semblance of normal. After all, if we were back to normal, would we all still be working from home and wearing masks everywhere? So yes, things are better than the worst readings from April and May, but as we will learn when the hard data arrives, the economic situation remains dire worldwide.

But while the economic numbers may be awful, that has not stopped investors traders Robinhooders from taking the bull by the horns and pouring more energy into driving stocks higher still. Of course, they are goaded on by the President, but they seem to have plenty of determination on their own. Here’s an interesting tidbit, the market cap of the three largest companies, Apple, Microsoft and Amazon now represents more than 20% of US GDP! To many, that seems a tad excessive, and will be pointed to, after prices correct, as one of the greatest excesses created in this market.

And today is no different, with the risk bit in their teeth, equity markets are once again trading higher across the board. Once the little trade hiccup had passed, buyers came out of the woodwork and we saw Asia (Nikkei +0.5%, Hang Seng +1.6%, Shanghai +0.2%) and Europe (DAX +2.7%, CAC +1.6%, FTSE 100 +1.2%) all steam higher. US futures are also pointing in that direction, currently up between 0.6% and 0.8%. Treasury yields are edging higher as haven assets continue to lose their allure, with 10-year Treasury yields up another basis point and 2bp rises seen throughout European markets. Interestingly, there is one haven that is performing well today, gold, which is up just 0.15% this morning, but has rallied more than 5% in the past two weeks and is back to levels not seen since 2012.

Of course, the gold explanation is likely to reside in the dollar, which in a more typical risk-on environment like we are currently experiencing, is sliding with gusto. Yesterday’s weakness has continued today with most G10 currencies firmer led by NOK (+0.9%) and SEK (+0.75%) on the back of oil’s ongoing rebound and general optimism about future growth. It should be no surprise that the yen has declined again, but its 0.1% fall is hardly earth shattering. Of more interest is the pound (-0.3%) which after an early surge on the back of the UK PMI data (Mfg 50.1), has given it all back and then some as talk of the UK economy faring worse than either the US or Europe is making the rounds.

In the EMG bloc, the dollar’s weakness is broad-based with MXN and KRW (+0.6% each) leading the way but INR an PLN (+0.5% each) close behind. As can be seen, there is no one geographic area either leading or lagging which is simply indicative of the fact that this is a dollar story, not a currency one.

On the data front in the US, while we also get the PMI data, it has never been seen as quite as important as the ISM data due next week. However, expectations are for a 50.0 reading in the Manufacturing and 48.0 in the Services indices. We also see New Home Sales (exp 640K) which follow yesterday’s disastrous Existing Home Sales data (3.91M, exp 4.09M and the worst print since 2010 right after the GFC.) We hear from another Fed speaker today, James Bullard the dove, but I have to admit that Chairman Powell has everybody on the FOMC singing from the same hymnal, so don’t expect any surprises there.

Instead, today is very clearly risk-on implying that the dollar ought to continue to trade a bit lower. My hypothesis about the dollar leading stocks last week has clearly come a cropper, and we are, instead, back to the way things were. Risk on means a weaker dollar and vice versa.

Good luck and stay safe
Adf

Yesterday’s News

The first bit of data we’ve seen
Has shown what economists mean
When most business stops
And GDP drops
Reacting to Covid – 19

This data describes people’s fear
Another wave just might appear
But right now those views
Are yesterday’s news
And ‘buy the dip’ traders are here

The UK is an interesting study regarding GDP growth because they actually publish monthly numbers, rather than only quarterly data like the rest of the developed world. So, this morning, the UK reported that GDP activity in April declined 20.4% from March, which had declined 5.8% from February when the first impact of Covid-19 was felt. This has resulted in the UK economy shrinking back to levels last seen in 2002. Eighteen years of growth removed in two months! Of course, when things recover, and they will recover as the lockdowns are eased around the world, we will also get to see the fastest growth numbers in history. However, we must remember that a 20% decline will require a 25% rebound to get back to where we started. Keep that in mind when we start to see large positive numbers in the summer (hopefully) or the autumn if people decide that the risks of Covid outweigh the benefits of returning to previous activities.

Needless to say, this has been an unprecedented decline, on a monthly basis, in the economy for both its depth and speed. But the more remarkable thing, is that despite this extraordinary economic disruption, a look at financial markets shows a somewhat different story. For example, on February 28, the FTSE 100 closed at 6580.61 and the pound finished the session at 1.2823. On April 30, after the worst two-month economic decline in the UK’s history, its main stock market had declined 10.3% while the pound had fallen just 1.8%. Granted, both did trade at substantially lower levels in the interim, bottoming in the third week of March before rebounding. But it seems to me that those are pretty good performances given the size of the economic dislocation. And since then, both the FTSE 100 and the pound have rallied a bit further.

The question is, how can this have occurred? Part of the answer is the fact that on a contemporaneous basis, investors could not imagine the depths of the economic decline that was taking place. While there were daily stories of lockdowns and death counts, it is still hard for anyone to have truly understood the unprecedented magnitude of what occurred. And, of course, part of the answer was this did not happen in a vacuum as policymakers responded admirably quickly with the BOE cutting rates by a total of 0.65% in the period while expanding their balance sheet by £150 billion (and still growing). And the UK government quickly put together stimulus packages worth 5% of then measured GDP. Obviously, those measures were crucial in preventing a complete financial market collapse.

Another thing to remember is that the FTSE 100 was trading at a P/E ratio of approximately 15 ahead of the crisis, which in the long-term scheme of things was actually below its average. So, stock prices in the UK were nowhere near as frothy as in the US and arguably had less reason to fall.

As to the pound, well, currencies are a relative game, and the same things that were happening in the UK were happening elsewhere as well to various degrees. March saw the dollar’s haven status at its peak, at which point the pound traded below 1.15. But as policymakers worldwide responded quite quickly, and almost in unison, the worst fears passed and the ‘need’ to own dollars ebbed. Hence, we have seen a strong rebound since, and in truth a very modest net decline.

The questions going forward will be all about how the recovery actually unfolds, both in timing and magnitude. The one thing that seems clear is that the uniformity of decline and policy response that we saw will not be repeated on the rebound. Different countries will reduce safety measures at different paces, and populations will respond differently to those measures. In other words, as confusing as data may have been before Covid, it will be more so going forward.

Now, quickly, to markets. Yesterday’s equity market price action in the US was certainly dramatic, with the Dow falling nearly 7% and even the NASDAQ falling 5.25%. The best explanation I can offer is that reflection on Chairman Powell’s press conference by investors left them feeling less confident than before. As I wrote in the wake of the ECB meeting last week, the only way for a central banker to do their job (in the market’s eyes) these days is to exceed expectations. While analysts did not expect any policy changes, there was a great deal of talk on trading desks floors chatrooms about the next step widely seen as YCC. The fact that Jay did not deliver was seen as quite disappointing. In fact, it would not be surprising to me that if stock markets continued to decline sharply, the Fed would respond.

But that is not happening as buying the dip is back in fashion with European markets higher by roughly 1.5% and US futures also pointing higher. Meanwhile, with risk back in favor, Treasury yields have backed up 3bps and the dollar is under pressure.

On the FX front, the G10 is a classic depiction of risk-on with the yen (-0.5%) and Swiss franc (-0.3%) both declining while the rest of the bloc is higher led by CAD and AUD, both up 0.5%. In truth, this has the feeling of a bounce from yesterday’s dollar strength, rather than the beginning of a new trend, but that will depend on the broader risk sentiment. If equity market ebullience this morning fades as the session progresses, look for the dollar to take back its overnight losses.

Meanwhile, EMG markets are having a more mixed session with APAC currencies all having fallen last night in the wake of the US equity rout. APAC equities were modestly lower to unchanged but had started the session under far more pressure. At the same time, the CE4, with the benefit of the European equity rebound and higher US futures are mostly firmer led by PLN (+0.6%). But the biggest winner today in this space is MXN, which has rebounded 0.7% from yesterday’s levels, although that represented a nearly 4% decline! In other words, the defining characteristic of the peso these days is not its rate but its volatility. For example, 10-day historic volatility in the peso is currently 28.37%, up from 13.4% last Friday and 21.96% in the middle of May when we were looking at daily 3% moves. Do not be surprised if we see another bout of significant peso volatility, especially given the ongoing concerns over AMLO’s handling of Covid.

On the data front, only Michigan Sentiment (exp 75.0) is on the docket today, which may have an impact if it is surprisingly better than expected, but I don’t anticipate much movement. Rather, FX remains beholden to the overall risk sentiment as determined by the US equity markets. If the rebound continues, the dollar will remain under pressure. If the rebound fails, look for the dollar to resume yesterday’s trend.

Good luck, good weekend and stay safe
Adf

 

Unless Lowered Instead

All eyes have now turned to the Fed
As pundits expect Jay will spread
The message that rates,
Until future dates,
Are fixed, unless lowered instead

Most market activity is muted this morning as traders and investors await the latest words of wisdom from Chairman Jay and his compadres. The key questions in the air are:

1. What will the Fed’s new forecasts describe?
2. What will the dot plot (remember that?) look like?
3. Will there be any change in current forward guidance?
4. Will there be any mention of yield curve control (YCC)?

Let’s quickly try to unpack these and see what they mean.

1. The Fed ordinarily updates its economic forecasts quarterly, but wisely, in my view, skipped March’s update given the incredible uncertainty that existed due to the beginnings of the Covid-19 impact. Three months later, the breadth of economic destruction has become clearer, but it will be interesting to learn their current views on the topic. For comparison, last week the ECB forecast a central scenario of Eurozone GDP as follows: 2020 -8.7%, 2021 +5.2%, 2022 +3.3%. The OECD forecast global GDP at -6.0% this year and US GDP at -7.3% this year assuming no second wave of infections. Those numbers fall to -7.6% and -8.5% respectively if there is a second wave of Covid infections. No matter how you slice it, 2020 is set to report negative GDP growth, but the question is, will the Fed demonstrate relative optimism or not?

2. The dot plot, as you may recall, was the biggest issue for a long time, as it was the Fed’s non-verbal way of offering forward guidance. The idea was that each FOMC member would offer his/her own views of the future level of rates and the median forecast was seen as a proxy of the Fed’s views. While it is abundantly clear that the view for 2020 will remain 0.00%, the real question is what the timeline anticipated by the FOMC will be as to when rates can start to rise again. It strikes me that while there will be some divergence, as always, we are likely to see only very gradual increases expressed, with a real possibility that 2021’s median will also be 0.00% and rates only beginning to rise in 2022. This begs the question…

3. How will they proffer their forward guidance? Current language is as follows: “The Committee expects to maintain this target (0.00%-0.25%) until it is confident that the economy has weathered recent events and is on track to achieve its maximum employment and price stability goals.” Current thoughts are they could become more specific with respect to the timeline, (e.g. saying rates would remain at current levels until the end of 2022) or with respect to data (e.g. until Unemployment is at 5.0% and Inflation is back to 2.0%). Of course, the lesson from Chairman Bernanke is that if they go the latter route, they can easily change the level as they see fit. But for now, the longer the timeline, the more confidence that would seem to be imparted. At least, that’s the theory.

4. Finally, there has been a great deal of discussion regarding YCC and whether the Fed will announce a program akin to the BOJ (10-year) or RBA (3-year) where they target a rate on a specific maturity of the Treasury curve. Most analysts, as well as Cleveland Fed President Mester, believe it is too early to make a pronouncement on this subject, but there are those who believe that despite the equity market’s recent frothiness, they may want to step harder on the gas pedal to make sure they keep up what little momentum seems to have started. To me, this is the biggest story of the afternoon, and the one with the opportunity for the most market impact. It is not fully priced in, by any means, and so would likely see a huge rally in both bonds and stocks as the dollar fell sharply if they were to announce a program like this. I like gold on this move as well.

So, plenty to look forward to this afternoon, which explains why market activity has been so limited overall so far today. Equity markets in Asia were barely changed, although in the past few hours we have seen European bourses start to decline from early modest gains. At this point the DAX (-0.8% and CAC (-0.6%) are fully representative of the entire Eurozone space. At the same time, US futures have turned mixed from earlier modest gains with Dow e-minis down 0.3% although NASAAQ futures are actually higher by a similar amount.

Bond markets are generally anticipating something from the Fed as the 10-year has rallied and yields declined a further 3bps which now takes the decline since Friday’s close to 10bps. Bunds and Gilts are both firmer as well, with modestly lower yields while the PIGS are mixed as Greek yields have tumbled 9bps while Spain (+3bps) and Portugal (+4.5bps) see rising yields instead.

And finally, the dollar is definitely on its back foot this morning. In fact, it is lower vs. the entire G10 bloc with Aussie and Kiwi leading the way with 0.5% gains. Right now, the Aussie story looks more technical than fundamental, as it approaches, but cannot really hold 0.70, its highest point in almost a year. But overall, what is interesting about this movement is that despite yesterday’s desultory equity performance and this morning’s modest one as well, the dollar is behaving in a risk-on manner. Something else is afoot, but I have not yet been able to suss it out. I will though!

In the EMG space, the dollar is lower against virtually all its counterparts with IDR as the major exception. The rupiah fell 0.65% last night, actually recouping larger earlier losses at the end of the session, after the central bank explained they would be capping any strength in an effort to help Indonesian exporters. On the plus side is a range of currencies from all three blocs, which is evidence of pure dollar weakness rather than specific positive currency stories.

On the data front, overnight we learned that Chinese PPI was weaker than expected, reflecting weakness in its export markets and not boding well for that elusive V-shaped recovery. We also saw horrific April French IP data (-34.2% Y/Y), but that was pretty much as expected. This morning we get the latest CPI data from the US (exp 0.3%, 1.3% ex food & energy), but inflation remains a secondary concern to the Fed for now. Rather, there is far more focus on the employment data at the Mariner Eccles Building, so really, for now it is all about waiting for the Fed. If pressed, I think they will be more likely to offer some new, more dovish, guidance as it appears they will not want to lose any positive momentum. That means the dollar should remain under pressure for a little while longer.

Good luck and stay safe
Adf

Depression’s Price In

As cities continue to burn
The stock market bears never learn
Depression’s priced in
And to bears’ chagrin
Investors have shown no concern

Once again risk is on fire this morning as every piece of bad news is seen as ancient history, riots across the US are seen as irrelevant and the future is deemed fantastic based on ongoing (permanent?) government economic support and the continued belief that Covid-19 has had its day in the sun and will soon retreat to the back pages. And while the optimistic views on government largesse and the virus’s retreat may be well founded, the evidence still appears to point to an extremely long and slow recovery to the global economy. Just yesterday, the Congressional Budget Office, released a report indicating it will take nearly ten years before GDP in the US will return to its previous trend growth levels. That hardly sounds like they type of economy that warrants ever increasing multiples in the stock market. But hey, I’m just an FX guy.

A look around the world allows us to highlight what seem to be the driving forces in different regions. There are two key assumptions underpinning European asset performance these days; the fact that the EU has finally agreed to joint financing of a budget and mutualized debt issuance and the virtual certainty that the ECB is going to increase the PEPP in their step tomorrow. The flaws in these theories are manifest, although, in fairness, despite themselves the Europeans have generally found a way to get to the goal. However, the EU financing program requires unanimous approval of all 27 members, something that will require a great deal of negotiation given the expressed adamancy of the frugal four (Austria, the Netherlands, Sweden and Denmark) who are not yet convinced that they should be paying for the spendthrift habits of their southern neighbors. And the problem with this is the amount of time it will take to finally agree. Given the urgent need for funding now, a delay may be nearly as bad as no support at all.

At the same time, the ECB, despite having spent only €250 billion of the original €750 billion PEPP monies are now assumed to be ready to announce a significant increase to the size of the program. Not surprisingly, members of the governing council who hail from the frugal four have expressed reluctance on this matter as well. However, after Madame Lagarde’s gaffe in March, when she declared it wasn’t the ECB’s job to protect peripheral nation bond markets (that’s their only job!) I expect that she will steamroll any objections and look for a €500 billion increase.

Clearly, traders and investors are on the same page here as the euro continues to rally, trading higher by 0.3% this morning (+4.2% since mid-May) and back above 1.12 for the first time since March. European equity markets are rocking as well, with the DAX once again leading the way, up 2.4%, despite a breakdown in talks between Chancellor Merkel’s CDU and its coalition partner SPD over the nature of the mooted €100 billion German support program. But the rest of Europe is flying as well, with the CAC up 2.0% and both Italy’s and Spain’s main indices higher by about 2.0%. European government bonds are sliding as haven assets are simply no longer required, at least so it seems.

Meanwhile, in Asia, we have seen substantial gains across most markets with China actually the laggard, essentially flat on the day. But, for example, Indonesia’s rupiah has rallied another 2.2% this morning after a record amount of bidding for a government bond auction showed that investors are clearly comfortable heading back to the EMG bloc again. The stock market there jumped 2.0% as well, and a quick look shows the rupiah has regained almost the entirety of the 22% it lost during the crisis and is now down just 1.6% on the year. What a reversal. But it is not just Indonesia that is seeing gains. KRW (+0.7%, -5.0% YTD), PHP (+0.5%, +1.1% YTD) and MYR (+0.35%, -4.0% YTD) are all gaining today as are their stock markets. And while both KRW and MYR remain lower on the year, each has recouped more than half of the losses seen at the height of the crisis.

So, the story seems great here as well, but can these nations continue to support their economies to help offset the destruction of the shutdowns? That seems to vary depending on the nation. South Korea is well prepared as they announced yet another extra budget to add stimulus, and given the country’s underlying finances, they can afford to do so. But the Philippines is a different story, with far less resources to support themselves, although they have availed themselves of IMF support. And Indonesia? Well, clearly, they have no problem selling bonds to investors, so for the short term, things are great. The risk to all this is that the timeline to recovery is extended far longer than currently perceived, and all of that support needs to be repaid before economic activity is back.

The point of all this is that while there is clearly a bullish story to be made for these markets, there are also numerous risks that the bullish case will not come to fruition, even with the best of intentions.

And what about the US? Looking at the stock market one would think that the economy is going gangbusters and things are great. But reading the news, with every headline focused on the ongoing riots across the nation and the destruction of property and businesses, it is hard to see how the latter will help the economy return to a strong pace of growth in the short run. If anything, it promises to delay the reopening of many small businesses and restaurants, which will only exacerbate the current economic malaise.

The other thing that seems out of step with the politics is the underlying belief that there will be another stimulus bill passed by Congress soon. While the House passed a bill several weeks ago, there has been no action in the Senate, nor does there seem to be appetite in the White House for such a bill at this time with both seeming to believe that enough has been done and ending the lockdowns and reopening businesses will be sufficient. But if there are riots in the streets, will ordinary folks really be willing to resume normal activities like shopping and eating out? That seems a hard case to make. While the cause of the riots was a tragedy, the riots themselves have created their own type of tragedy as well, the delay and destruction of an economic rebound. And that will not help anybody.

So, on a day where the dollar is under pressure across the board, along with all haven assets, we have a bit of data to absorb starting with the ADP Employment number (exp -9.0M) and then ISM Non-Manufacturing (44.4) and Factory Orders (-13.4%). The Services and Composite PMI data from Europe that was released earlier showed still awful levels but marginally better results than the preliminary reports. However, it is hard to look at Eurozone PMI at 31.9 and feel like the economy there is set to rebound sharply. Those levels still imply a deep, deep recession.

However, today is clearly all about adding risk to the portfolio, and that means that equities seem likely to continue their rally while the dollar is set to continue to decline. For receivables hedgers, I think we are getting to pretty interesting levels. If nothing else, leave some orders a bit above the market to take advantage.

Good luck
Adf

 

Negative Views Have Been Banned!

It’s not clear why anyone thought
That Covid, much havoc had wrought
At least based on stocks
Who’s heterodox
Response ignores data quite fraught

Thus, once more with bulls in command
The stock market’s flames have been fanned
So, risk is appealing,
The dollar is reeling
And negative views have been banned!

Acquiring risk continues to be at the top of investor to-do lists as, once again, despite ongoing calamities worldwide, stock markets continue on their mission to recoup all the losses seen in March. It remains difficult for me to understand the idea that company valuations today should be the same as they were in February, before the global economy came to a screeching halt. Aside from the hundreds of millions of people worldwide who have been thrown out of work, millions of companies will disappear forever, whether it is JC Penney (long overdue) or your favorite local bistro (a calamity if there ever was one.) The commonality between the two is that both employed people who were also consumers, and sans an income, they will be consuming much less.

Given that consumption represented more than 60% of the global economy (>68% in the US), all those companies that cater to consumers are going to find it extremely difficult to generate profits if there are no consumers. It is why the hospitality/leisure sectors of the economy have been devastated world-wide, and all the industries that service those companies, like aircraft manufacturing or construction, have also been hit so hard. If you remove the rose-tinted lenses, it appears that the ongoing risk acquisition remains painfully ignorant of the reality on the ground, and that a revaluation seems more likely than not.

One other thing to consider is this, tax rates. US equity markets have been a huge beneficiary of the tax cuts from 2018 with corporate earnings broadly exploding higher. However, even if one looks past the abyss of the next several quarters of economic destruction, it seems quite likely that we are going to see some big picture changes around the world with regard to distribution of income, i.e. higher corporate (and personal) tax rates and lower EPS. Again, my point is that even if, by 2021, economic activity returns to the level seen in 2019, the share of that value that will be attributed to the corporate sector is destined to be much lower, and with after-tax earnings declines ordained it will be extremely difficult to justify high valuations. So, yes, risk is in the ascendancy today, but it continues to feel as though its time is coming to an end.

And with that sobering thought, let us look at just how risk is performing today. Equity markets around the world followed yesterday’s modest US rally higher with both the Nikkei and Hang Seng rallying a bit more than 1.1%, although Shanghai managed only a 0.2% gain. Meanwhile, Europe is feeling quite perky this morning as funds from around the world are flowing into the single currency as well as equity markets throughout the region. The DAX is leading the way higher, up 4.0%, as plans for a mooted €100 billion government support program are all over the tape. And this is in addition to the EU plan for a €750 billion support package. Thus, talk of a cash for clunkers program is supporting the auto manufacturers, while increases in childcare subsidies and employment support are destined to help the rest of the economy.

But the rest of Europe is also rocking, with the CAC +2.2% and both Italy and Spain seeing 2.5% gains in their major indices. Surprisingly, the FTSE 100 is the laggard, up only 1.1%, as concerns over a hard Brexit start to reappear. The current thinking seems to be that even if a hard Brexit causes a poor economic outcome, Boris will be able to blame everything on Covid-19 thus hiding the costs, at least to the bulk of the population. After all, it will not be easy to disentangle the problems caused by Covid from those caused by a hard Brexit for the average bloke.

As I type, US futures are also reversing earlier losses and are now higher by roughly 0.5% across the board. Bond markets, once again, remain extremely uninteresting, at least in the 10-year sector, as yields continue to trade in narrow ranges. In fact, since mid-April, the 10-year Treasury has had a range of just 15bps top to bottom, again, despite extraordinary economic disruption. This same pattern holds true for all the haven bonds as central banks around the world control the activity there and prevent any substantial volatility. In fact, it is becoming increasingly clear that the signaling effect of government bond yields is diminishing rapidly. After all, what information is available regarding investor preferences if yields are pegged by the central bank?

Finally, turning to the dollar we see another day of virtually universal weakness. AUD is the top G10 performer today after the RBA appeared a tad more hawkish last night, leaving policy unchanged but also describing a wait and see approach before making any further decisions. So, while some are calling for further ease Down Under, that does not appear to be on the cards for now. NOK is next on the list, rallying 0.65% as oil prices continue their strong performance of the past 6 weeks. Then comes the pound, up 0.6% this morning after a more than 1% rally yesterday. This is far more perplexing given the growing concerns over a hard Brexit, which will almost certainly result in the pound declining sharply. Remember, as it currently stands, if there is no agreement between the UK and EU by the end of June to extend the current trade negotiations, then a deal must be done by December 31, 2020 or it’s a hard Brexit. Discussions with traders leads me to believe that we have seen a massive short squeeze in the pound vs. both the euro and the dollar. If this is the case, then we are likely looking at some pretty good levels for hedgers to take advantage.

In the EMG space, the board is almost entirely green as well, with IDR (+1.35%) atop the list with MYR (+1.0%) and MXN (+0.9%) following close behind. The rupiah has gained as Indonesia is preparing plans to reopen the economy as soon as they can, deciding that the economic devastation is worse than the disease. Meanwhile, both MYR and MXN are beneficiaries of the oil rally with the ruble (+0.65%) not far behind. In fact, the entire space save the TWD (-0.15%) is firmer this morning. As an aside, TWD seems to be feeling a little pressure from the ongoing US-China trade spat, but despite its modest decline, it has been extremely stable overall.

There is no US data on the schedule for today, so FX markets will continue to take their cues from equities. At this point, that still points in the direction of a weaker dollar as risk continues to be acquired. Despite the currency rallies we have seen in the past weeks, most currencies are still lower vs. the greenback YTD. If you are convinced that the worst is behind us, then the dollar has further to fall. But any reversion to a risk-off sentiment is likely to see the dollar reassert itself, and potentially quite quickly.

Good luck and stay safe
Adf

Yesterday’s Mess

As riots engulf the US
The stock market’s feeling no stress
The bond market’s flat
The dollar’s gone splat
And Covid is yesterday’s mess

Risk is on this morning, and it appears that neither riots across most major cities in the US nor increased tensions between the US and China will do anything to dissuade investors from that mantra. I guess TINA is alive and well and living in every major financial center around the world. Of course, she does have a sugar daddy, the central bank community, who continue to spend on her by pumping massive amounts of liquidity into markets while cutting interest rates ever lower. Since April 1st, when lockdowns were beginning to spread rapidly around the world and social distancing became the watchword for personal interactions, every major equity market worldwide is higher, most by double digit percentages. Even Hong Kong’s Hang Seng Index is higher by 0.5% in that time, despite the fact that China has changed the law regarding the island’s quasi-independent status and certainly undermined a great deal of trust in the sanctity of private property there.

So why should today be any different than what we have seen for the past two months? One thought was all the rioting in the US. While there is absolutely no justification for the behavior of the Minneapolis policeman whose actions triggered this situation, there is also no justification for the looting and destruction of private property across the country. And, consider the timing; just as many businesses were starting to prepare to reopen, along comes a mob with the result being massive destruction of private property. This will certainly slow down the reopening of the economy to everyone’s detriment. I guess using the ‘broken windows’ theory of economics, the repair of all that damage and destruction will increase economic activity and be a net positive. (Alas, in 1850, Frederic Bastiat showed the fallacy in that theory by simply asking what those resources could have been used for had they not been needed to repair something that was perfectly fine beforehand.) The point is, the riots are a clear net negative to the economy.

And yet, after nearly two months of an incapacitated economy, which brought with it record unemployment levels along with record low readings across almost every economic statistic, the idea that equity markets around the world have recouped nearly two-thirds of the losses seen when the impact of Covid-19 was just beginning to be recognized is remarkable. Add to that equation the increasing tensions between the US and China, not merely the Hong Kong situation but also word that China is now halting purchases of US agricultural products and the potential death knell of the phase one trade agreement, and one is left scratching their head as to exactly what basis investors are using to make decisions. Since economic activity is clearly not the current driver, the only other choice is an unshakeable belief that the central banks, notably the Fed, will never allow the stock markets to decline substantially.

But that is where we are this morning, with equity markets in Asia having rallied after Friday’s presidential press conference made only vague threats about US retaliation for China’s actions regarding Hong Kong. In fact, the Hang Seng was the leading gainer, up 3.35%, but Shanghai (+2.2%) and the Nikkei (+0.85%) also enjoyed gains. Europe has generally followed along with both the CAC and FTSE 100 higher by 1.1% this morning. However, the DAX is having a more difficult session, falling 1.6% after final May PMI data showed Germany is lagging the Eurozone’s overall growth response. Meanwhile, US futures are basically flat on the day although they have rallied back from earlier losses in the overnight session.

Bond markets are behaving as one would expect in a risk-on session, with yields generally higher (Treasury +1bp, Bunds +3bps) but risk bonds, like Italian BTP’s seeing buying interest and declining yields (-3bps). In fact, another possible explanation for the DAX’s difficulties is the growing realization that Germany is going to be supporting all of the rest of Europe financially, which likely means that German companies may see less government support.

Finally, FX markets are really showing the diminished concerns regarding risk across all markets. Remember, during the peak of the concerns in March, foreign companies and countries were desperate to get access to dollars to continue servicing the trillions of dollars of USD denominated debt they had outstanding. As the basis moved further against them, they ultimately simply bought dollars in the FX market to satisfy those claims. Naturally, the dollar rallied strongly on all that demand. But to the rescue rode Jay Powell and his $4 trillion of liquidity and, voilá, the need to hoard dollars disappeared. So, with that in mind, one cannot be surprised that the dollar is softer across the board this morning.

Starting with the G10, Aussie is leading the way higher, up 0.95%, after its PMI data printed slightly better than expected and the market turns its attention to the RBA’s meeting this evening, where expectations are for no further policy ease for the time being. But we are also seeing strength in CAD (+0.5%), NZD (+0.4%) and GBP (+0.3%), as a combination of firming commodity prices and modest upward revisions to PMI data have helped underpin sentiment. The rest of the bloc is actually higher, but by 0.1% or less, and hardly worth mentioning.

In the EMG bloc, KRW (+1.1%) leads the way after announcing a $62 billion economic support package to help further mitigate the impact of Covid on the economy. That news was seen as far more important than the fact that their export data continues to crater amid ongoing slowdowns in global trade. But we are also seeing strength in RUB (+0.9%) and MXN (+0.75%) with the ruble benefitting from government encouragement for citizens to vacation in Russia rather than traveling abroad (thus reducing supply of RUB on the market) while the peso seems to simply be following its recent strengthening trend (+11.5% in May) amid an overall sense of dollar weakness. But here, too, the entire bloc is in the green, with the dollar simply under pressure universally.

Turning to the data front, this will be a big week as Friday brings the latest employment picture. But leading up to that, we have plenty to see as follows:

Today ISM Manufacturing 43.7
  ISM Prices Paid 42.0
Wednesday ADP Employment -9.0M
  Factory Orders -14.2%
  ISM Non- Manufacturing 44.5
Thursday Initial Claims 1.8M
  Continuing Claims 19.04M
  Trade Balance -$49.1B
Friday Nonfarm Payrolls -8.0M
  Private Payrolls -7.65M
  Manufacturing Payrolls -400K
  Unemployment Rate 19.6%
  Average Hourly Earnings 0.9% (8.5% Y/Y)
  Average Weekly Hours 34.3

Source: Bloomberg

In addition to this data, tonight we hear from the RBA and Thursday brings the ECB, where expectations are for a €500 billion increase in the PEPP program to go along with the EU’s €750 billion spending program. Meanwhile, the Fed is in their quiet period ahead of the June 10th meeting, so, mercifully, we will not hear from any Fed speakers all week. Obviously, all eyes will be focused on Friday’s employment report in the US, but I sense that the ECB is really this week’s biggest event. Until then, the momentum certainly seems to be in favor of more risk, and accordingly, a softer dollar this week.

Good luck and stay safe
Adf

Fear’s Stranglehold

All week the poor dollar’s been sold
As traders break fear’s stranglehold
How far can it fall?
The popular call
Is very, though ‘twill be controlled

Once again the dollar is under pressure this morning, although interestingly, we are not seeing equity market strength. Up til now, this week has proven decidedly risk-on with equity markets rallying, commodity prices performing well, and long dollar positions, established during the past months due to fears of impaired liquidity, getting reduced. After all, there is no need to hold a forex position if you can borrow dollars without paying a huge premium. But this morning, there is a bit of a conundrum in the markets as equity prices are falling around the world, but the dollar is continuing its decline.

The popular risk narrative focuses on increasing tensions between the US and China in the wake of China’s recent passage of a law increasing its control over Hong Kong. That simply adds to the general fears that the constant butting of heads between the two nations could escalate to a more significant confrontation. Certainly, this action by the Chinese is not a risk positive, but there is no evidence that funds are rapidly flowing out of Hong Kong because of the situation. This has been made clear by both the exchange rate, where HKD remains right at the top of its band with the dollar and the Hang Seng, which while down 18% YTD, remains well above the lows seen in the global crash in March, and hardly seems in danger of collapse.

Rather, given that it is month end, it appears far more likely that today’s price action in equities is being driven by portfolio rebalancing. After all, asset allocators are now longer equities relative to debt and so will be selling stocks to put themselves back to their target levels. As to the dollar, it too is likely to be feeling the impact of portfolio rebalancing as money continues to flow out of overweight US equity positions to other geographies.

After all, the rate structure has hardly changed at all this month, with yields having remained quite stable in general. For instance, 10-year Treasury yields had an 11 basis point range all month while the havens in Europe saw a similar lack of volatility. Only the PIGS saw their yields trade more dramatically, and for all of them, it was a straight line higher in prices, with yields falling accordingly, in the wake of the EU announcement of steps toward debt mutualization. With this in mind, one can hardly blame relative rate changes for the dollar’s month-long weakness.

On the economic front, the data has been very consistent around the world as well. It is uniformly awful, but it is also beginning its slow rebound from the nadir reached in late March/early April. As Covid-19 spread around the world, different countries have been impacted at different times, but the pattern everywhere is quite similar. In fact, this is the driving market narrative, that economic activity is set to rebound sharply and that as lockdowns around the world are lifted, all will be back to where it was prior to the spread of Covid. And perhaps this will, in fact, be the case. However, the destruction of economic activity combined with the forced changes in working conditions certainly raises the possibility that the rebound will not be nearly as robust as currently anticipated by markets. In other words, do not rule out another repricing of risk. But despite some lingering fears, the general mood in markets remains positive.

Turning to today’s session, as mentioned, we are seeing red across the board in the equity markets with Asia soft (Nikkei -0.2%), Hang Seng (-0.7%), Europe under pressure (DAX -1.0%, CAC -0.8%, FTSE 100 -0.9%) and US futures also declining (DJIA -0.4%, SPX and NASDAQ -0.3%). Also, given the overall lack of volatility seen all month in the bond market, it should be no surprise that Treasury yields are only modestly changed, down 2bps, with German, French and UK yields similarly lower. Meanwhile, oil prices, which have rallied more than 65% this month, are slightly softer today, down 3% and the price of gold, which has had a choppy month, is adding 0.5% to achieve its MTD gain of 1.5%. (As an aside, the gold story is one of great conviction on both sides as the bulls look at the amount of new money in the system without a corresponding increase in production, actually a significant decline there, and wonder how hard assets cannot increase in value. Meanwhile, the bears point to the absence of demand for goods, looking at things like crashing retail sales and rising savings rates, and see deflation on the horizon and no reason to hold anything other than fixed income in this environment.)

As to the dollar, it is almost uniformly lower this morning, with the entire G10 firmer led by Sweden’s krona, up 1.0%, after the country released a surprisingly positive Q1 GDP growth outcome of +0.1%, far better than the anticipated -0.3%, and helping to maintain positive Y/Y growth. That has clearly energized NOK (+0.7%) as well as EUR (+0.5%). But in reality, a great deal of this activity is dollar weakness, rather than specific country strength.

In the EMG bloc, the dollar is under pressure across the space with only the Turkish lira declining on the day, and that by just 0.2%. On the positive side, the CE4 are leading the way with CZK (+0.8%) and HUF (+0.7%) atop the leaderboard. The other noteworthy mover has been IDR (+0.7%) after comments from the central bank governor, Perry Warjiyo, indicated his belief that the rupiah was undervalued and could appreciate somewhat with no problems to the economy.

On the data front, yesterday saw the first decline in Continuing Claims data since the onset of Covid-19, with a surprisingly low print of 21.0M. Initial Claims continue to slide as well, rising ‘only’ 2.1M last week. GDP data were revised slightly lower, to -5.0% annualized for Q1, although there remains a contest to see whose depiction of Q2, with current forecasts between -20% and -50%, will be closest to the mark. This morning we see Personal Income (exp -6.0%), Personal Spending (-12.8%), Core PCE (1.1%), Chicago PMI (40.0) and Michigan Sentiment (74.0). The April income and spending data will be much worse than the previous print, as that encompasses the worst of the shutdown. But the May data is forecast to rebound from its worst levels, consistent with what we are seeing around the world.

As long as fear is in abeyance, I expect that dollar demand will remain more muted than we had seen during the past several months. The big picture story of a more unified Europe with mutual debt, and my ongoing expectations of negative real interest rates in the US points to further dollar weakness over time. This is not going to be a collapse, but rather a steady grind lower.

Good luck, good weekend and stay safe
Adf

More Than a Molehill

The House passed a stimulus bill
With price tag of more than three trill
Japan’s latest play
Three billion a day
Adds up to more than a molehill

But turning to Europe we find
Their efforts are quite ill-designed
Despite desperate needs
The trouble exceeds
The laws that their treaties enshrined

Apparently, it’s Stimulus Day today, a little-known holiday designed by politicians to announce new fiscal stimulus measures to great fanfare. At least, that’s what it seems like anyway. Last night, Japanese PM Abe announced Japan’s second extra stimulus package in just over a month, this one with a price tag of ¥117 trillion, or roughly $1.1 trillion at today’s exchange rate (which, if you do the math works out to just over $3 billion/day over the course of a year). For an economy with a total GDP of ~$4.9 trillion, that is a huge amount of extra money.

The BOJ has explained that they will not allow JGB yields to rise, which means that they are going to mop up all the issuance and the market (or what’s left of it) clearly believes them as 10-year JGB yields actually fell 1bp last night and are currently trading at -0.006%. It is certainly no imposition for the Japanese government to borrow money from the BOJ as it is essentially a free loan. The impact on the Nikkei was mildly positive, with the index rallying 0.7%, while the yen has edged lower by a mere 0.15% and remains firmly ensconced in its 106-108 range.

And one last thing, Japan lifted its state of emergency, as well, meaning lockdowns continue to dissipate around the world. Of course, the thing about stimulus during the Days of Covid is that it is not designed to boost growth so much as designed to replace activity that was prevented by government lockdowns. Unfortunately, none of the measures announced anywhere in the world will be able to fully offset the impact of all those closures, and so despite governments’ best efforts, the global economy is set to shrink in 2020.

But on this Stimulus Day, we cannot ignore what is likely a far more important piece of news emanating from Europe, the creation of a €750 billion (~$825 billion) fiscal stimulus package consisting of €500 billion of grants and the rest of loans. While the size of this package is dwarfed by the Japanese efforts, despite the fact that the EU represents an economy with GDP of more than €14.3 trillion, the importance stems from the fact that part of the funding will come from joint debt issuance. This, of course, has been the holy grail for the entirety of southern Europe as well as the French. Because this means that the Germans (and Dutch and Austrians) are going to pay for the rest of the continent’s problems. And since those three nations are the only ones that can afford to do so, it is certainly a big deal.

The timing of this cannot be ignored either as ECB President Lagarde, just this morning, informed the world that of the ECB’s GDP forecasts last month, the mild downturn scenario is now “out of date”, with a much greater likelihood that GDP will decline between 8% and 12% in 2020. The market response has been clear with the euro rallying 0.8% on the news and now higher by 0.3% on the day, and back above 1.10. Yields on the debt of the PIGS have also fallen nicely since the news hit the tape, with all four nations seeing a 5-6bp decline. And European equity markets, which seem to have anticipated the news, have climbed a bit further, and are now all higher by more than 1.25% with Spain’s IBEX leading the way, up 2.25%.

I guess the question is will the US Senate join in the festivities (you recall the House already passed a $3 trillion package last week) and agree to at least discuss the idea, although they have made clear the House bill is a non-starter. The thing is, as has been evidenced by the recent stock market performance in the US, there are many that believe no further government stimulus is needed in the US. Optimism in the stock market has been driven by optimism that the gradual reopening of the economy in certain states will start to accelerate and that before too long, the lockdown period will end. Along those lines, Los Angeles mayor, Eric Garcetti, last night decided that small retail stores would be allowed to open today. Similarly, New York mayor Bill DiBlasio has now said that the first steps toward reopening could take place in the second week of June. The point is, if economic activity is going to start to rekindle on its own, why is further stimulus needed.

With this as background, we have seen a pretty substantial reversal in the FX market this morning, mostly since the EU stimulus announcement. While the yen has not moved, the G10 has seen currencies reverse course from a 0.3%-0.5% decline to similar sized gains. In other words, the market has seen this as further evidence that risk is to be acquired at all costs. Certainly, if the EU can figure out how to effectively fund its weakest members without causing a political uproar in the Teutonic trio, then one of the key negative fundamentals for the single currency will have been corrected. This works hand in hand with my view of increasingly negative real interest rates in the US as a driver of medium-term dollar weakness. While I don’t expect the euro to run away higher, this is certainly very positive news.

Meanwhile, those EMG currencies whose markets are open have all reversed course as well, with the CE4 higher by an average of 0.45%, having been lower by a similar amount before the announcement. APAC currencies, which had suffered a bit overnight, have not had a chance to react to the news as their local markets had closed before the report. I expect that, ceteris paribus, they will perform better tonight. The one currency, though, that is not performing well today is the Chinese renminbi, and more specifically CNH, the offshore version. It is lower by -.35%, having fallen early in last night’s session as tensions continue to increase between the US and China. As I have maintained for a very long period, the currency is an important outlet for Chinese economic imbalances and further weakness is a far more likely outcome than a reversal anytime soon.

Yesterday’s housing data in the US was surprisingly robust, with New Home Sales falling far less than expected. Today, the only real release will be the Fed’s Beige Book at 2:00, which might be interesting, but can be expected to paint a very dire picture of the regional economies. But none of that matters anymore. The future is clearly much brighter this morning as the combination of Japanese and EU stimulus along with additional easing of US restrictions has investors primed to use all that stimulus money and pump up asset prices even further. What could possibly go wrong?

Good luck and stay safe
Adf

‘Twas Nothing At All

Does anyone here still recall
When Covid had cast a great pall
On markets and life
While causing much strife?
Me neither, ‘twas nothing at all!

One can only marvel at the way the financial markets have been able to rally on the same story time and again during the past two years. First it was the trade talks. After an initial bout of concern that growing trade tensions between the US and China would derail the global economy led to a decline in global equity market indices, about every other day we heard from President Trump that talks were going very well, that a Phase One deal was imminent and that everything would be great. And despite virtually no movement on the subject for months, those comments were sufficient to drive stock prices higher every time they were made. Of course, we all know that a phase one deal was, in fact, reached and signed, but it occurred a scant week before the outbreak of the novel coronavirus.

What has been truly remarkable is that the market’s reaction to the virus has followed almost the exact same pattern. Once it became clear that Covid-19 was going to be a big deal, causing significant disruption throughout the world, stock prices tumbled in a series of extraordinary sessions in March and early April. But since then, we have seen a powerful rally back to within a few percent of the all-time highs set in February. And these days, every rally is based on the exact same story; to wit, some company [insert name here] is on the cusp of creating a successful Covid vaccine and things will be back to normal soon.

So, as almost all of us continue to work from home, shelter in place and maintain our social distance, investors (gamblers?) have discerned that everything is just fine, and that economic recovery is on the way. And maybe they are right. Maybe history is going to look back on this time and show it was an extremely large disruption, but an extremely short-term one that had almost no long-term impact. But, boy, that seems like a hard picture to paint if you simply look at the data and understand how economies work.

Every day we see data that describes how extraordinary the impact of government lockdown policies has been, with rampant unemployment, virtual halts in manufacturing, complete halts in group entertainment and bankruptcies of erstwhile venerable companies. And every day the global equity markets rally on the prospect of a new vaccine being discovered. I get that markets are forward looking, but they certainly seem blind to the extent of damage already inflicted and what that means for the future. Even if activities went back to exactly the way they were before the outbreak, the fact remains that many businesses are no longer in existence. They could not withstand the complete absence of revenues for an extended period of time, and so have been permanently shuttered. And while new businesses will rise to take their place, that is not an overnight process. It seems thin gruel to rally on the fact that Germany’s IFO Expectations Index rallied from its historically worst print (69.4) to its second worst print (80.1), but slightly higher than expected. Or that the GfK Consumer Confidence managed the same feat (-23.4 to -18.9). Both of these data points are correlated with extremely deep recessions.

And yet, that is the situation in which we find ourselves. The dichotomy between extremely weak economic activity and a strong belief that not only is the worst behind us, but that the damage inflicted has been modest, at best. Today is a perfect example of that situation with risk firmly in the ascendancy after the long holiday weekend.

Equity markets are on fire, rallying sharply in Asia (Nikkei +2.5%, Hang Seng +1.9%, Shanghai +1.0%) despite the fact that there is evidence that a second wave of infections is growing in China and may once again force the government there to shut down large swathes of the economy. Europe, too, is rocking with the FTSE 100 (+1.2%) leading the way although gains seen across the board (DAX +0.6%, CAC +1.1%). And US futures would not dare to be left out of this rally, with all three indices up around 2.0%. Meanwhile, Treasury yields are higher by 3.5 basis points with German bund yields higher by 6bps. Of course, Italy, Portugal and Greece have all seen their yields slide as those bond markets behave far more like risk assets than havens.

I would be remiss to ignore the commodity markets which have seen oil rally a further 2.25% this morning, back to $34/bbl and the highest point since the gap down at the beginning of this process back in early March. Gold, on the other hand, is a bit softer, down 0.3%, but remains firmly above $1700/oz as many investors continue to look at central bank activity and register concern over the future value of any fiat currency.

And then there is the dollar, which has fallen almost across the board overnight, and is substantially lower than where we left it Friday afternoon. In the G10 space, AUD (+1.3%) and NZD (+1.5%) are the leaders on the back of broadly positive risk sentiment helped by a better than expected Trade Surplus in New Zealand along with a larger than expected rebound in the ANZ Consumer Confidence Index, to its second lowest reading in history. But the pound is higher by 1.1% on prospects of an end to the nationwide lockdown in the UK. And in fact, other than the yen, which is unchanged, the rest of the bloc is firmer by 0.5% or more, largely on the positive risk sentiment.

In the emerging markets, the runaway winner is the Mexican peso, up 2.7% since Friday’s close as a combination of higher oil prices, a more hawkish Banxico than expected and growing belief that the US, its major export partner, is reopening has led to a huge short-squeeze in the FX markets. In the past week, the peso has recouped nearly 7% of its losses this year and is now down a mere 14.5% year-to-date. Helping the story is the just released GDP number for Q1, which showed a decline of only -1.2%, better than the initially reported -1.6%. But we are also seeing strength throughout the EMG bloc, with PLN (+1.8%), BRL (+1.6%) and ZAR (+1.2%) all putting in strong performances. Risk sentiment is clearly strong today.

Into this voracious risk appetite, we will see a great deal of data this holiday-shortened week as follows:

Today Case Shiller Home Prices 3.40%
  New Home Sales 480K
  Consumer Confidence 87.0
Wednesday Fed’s Beige Book  
Thursday Initial Claims 2.1M
  Continuing Claims 25.75M
  Q1 GDP -4.8%
  Q1 Personal Consumption -7.5%
  Durable Goods -19.8%
  -ex transport -15.0%
Friday Personal Income -6.5%
  Personal Spending -12.8%
  Core PCE Deflator -0.3% (1.1% Y/Y)
  Chicago PMI 40.0
  Michigan Sentiment 74.0

Source: Bloomberg

In addition to the plethora of data, we hear from six different Fed speakers, including Chairman Powell on Friday morning. On this front, however, the entire FOMC has been consistent, explaining that they will continue to do what they deem necessary, that they have plenty of ammunition left, and that the immediate future of the economy will be awful, but things will improve over time.

In the end, risk is being snapped up like it is going out of style this morning, as both investors and traders continue to look across the abyss. I hope they are right…I fear they are not. But as long as they continue to behave in this manner, the dollar will remain under pressure. It rallied a lot this year, so there is ample room for it to decline further.

Good luck and stay safe
Adf

Patience is Needed

Mnuchin said patience is needed
While Powell said growth must be seeded
As both testified
And each justified
Their views, which both said must be heeded

Two months into the response to Covid-19, differences in policy views between the Fed and the Administration are starting to appear. In Senate testimony yesterday, Treasury Secretary Mnuchin indicated the belief that sufficient fiscal support has been authorized and its implementation is all that is needed, alongside the relaxation of lockdown rules around the country, for the economy to rebound sharply. The Administration’s base case remains a V-shaped recovery, with Q3 and Q4 showing substantial growth after what everyone agrees will be a devastatingly awful Q2 result.

Meanwhile, the Fed, via Chairman Powell, took the view that we remain in a critical period and that further stimulus may well be necessary to prevent permanent long-term damage to the economy. He continued to focus on the idea that until people feel safe with personal interactions, any rebound in the economy will be substandard. Of course, to date, of the $454 billion that Congress authorized for the Treasury to use as seed money underlying Fed lending schemes, less than $75 billion has been utilized. It seems that if Chairman Powell was truly that concerned, he would be ramping up the use of those funds more quickly. While part of the problem is the normal bureaucratic delays that come with implementing any new program, it is also true that the Fed is not well suited to support small businesses and individuals. Programs of that nature tend to require more fiscal than monetary support, at least as currently defined and implemented in today’s world. Remember, the Fed is not able to take losses according to its charter, which is why all the corporate bond buying and main street lending programs are already on shaky legal grounds.

The interesting thing about the dueling testimonies was just how little of an impact they had on market behavior yesterday. In fact, the late day equity market sell-off was almost certainly driven by the concern that yesterday’s media darling, the biotech firm Moderna, Inc., may not actually have a viable vaccine ready this year. Remember, it was the prospect that a vaccine was imminent and so lockdowns could be lifted that was critical in investor minds yesterday. If the vaccine story is no longer on track, it is much harder to justify paying over the top for equities. At any rate, that late day move set the tone for a much more subdued session in both Asia and Europe overnight.

Looking at markets, last night saw a mixed equity picture in Asia (Nikkei +0.8%, Shanghai -0.5%) and a very modest positive light in Europe (DAX +0.6%, CAC 0.0%, FTSE 100 +0.2%). More positively, US futures are pointing higher as I type, with all three indices looking at a 1% gain on the open if things hold. Bond markets are similarly uninspired this morning, with Treasury yields higher by less than 1bp while German bund yields are down by the same. In fact, looking across the European market, half are slightly higher, and half are slightly lower. Again, nothing of interest here.

Commodity markets show that oil continues to rebound sharply, up another 1% this morning and now above $32/bbl for WTI. Remember, it was less than a month ago that the May futures contract settled at -$37/bbl as storage was nowhere to be found. Certainly, any look at commodity markets would indicate that economic growth was making a return. But it sure doesn’t feel like that yet.

Finally, FX markets continue to see the dollar cede some recent gains as fears over USD funding by global counterparts continue to ebb on the back of Fed lending programs. In fact, this is exactly where the Fed can do the most good, helping to ensure that central banks around the world have the ability to access USD liquidity for their local markets.

A tour of the G10 shows that today’s biggest winner is NZD (+0.65%) followed by AUD and CHF, both higher by about 0.4%. The Kiwi dollar was supported by central bank comments about NIRP remaining a distant prospect, at best, with many hurdles to be jumped before it would make sense. Aussie seems to have benefitted from Japanese investment flows into their government bond markets, which are now relatively attractive vs. US Treasuries. Finally, after a short-lived decline yesterday afternoon, apparently driven by some options activity, the Swiss franc is simply returning to its previous levels. The other seven currencies are within a few bps of yesterday’s closing levels with only the background story of the Franco-German détente on EU economic support even getting press in the group.

In the EMG space, ZAR is today’s runaway leader, currently higher by 1.75% as a combination of continued strength in the price of gold and a major technical break have helped the rand. It must be remembered that the rand, even after today’s sharp rally, has been the third worst performing currency over the past three months having fallen more than 16%. This morning, the technicians are all agog as the spot rate traded back through its 50-day moving average, a strong technical signal to buy the currency. While economic prospects continue to be dim overall there and there is no evidence that the rate of infection is slowing, technical algorithms will continue to support the currency for the time being.

Otherwise, it is RUB (+1.1%) and MXN (+0.9%) that are trailing only the rand higher this morning, with both clearly benefitting from the ongoing rebound in oil and, more importantly, in the broad sentiment in the future for oil. Last month it appeared that oil was never going to matter again. That is not so much the case anymore. On the downside today, KRW (-0.4%) is the leading, and only, decliner in the space as the BOK creates a 10 trillion won (~$8 billion) SPV to inaugurate a QE program.

On the data front, yesterday’s housing data was pretty much as expected, with both Starts and Permits falling sharply. Today the only news of note comes at 2:00 when the FOMC Minutes are released. But given how much we have heard from Powell and the rest of the committee, will this really have that big an impact? I would be surprised.

The dollar continues under pressure for the time being and will stay that way as long as USD funding pressures overseas remain in check. While there are no obvious drivers in the near term, I continue to look at the pending change of heart in Europe regarding fiscal support and see an opportunity for a more structural case for dollar weakness over time.

Good luck and stay safe
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