Tag Archives: economy

Things Are Creaking

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Before Mr Trump started speaking
The Chinese explained things are creaking
As growth there is slow
So now they will blow
More funds to achieve what they’re seeking

 

The Chinese government has outlined a very active agenda for 2025 as the current pace of growth in their economy remains sluggish at best.  They continue to focus on a 5% headline GDP target and have promised to increase the budget deficit by a similar amount, so the idea of organic growth seems to be dead.  They reiterated their plan to recapitalize the big banks with CNY 500 billion and are looking to raise defense spending by 7.2%.  Long term debt issuance will increase with CNY 1.3 trillion planned for this year and they talk about adding 12 million urban jobs.  It all sounds fantastic.
 
But will it work?  Of course, there is no way to know yet, but if history is any guide, the mercantilist structure of the Chinese economy remains extremely difficult to overcome and replace with a more consumer-focused economy.  The property market there remains in terrible shape and that continues to be a drag on the overall economy as individuals, who had been encouraged to invest in property as a means of creating a retirement nest egg find themselves with much less disposable income and an illiquid and depreciating asset.
 
President Trump’s tariffs are not going to help them at all, but it is unclear if they will be significantly detrimental.  While I would not bet against China reporting 5% GDP growth in 2025, given the questionable reliability of their data, it is not clear it will be reflective of the state of the nation.
 
My take on market impacts are as follows: Chinese yields will climb as more debt is issued while growth will allegedly increase, Chinese equities should benefit If they are successful at getting things moving, but the yuan will have a harder time in my view, as capital flows to the nation remain stunted.  Of course, much will also depend on the evolution of US policy, which has been erratic, to say the least.

Said Trump, It’s a “new golden age”
As finally, we turn the page
On four years of waste
And so, we’ll make haste
With changes despite Dem outrage

Of course, the other big news was last night’s speech by President Trump to a joint session of Congress where he outlined both the many things he has accomplished in the first 6 weeks of his presidency, but also his plans for the rest of the time.  While many are still reeling from the speed with which changes are being made, there was no indication that his pace is going to slow.

Mr Trump did acknowledge that there may be some short-term pain as the economy adjusts to the changes he has wrought, but he remains focused on the long-term and how to achieve a strong economy with a far better balance sheet and a smaller government.  The implication is that he is still the avatar of volatility, and that aspect will not be changing.

Let us, though, take a step back and look at a much bigger picture.  For the past seventeen years, the US economy was the clear leader in global growth with massive government spending and budget deficits incurred to drive the process.  Meanwhile, while most of the rest of the world exited the pandemic with a burst of reopening growth, they have all lagged the US.  The chart below shows the ratio of the MSCI US index / MSCI World index and demonstrates that investment into the US, following that leading growth profile, has been historic in its effects.

Source: longtermtrends.net

But that situation seems to be changing.  President Trump is openly seeking to reduce the size of the US government and withdraw spending on many foreign adventures while the rest of the world is doing the opposite.  As per the above, China has just announced significant new stimulus.  As well, Europe, now that they need to become more responsible for their own defense, has also announced a major spending plan to rearm themselves.  This is the real sea change, I think, and the one that is going to have the biggest medium and long-term impacts on markets everywhere.  Changes in the level of capital flows and changes in trade patterns are going to significantly impact the value of the dollar as well as stocks, bonds and commodities.  It is a brave new world, so attention must be paid.

In the meantime, let’s see the markets’ initial response to the recent spate of news.  The tariff news has served to undermine US equities for the past two sessions and is still dragging on some markets, but the new spending promises are the new drivers.  So, in Asia, while the Nikkei (+0.2%) managed only a modest rally, the Hang Seng (+2.8%) exploded higher on the Chinese stimulus story although surprisingly, the CSI 300 (+0.5%) did not do nearly as well.  But elsewhere in the region, it was mostly large gains with Korea, India, Taiwan, Indonesia and Thailand all rallying more than 1%.  The laggards were Australia and New Zealand, which seemed to focus on the negatives of tariffs.

In Europe, Germany’s DAX (+3.4%) is the beneficiary of most of the mooted defense spending as not only are there quite a few defense focused firms, but rumors are that the government is going to coopt the auto manufacturers into building defense equipment (shades of WWII).  As well, the rest of the continent is flying (CAC +1.9%, IBEX +1.6%) and even the UK (+0.45%) is benefitting although there is growing concern that the BOE is not going to be aggressively cutting rates to support the economy because of still sticky inflation.  As to US futures, they are bouncing this morning and higher by 0.4% at this hour (7:00).

In the bond market, while Treasury yields rebounded from their recent lows yesterday, gaining 9bps on the day, this morning they are unchanged.  However, a look at European sovereigns tells the story of investors anticipation of a big uptick in new issuance to fund that defense spending.  The picture below is that of German yields, as an example, showing its 20bp rise this morning, but the entire continent has seen yields rise by at least 16bps!

Source: tradingeconomics.com

The market clearly believes the Europeans are going to move forward!

In the commodity markets, oil (-1.6%) remains under pressure as despite the mooted fiscal stimulus, there continues to be more concern over excess supply than newly created demand.  The below chart is quite interesting as a history of long-term price activity in oil with the interpretation that if we are near the supply destruction level, the future for prices is likely to be bullish.  Something to keep in mind. (as an aside, Josh_Young_1 is an excellent follow on X for oil ideas and information.)

As to the metals markets, gold is little changed but copper (+4.7%) has clearly gotten excited over the Chinese stimulus as well as the European defense spending, where copper will be an important piece of the puzzle.

Finally, the dollar is under substantial pressure this morning vs. both G10 and EMG currencies.  Given the yield changes, and my view that 10-year yields have become the FX driver, rather than short-term rates, it should be no surprise that the euro (+0.6%) is rallying to levels not seen since November.  The pound (+0.3%) is following suit, also making 5-month highs.  But the really impressive moves are in the peripheral European currencies with SEK (+1.1%) and PLN (+1.1%) both trading back to levels not seen since September.  On the tariff front, both MXN (+0.25%) and CAD (+0.1%) are lagging the main move but still managing a very modest rally v. the greenback.

In this brave new world, where the US is not the fiscal profligacy leader, but that role is assumed by others, my sense is that the dollar may well have topped for a much longer-term period.  While at the beginning of the year I was confident that the dollar would outperform, the policy changes we have seen since then have altered my views.  While volatility will still be rampant, I believe the broad direction will be a lower dollar going forward.

On the data front, this morning brings ADP Employment (exp 140K) as well as ISM Services (52.6) and Factory Orders (1.6%).  Then we see the EIA oil inventories where a small draw is expected and at 2:00pm, the Fed’s Beige book.  Perhaps the best thing about the changing world order is that central banks are losing some of their market power.  As I wrote yesterday, perhaps US rates are destined to fall as both the president and Chair Powell are keen to see that happen.

At this point, I think the dollar may have seen its highs for quite a while.  Remember, FX trends tend to be very long-term in nature.  For those of you who are payables hedgers, keep that in mind going forward.

Good luck

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Recession in Sight

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There once was a policy view
That tariffs, we all should eschew
But President Trump
Explained on the stump
To this idea, he wouldn’t hew
 
And so, as the clock struck midnight
Trump’s tariffs once more saw the light
Most analysts say
The tariffs will weigh
On growth, with recession in sight

 

By now you are all aware that as of 12:01 EST this morning, 25% tariffs have been imposed on all imports from both Canada and Mexico except energy products, which have seen 10% tariffs imposed.  As well, all Chinese imports have been hit with an additional 10% tariff.  Once again, President Trump has proven to be a man of his word, promising these tariffs during his election campaign and imposing them now.

The mainstream view is that these tariffs are a disaster and will send the economy into a recession.  In fact, the International Chamber of Commerce said a depression was likely.  As well, there is much concern that inflation will rise during the recession, which for Keynesians must be a very difficult concept to grasp given their strongly held belief that a recession will result in declining inflation.

Now remember, I am just a poet, so please take that into account when I offer my views here.  First, we have no idea how things will play out.  The one thing about which I am extremely confident is that there will be numerous behavioral changes by everyone because of these tariffs.  The first question is who will absorb the cost of the tariffs.  Remember, essentially the definition of a recession is that demand is declining.  Will companies be able to pass through the higher costs?  In some instances, they likely will, but in others probably not.  Anecdotally, there was a story in the WSJ that Chipotle will see its costs rise because of the tariff on avocados from Mexico but will not change their prices to account for that.  I’m confident they are not the only company who will absorb those costs.

However, there will certainly be companies that believe they can raise prices and maintain their sales and will try to do that.  My point is each company will evaluate the environment under which they operate and respond in the profit-maximizing manner, but each company’s scenario will be different.

Second, let’s consider the reason that President Trump is such a strong believer in tariffs.  He sees them as the stick to achieve his goals.  I would argue there are two goals in sight.  With Canada and Mexico, he is still unsatisfied with their efforts on the border and with fentanyl smuggling and is very keen to push that to completion.  However, the broader goal is to return manufacturing to America from its decampment overseas, mostly to Southeast Asia, during the past forty years.  And remember, he is seeking to implement a carrot as well, looking to cut corporate taxes to 15% going forward, which would put the US in the lowest quartile of corporate tax rates in the world.  While this morning the headlines are all about the tariffs and their potential destruction, just yesterday, Taiwan Semiconductor announced they would be investing $100 billion to build new fabrication plants in Arizona.  That is exactly the response Trump is seeking.

We all recognize that the world today is very different than it was even two months ago as President Trump has taken an extraordinary number of steps to implement the ideas upon which he was elected.  Interestingly, a large majority of the public remains strongly in his camp with approval ratings for many of his policies well above 60% and as high as 80%.  While markets are clearly unhappy as they have no idea how things will play out, and companies are now faced with far more uncertainty as they attempt to plan for their future, there is no reason to believe this process is going to change anytime soon.  

Keep one other thing in mind, unlike Trump’s first term in office, where he was constantly touting the strength of the stock market as a vote of confidence, this time around he and Treasury Secretary Bessent have been entirely focused on the 10-year yield and getting that rate down.  After a 7bp decline yesterday, he has been successful there. (see chart below) I would be surprised if Trump speaks about the stock market much at all for a while.

Source: tradingeconomics.com

With that in mind, let’s see how markets have been handling the tariff imposition.  After yesterday’s rout in the US, where a higher open morphed into a sharply lower close on the day, we saw red throughout Asia (Nikkei -1.2%, Hang Seng -0.3%, CSI 300 -0.1%) and Europe (DAX -2.1%, CAC -1.2%, IBEX -2.3%).  In fact, it is far harder to find a market that has rallied at all, although US futures at this hour (6:40) are pointing slightly higher.  However, after the sharp declines, an early bounce is not uncommon though not necessarily a harbinger of activity for the day.  All of this makes sense as public companies are likely going to see impacts on their profitability either because of reduced sales or reduced margins, or both, with tariffs now in place.  (Well, private companies are going to feel the same pressures, but there are no markets for them to worry about.). The worry for investors is given the extremely high price multiples that currently exist across so many companies, margin pressures can be problematic for stock prices.  For the near term, it is easy to make the case that equities have further to fall.

In the bond market, after yesterday’s Treasury yield decline, there has been a modest 1bp bounce, although as per the above chart, the trend remains lower.  In Europe, the news just hit the tape that the Eurozone is creating a plan to rearm the continent allowing for European countries to exceed debt restrictions to enable them to borrow and spend the money on this task.  The mooted amount is €800 billion, meaning that markets can expect that much new debt issuance across the continent in the coming months and years.  However, it appears investors are viewing the situation overall and are far more concerned with potential slowing growth than on increased issuance as yields have slipped one or two basis points across all nations in Europe.  Perhaps that is a signal that there is little belief in the likelihood of this new plan coming to fruition.

In the commodity markets, oil (-1.4%) continues its slide as a combination of worries over future growth due to the US tariffs and the OPEC+ announcement that they would start to bring production back online beginning in April (just 138K bbl/day, but the signal is quite clear that more is on the way) has traders unnerved.  Certainly, this is part of what President Trump is seeking, lower oil prices to help keep a lid on inflation, and there is no doubt he has pressured OPEC+ on the issue.  Remember, too, that if gasoline prices fall at the pump, that is a key driver of inflation perceptions for everyone.  As to the metals markets, we are seeing a split this morning with precious (Au +1.0%, Ag +0.65%) rallying on uncertainty and fear while copper (-1.2%) seems to be suffering on recession fears.

Finally, the dollar is lower again this morning with the DXY breaking back below 106 for the first time since early December as a signal of the broad trend.  This is interesting as the textbooks claim that if the US imposes tariffs, the dollar will strengthen, or more accurately other currencies will weaken, to offset those tariffs, and yet this morning CNY (+0.55%) and CAD (+0.45%) are bucking that trend although MXN (-0.2%) is behaving as most would expect.  But the dollar’s weakness is broad based, and my take is given the movement in interest rates, which are suddenly declining far more rapidly than anticipated just a week ago (Fed funds futures are now pricing in 75bps of cuts this year with a 11% probability of a cut in March, up from 2% last week) the dollar bull case is under real pressure.  I have maintained all along that if the Fed reignited their easing policy, the dollar would suffer.  Funnily enough, despite any angst between Chairman Powell (remember him?) and President Trump, they both may see lower rates as their preferred outcome.  In that case, the dollar has further to fall.

There is no hard data set to be released today although we do hear from NY Fed President Williams this afternoon.  This could be the first hint that the Fed’s caution is abating, and further rate cuts are in store.  Of course, with Powell on the calendar for Friday, if there is a change in tone, most market participants will be waiting to hear it from him.

The watchword has shifted from caution to uncertainty.  The tariffs have thrown sand into the gears of the economy and markets.  It remains to be seen how much impact they will have, but for now, fear is rising although the dollar is not following suit.  I think Trump must be happy, but I’m not sure how many in the markets are.

Good luck

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I Am Your Savior

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Investors are showing concern
‘Bout tariffs and Trump, so they spurn
The riskiest stuff
But that’s not enough
To help generate a return
 
Seems most of the holdings in favor
Are no longer risk takers’ flavor
How long before Jay
Will finally say
QE is here, I am your savior

 

Have you bailed out on your risk exposures yet?  Because if not, it certainly seems you are behind the curve!  At least, that’s what it feels like this morning as trepidation underlies every player’s market activity.  Based on the commentary, as well as the Fear & Greed Index, you might think we are in a depression!

Source: cnn.com

But are things really that bad?  I know that the past week has seen a modest drawdown in equity prices, but after all, on February 20th, they reached yet another new all-time high, at least as per the S&P 500.  Since then, as you can see below, the decline has been less than 5%.  And while the market has traded below its 50-day moving average (blue line), a key technical indicator, it remains well above both the 200-day version of the same (purple line) and the longer-term trend line.  My point is it feels like the narrative is overstating the magnitude of the move thus far.

Source: tradingeconomics.com

Is this the beginning of the end?  While you can never rule that out, as major corrections can occur at any time, I have no reason to believe this will be the case.  Much has been made of yesterday’s Initial Claims print at 242K, much higher than forecast as a harbinger of future economic weakness.  However, looking at the past 3 years of weekly data here, while certainly in the upper levels of readings, it is not nearly the only occurrence and not nearly the highest reading.

Source: tradingeconomics.com

One data point does not make a trend and to my eye, looking at this chart, there is no discernible trend in either direction.  Yet part of the narrative evolution is that the DOGE cuts in government jobs, along with all the headline spending cuts, is setting the economy up for much slower growth in the short run.

In fact, this issue goes back to one about which I wrote several days ago here regarding the impact of government spending on actual economic activity.  The current view of economic activity includes government spending.  If President Trump’s goal is to reduce that spending, regardless of the net long-term benefits of such actions, GDP readings are going to decline initially.  Yes, there will be more productive use of capital with less regulation and less government, but that will take some time to become evident.  In the meantime, weaker economic activity is likely to be the outcome.

I have frequently written that there has not been a market clearing event since, arguably, October 1987, when equity markets plunged and erased significant excess and speculation.  Alas, newly minted (at the time) Fed Chair Greenspan stepped in and promised to support markets with ample liquidity the next day which opened the way for far more Fed intervention in markets leading up to Ben Bernanke and the first QE programs in the wake of the GFC in 2009 and every QE version since then.  While the movement so far does not remotely indicate the end of the world, based on the Fed’s history, once equity markets correct about 20%, they tend to become far more active in supporting the markets economy.  Will this time be different?  Given the Fed’s seeming underlying desperation to cut rates to begin with, my take is if the correction reaches 15% – 20%, we will see just that.

To sum things up, risk assets are under pressure on the basis of 1) excessive valuations, 2) the Trump efforts to reduce wasteful spending (which while wasteful is still spending and counted as economic activity), and 3) the idea that Trump’s imposition of tariffs is going to dramatically raise inflation and slow growth further.  Given the mainstream media’s inherent hatred of the president, they will certainly be playing up this theme for as long as they can as they try to force Trump to change tack.  But Trump, and Treasury Secretary Bessent, have been clear that their concern is 10-year bond yields, and getting them to lower levels.  A natural corollary of the current risk-off sentiment is that bond yields tend to decline.   Look at the chart below which shows that since Trump’s inauguration, 10-year yields are down nearly 40bps.  I would argue that Trump and Bessent are perfectly comfortable with the market right now.

Source: tradingeconomics.com

Ok, let’s move on to the overnight activity.  Sticking to the bond theme, while Treasuries, this morning, are unchanged, they did decline all yesterday afternoon and this morning European sovereigns are all lower by -2bps.  As well, JGB yields have also slipped by -3bps as we are seeing risk aversion evident all around the world.  Of course, the problem with all G10 nations (Germany excepted) is that they all have very high debt/GDP ratios and in Europe, especially, this is a problem as they have begun to realize they need to spend a great deal more on defense than they have in the past.  And all that spending is going to be funded by more borrowing.  The tension between additional issuance driving yields higher and risk aversion driving yields lower is going to be the theme of European bond markets for a while.

In the equity world, it is not a pretty picture anywhere in the world.  After yesterday’s US rout, with the NASDAQ (-2.8%) leading the way lower, Asian bourses were all in the red.  Japan (-2.9%), Hong Kong (-3.3%), China (-2.0%), Korea (-3.4%), India (-1.9%)… the list goes on across the entire region with only New Zealand (+0.5%) bucking the trend on some better than expected local earnings and consumer confidence data.  European markets, though, are in a bit better shape as they suffered yesterday and are consolidating those losses this morning with most markets trading +/- 0.3% on the session.  We have seen a lot of European inflation data this morning, most of it lower than forecast which has encouraged the view that the ECB will be cutting rates more aggressively going forward.  US futures, too, are higher at this hour (7:00), on the order of 0.5% as they bounce from yesterday’s, and truly the past week’s, declines.

In the commodity markets, oil (-1.25%) is back under pressure and back under $70/bbl.  The latest fear is that slowing economic activity around the world will reduce demand for the black sticky stuff and drive prices lower still.  Remember this, oil supply is restricted not by geology, but by politics.  As nations determine that cheaper energy is critical to their future, expect to see more effort to produce more oil.  Meanwhile, metals markets are also under pressure with gold (-0.5%) still falling despite its ostensible risk profile.  However, the barbarous relic remains well above $2800/oz and I continue to believe that this correction is just that, and not the reversal of a trend.  Too many things are happening around the world to induce more fear and in that scenario, gold is the oldest store of value around.  The rest of the metals complex is also under pressure with copper (-1.2%) slipping back a bit.  It is important to remember, though, that despite the recent declines, all the major metals are still nicely higher on the month.  

Finally, the dollar is a bit firmer again this morning after a rally yesterday as well.  In classic risk-off fashion, investors flocked to the dollar, arguably to buy Treasuries.  So, we are seeing weakness in NZD (-0.6%), JPY (-0.4%) and CHF (-0.3%) in the G10 and weakness in KRW (-0.5%), ZAR (-0.2%) amongst others in the EMG bloc.  Here the story remains the impacts of Trump’s tariffs and how they will be applied, if they will be applied, as well as a general fear factor which tends to help the dollar.  Consider, too, ideas that the ECB is going to cut rates will not help the single currency.

On the data front, this morning brings Personal Income (exp +0.3%), Personal Spending (0.1%), and the PCE data where Headline (0.3%, 2.5% Y/Y) and Core (0.3%, 2.6% Y/Y) will be the most important data points.  As well, we will see Chicago PMI (40.6) which has been below 50.0 in every month but one since August 2022.  

There is no question that the economic data has been softening lately.  We saw that with the Citi Surprise Index as well as the continuous stream of commentary by the economic bears who point to underlying pieces of data that point in that direction (whether housing or employment indicators and the recent weak PMI data).  

Consider this, an early recession in Trump’s term can be blamed on the Biden administration as well as set things up for future growth, certainly in time for the mid-term elections.  As well, it will likely help reduce the yield on the 10-year, an explicit goal.  This scenario likely means short-term weakness with an eye to longer term growth.  The dollar is likely to benefit early on, at least until the Fed steps in.

Good luck and good weekend

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Eyes Like a Bat

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The new Mr Yen
Is watching for excess moves
With eyes like a bat

 

While every day of this Trump presidency is filled with remarkable activity at the US government level, financial markets are starting to tune out the noise.  Yes, each pronouncement may well be important to some part of the market structure, but the sheer volume of activity is overwhelming investment views.  The result is that while markets are still trading, there seem to be fewer specific drivers of activity.  Consider the fact that tariffs have been on everyone’s mind since Trump’s inauguration, but nobody, yet, has any idea how they will impact the global macro situation.  Are they inflationary?  Will sellers reduce margins?  Will there be a strong backlash by the US consumer?  None of this is known and so trading the commentary is virtually impossible.

With that in mind, it is worth turning our attention this morning to Japan, where the yen (-0.4%) has been steadily climbing in value, although not this morning, since the beginning of the year as you can see from the chart below.

Source: tradingeconomics.com

Amongst G10 currencies, the yen is the top performer thus far year-to-date, rising about 5%.  Arguably, the key driver here has been the ongoing narrative that the BOJ is going to continue to tighten monetary policy while the Fed, as discussed yesterday, is still assumed to be cutting rates later in the year.  

Let’s consider both sides of that equation.  Starting with the Fed, just yesterday Atlanta Fed president Bostic explained to a housing conference, “we need to stay where we are.  We need to be in a restrictive posture.”  Now, I cannot believe the folks at the conference were thrilled with that message as the housing market has been desperate for lower rates amid slowing sales and building activity.  But back to the FX perspective, what if the Fed is not going to cut this year?  It strikes me that will have an impact on the narrative, and by extension, on market pricing.

Meanwhile, Atsushi Mimura, the vice finance minister for international affairs (a position known colloquially to the market as Mr Yen) explained, when asked about the current market narrative regarding the BOJ’s recent comments and their impact on the yen, said, “there is no gap with my view.  Amid high uncertainty, we have to keep watching the impact of any speculative trading on, not only the exchange market, but also financial markets overall.”  

If I were to try to describe the current market narrative on the yen, it would be that further yen strength is likely based on the assumed future narrowing of interest rate differentials between the US and Japan.  That has been reinforced by Ueda-san’s comments that they expect to continue to ‘normalize’ policy rates, i.e. raise them, if the economy continues to perform well and if inflation remains stably at or above their 2% target.  With that in mind, a look at the below chart of Japanese core inflation shows that it has been above 2.0% since April 2022.  That seems pretty stable to me, but then I am just a poet.

Source: tradingecomnomics.com

Adding it all up, I feel far better about the Japanese continuing to slowly tighten monetary policy as they have a solid macro backdrop with inflation clearly too high and looking like it may be trending a bit higher.  However, the other side of the equation is far more suspect, as while the market is pricing in rate cuts this year, recent Fed commentary continues to maintain that the current level of rates is necessary to wring the last drops of inflation out of the economy.

There is a caveat to this, though, and that is the gathering concern that the US economy is getting set to fall off a cliff.  While that may be a bit hyperbolic, I do continue to read pundits who are making the case that the data is starting to slip and if the Fed is not going to be cutting rates, things could get worse.  In fairness to that viewpoint, the Citi Surprise Index is pointing lower and has been declining since the beginning of December, meaning that the data releases in the US have underperformed expectations for the past two months. (see below)

Source: cbonds.com

However, a look at the Atlanta Fed’s GDPNow estimate shows that Q1 is still on track for growth of 2.3%, not gangbusters, but still quite solid and a long way from recession.  I think we will need to see substantially weaker data than we have to date to get the Fed to change their wait-and-see mode, and remember, employment is a lagging indicator, so waiting for that to rise will take even longer.  For now, I think marginal further yen strength is the most likely outcome as we will need a big change in the US to alter current Fed policy.

Ok, let’s see how markets have behaved overnight.  Yesterday saw a reversal of recent US equity performance with the DJIA slipping while the NASDAQ rallied, although neither moved that far.  In Asia, the Nikkei (+0.3%) edged higher as did the CSI 300 (+0.2%) although the Hang Seng (-0.3%) gave back a small portion of yesterday’s outsized gains.  The rest of the region, though, was under more significant pressure with Korea, Taiwan, Indonesia and Thailand all seeing their main indices decline by more than -1.0%.  In Europe, red is the most common color on the screen with one exception, the UK (+0.35%) where there is talk of resurrecting free trade talks between the US and UK.  But otherwise, weakness is the theme amid mediocre secondary data and growing concern over US tariffs.  Finally, US futures are nicely higher this morning after Nvidia’s earnings were quite solid.

In the bond market, Treasury yields (+4bps) have backed up off their recent lows but remain in their recent downtrend.  Traders keep trying to ascertain the impacts of Trump’s policies and whether DOGE will be able to find substantial budget cuts or not with opinions on both sides of the debate widely espoused.  European sovereign yields have edged higher this morning, up 2bps pretty much across the board, arguably responding to the growing recognition that Europe will be issuing far more debt going forward to fund their own defensive needs.  And JGB yields (+4bps) rose after the commentary above.

In the commodity markets, oil (+1.1%) is bouncing after a multi-day decline although it remains below that $70/bbl level.  The latest news is that Trump is reversing his stance on Venezuela as the nation refuses to take back its criminal aliens.  Meanwhile, gold (-1.1%) is in the midst of its first serious correction in the past two months, down a bit more than 2% from its recent highs, and trading quite poorly.  There continue to be questions regarding tariffs and whether gold imports will be subject to them, as well as the ongoing arbitrage story between NY and London markets.  However, the underlying driver of the barbarous relic remains a growing concern over increased riskiness in markets and rising inflation amid the ongoing deglobalization we are observing.

Finally, the dollar is modestly firmer overall vs. its G10 counterparts, with the yen decline the biggest in the bloc.  However, we are seeing EMG currency weakness with most of the major currencies in this bloc lower by -0.3% to -0.5% on the session.  In this case, I think the growing understanding that the Fed is not cutting rates soon, as well as concerns over tariff implementation, is going to keep pressure on this entire group of currencies.

On the data front, we see the weekly Initial (exp 221K) and Continuing (1870K) Claims as well as Durable Goods (2.0%, 0.3% ex Transport) and finally the second look at Q4 GDP (2.3%) along with the Real Consumer Spending piece (4.2%).  Four Fed speakers are on the calendar, Barr, Bostic, Hammack and Harker, but again, as we heard from Mr Bostic above, they seem pretty comfortable watching and waiting for now.

While I continue to believe the yen will grind slowly higher, the rest of the currency world seems likely to have a much tougher time unless we see something like a Mar-a Lago Accord designed to weaken the dollar overall.  Absent that, it is hard to see organic weakness of any magnitude, although that doesn’t mean the dollar will rise.  We could simply chop around on headlines until the next important shift in policy is evident.

Good luck

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As It’s Been Wrote

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Though China would have you believe
Their goals, they are set to achieve
Their banks are in trouble
From their housing bubble
So capital, now, they’ll receive
 
Meanwhile, with Ukraine there’s a deal
For mineral wealth that’s a steal
This will help the peace
If war there does cease
And so, it has broader appeal
 
But really, the thing to denote
Is everything is anecdote
The data don’t matter
Unless it can flatter
The narrative as it’s been wrote

 

Confusion continues to be the watchword in financial markets as it is very difficult to keep up with the constant changes in the narrative and announcements on any number of subjects.  And traders are at a loss to make sense of the situation.  This is evidenced by the breakdown in previously strong correlations between different markets and ostensibly critical data for those markets.  

For example, inflation expectations continue to rise, at least as per the University of Michigan surveys, with last week’s result coming in at 4.3% for one year and 3.5% for 5 years.  And yet, Treasury yields continue to fall in the back end of the curve, with 10-year Treasury yields lower by nearly 15bps since that report was released on Friday.  So, which is it?  Is the data a better reflection of things?  Or is market pricing foretelling the future?

Source: tradingeconomics.com

At the same time, the Fed funds futures market is now pricing in 55bps of cuts this year, up from just 29bps a few weeks ago.  Is this reflective of concerns over economic growth?  And how does this jibe with the rising inflation expectations?  

Source: cmegroup.com

If risk is a concern, why is the price of gold declining?  

Source: cnn.com

My point is right now, at least, many of the relationships that markets and investors have relied upon in the past seem to be broken.  They could revert to form, or perhaps this is a new paradigm.  In fact, that is the point, there is no clear pathway.

Sometimes a better way to view these things is to look at policy actions at the country level as they reflect a government’s major concerns.  I couldn’t help but notice in Bloomberg this morning the story that the Chinese government is going to be injecting at least $55 billion of equity into their large banks.  Now, government capital injections are hardly a sign of a strong industry, regardless of the spin.  This highlights the fact that Chinese banks remain in difficult straits from the ongoing property market woes and so, are clearly not lending to industry in the manner that the government would like to see.  I’m not sure how injecting capital into large banks that lend to SOE’s is helping the consumer in China, which allegedly has been one of their goals, but regardless, actions speak louder than words.  Clearly the Chinese remain concerned over the health of their economy and are doing more things to support it.  As it happens, this helped equity markets there last night with the Hang Seng (+3.3%) ripping higher with mainland shares (+0.9%) following along as well.  Will it last?  Great question.

Another interesting story that seems at odds with what the narrative, or at least quite a few headlines, proclaimed, is that the US and Ukraine have reached a deal for the US to have access to Ukrainian rare earth minerals once the fighting stops.  The terms of this deal are unclear, but despite President Zelensky’s constant protests that he will not partake in peace talks, it appears that this is one of the steps necessary for the US to let him into the conversation.  Now, is peace a benefit for the markets?  Arguably, it is beneficial for lowering inflation as the one thing we know about war is it is inflationary.  If peace is coming soon, how much will that help the Eurozone economy, which remains in the doldrums, and the euro?  Will it lower energy prices as sanctions on Russian oil and gas disappear?  Or will keeping the peace become a huge expense for Europe and not allow them to focus on their domestic issues?

Again, my point is that there are far more things happening that add little clarity to market narratives, and in some cases, result in price action that is not consistent with previous relationships.  With this I return to my preaching that the only thing we can truly anticipate is increased volatility across markets.

With that in mind, let’s consider what happened overnight.  First, US markets had another weak session, with the NASDAQ particularly under pressure.  (I half expect the Fed to put forth an emergency rate cut to support the stock market.)  As to Asian markets, that Chinese news was well received almost everywhere except Japan (Nikkei -0.25%) as most other markets gained on the idea that Chinese stimulus would help their economies.  As such, we saw gains virtually across the board in Asia.  Similarly, European bourses are all feeling terrific this morning with the UK (+0.6%) the laggard and virtually every continental exchange higher by more than 1%.  Apparently, the Ukraine/US mineral rights deal has traders and investors bidding up shares for the peace dividend.  Too, US futures are higher at this hour, about 0.5% or so across the board.

As to bond yields, after a sharp decline in Treasury yields over the past two sessions, this morning, the 10-year is higher by 1bp, consolidating that move.  Meanwhile, European sovereign yields are all slipping between -2bps and -4bps as the peace dividend gets priced in there as well.  While European governments may be miffed they have not been part of the peace talks, clearly investors are happy.  Also, JGB yields, which didn’t move overnight, need to be noted as having fallen nearly 10bps in the past week as the narrative of ever tighter BOJ policy starts to slip a bit.  While the yen has held its own, and USDJPY remains just below 150, it appears that for now, the market is taking a respite.

In the commodity markets, oil (-0.25% today, -2.0% yesterday) has convincingly broken below the $70/bbl level as this market clearly expects more Russian oil to freely be available.  OPEC+ had discussed reducing their cuts in H2 this year, but if the price of oil continues to slide, I expect that will be changed as well.  Certainly, declining oil prices will be a driver for lower inflation, arguably one of the reasons that Treasury yields are falling.  So, some things still make some sense.  As to the metals markets, gold (-0.2%) still has a hangover from yesterday’s sharp sell-off, although there have been myriad reasons put forth for that movement.  Less global risk with Ukraine peace or falling inflation on the back of oil prices or suddenly less concern over the status of the gold in Ft Knox, pick your poison.  Silver is little changed this morning but copper, which had been following gold closely, has jumped 2.7% this morning after President Trump turned his attention to the red metal for tariff treatment.

Finally, the dollar is firmer this morning, recouping most of yesterday’s losses.  G10 currencies are lower by between -0.1% (GBP) and -0.5% (AUD) with the entire bloc under pressure.  In the EMG space, only CLP (+0.45%) is managing any strength based on its tight correlation to the copper price.  But otherwise, most of these currencies have slipped in the -0.1% to -0.3% range.

On the data front, New Home Sales (exp 680K) is the only hard data although we do see the EIA oil inventory numbers with a small build expected.  Richmond Fed president Barkin speaks again, but as we have seen lately, the Fed’s comments have ceased to be market moving.  President Trump’s policy announcements are clearly the primary market mover these days.

Quite frankly, it is very difficult to observe the ongoing situation and have a strong market view in either direction.  There are too many variables or perhaps, as Donald Rumsfeld once explained, too many unknown unknowns.  Who can say what Trump’s next target will be and how that will impact any particular market.  In fact, this points back to my strong support for consistent hedging programs to help reduce volatility in one’s financial reporting.

Good luck

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Confusion

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Confusion continues to reign
O’er markets though pundits will feign
That they understand
The movements at hand
Despite a quite rocky terrain
 
The speed with which Trump changes views
Can even, the algos, confuse
The pluses, I think
Are traders must shrink
Positions, elsewise pay high dues

 

For the longest time I believed that the algos were going to usurp all trading activity as their ability to respond to news was so much faster than any human.  Certainly, this has been the key to success for major trading firms like Citadel and Virtu Financial.  And they have been very successful.  I think part of their success has been that we have been in an environment where both implied and actual volatility has declined in a secular manner, so not only could they respond quickly, but they could lever up their positions with impunity as the probability of a large reversal was relatively less.

However, I believe that the algos and their owners may have met their match in Donald Trump.  Never before has someone been so powerful and yet so chaotic in his approach to very important things.  Many pundits complain that even he doesn’t have a plan when he announces a new policy.  But I think that’s his secret, keep everyone else off balance and then he has free reign.  Chaos is the goal.

The market impact of this is that basically, for the past three months since shortly after his election, the major asset classes of stocks, bonds and the dollar, have chopped around a lot, but not moved anywhere at all.  How can they as nobody seems willing to believe that the end game he has explained; reduced deficits, reduced trade balance, lower inflation and a strong military presence throughout the Western Hemisphere, is going to result from his actions.  And in fairness, some of the actions do have a random quality to them.  But if we have learned nothing from President Trump’s time in office, including his first term, it is that he is very willing to tell us what he is going to do.  It just seems that most folks don’t believe he can do it so don’t take it seriously.

So, let’s look at how markets have behaved in the past three months.  The noteworthy result is that the net movement over that period has been virtually nil.  Look at the charts below from tradingeconomics.com:

S&P 500

10-Year Treasury

EUR/USD

While all these markets have moved higher and lower in the intervening period, they have not gone anywhere at all.  The biggest mover over this time is the euro, which has rallied 0.54% with the other major markets showing far less movement than that.

One interesting phenomenon of this price action is that despite significant uncertainty over policy actions by the President and the implications they may have on markets, and even though recent price action can best be described as choppy rather than trend like, the VIX Index remains in the lowest quartile of its long-term range. Certainly, it has risen slightly over the past few weeks, but to my eye, it looks like it is underpricing the chaos yet to come.  

Source Bloomberg.com

While I have no clearer idea how things will unfold than anyone else, other than I have a certain amount of faith that the President will achieve many of his goals in one way or another, I am definitely of the belief that volatility is going to be the coin of the realm for quite a while going forward.  We have spent the past many years with numerous strategies created to enhance returns via selling volatility, either shorting options or levering up, and that is the trend that seems likely to change going forward.  The implication for hedgers is that maintaining hedge ratios while having a plan in place is going to be more important than any time in the past decade or more.

Ok, let’s take a look at how markets did move overnight.  Yesterday’s net negative session in the US was followed by similar price action in Asia.  Tokyo (-1.4%), Hong Kong (-1.35) and China (-1.1%) all suffered on stories about tariffs and extra efforts by the Trump administration to tighten up export controls on semiconductors.  It should be no surprise that virtually every index in Asia followed suit with losses between -0.3% (Singapore) and -2.4% (Indonesia) and everywhere in between.  Meanwhile, in Europe, the picture is not as dour as there are a few winners (Spain +0.9% and Italy +0.5%) although the rest of the continent is struggling to break even.  The data point that is receiving the most press is Eurozone Negotiated Wage Growth (+4.12%) which rose less than in Q3 and has encouraged many to believe the ECB will be cutting rates next week.  Interestingly, Joachim Nagel, Bundesbank president was on the tape telling the rest of the ECB to shut up about their expectations of future rate moves as there is still far too much uncertainty and decisions need to be made on a meeting-by-meeting basis.  Apparently, oversharing is a general central bank affliction, not merely a Fed problem.  As to US stocks, at this hour (6:50) they are little changed.

In the bond market, yields continue to slide, at least in the US, with Treasury yields down -6bps this morning and back to levels last seen in December.  Apparently, some investors are beginning to believe Secretary Bessent regarding his goal to drive yields lower.  As well, he has reconfirmed that there will be no major increase in the issuance of long-dated paper for now.  European sovereigns, though, are little changed this morning with only UK gilts (-3bps) showing any movement after the CBI Trades report printed at -23, a bit less bad than expected.

In the commodity markets, oil (-0.15%) is little changed this morning after a very modest rally yesterday.  But the reality here is that oil, like other markets, has been in a trading range rather than trending, although my take is that the longer-term view could be a bit lower.  Gold (-0.35%), though lower this morning, is the one market that has shown a trend since Trump’s election, and truthfully since well before that as you can see in the chart below.

Source: tradingeconomics.com

Finally, the dollar is a touch softer this morning, with both the euro and pound rising 0.3% alongside the CHF (+0.3%) and JPY (+0.2%). Commodity currencies, though, are less robust with very minor losses seen in MXN, ZAR and CLP.  Given the decline in 10-year yields, I am not that surprised at the dollar’s weakness although it is in opposition to the gut reaction that tariffs mean a higher dollar.  This is of interest because yesterday President Trump confirmed that the 25% tariffs on Canada and Mexico were going into effect next week.  As I explained above, it is very difficult to get a sense of short-term price action here although given the clear intent of the president to improve the competitiveness of US exporters, he would certainly like to see the dollar decline further.  

It is very interesting to watch this president reduce the power of the Fed with words and not even have to attack the Chairman like he did in his first term.  It will be very interesting to see how Chair Powell responds to the ongoing machinations.

On the data front, this morning brings only the Case-Shiller Home Price Index (exp +4.4%) and Consumer Confidence (102.5).  We do hear from two Fed speakers, Barr and Barkin, but as I keep explaining, their words matter less each day. (It must be driving them crazy!)

It is hard to get excited about markets here.  There is no directional bias right now and the lack of critical data adds to the lack of information.  As well, given the mercurial nature of President Trump’s activities, we are always one tape bomb away from a complete reversal.  While I don’t see the dollar collapsing, perhaps the next short-term wave is for further dollar weakness.  

Good luck

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Scapegoated

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The people of Germany voted
With Friedrich Merz, at last, promoted
The nation, to lead
Though sure to misread
The sitch, with the Right still scapegoated

 

The result of the German Federal elections was very much as expected, the CDU/CSU won 28.5% of the votes and the largest share while AfD garnered 20.8%, the SPD just 16.4% (it’s worst showing in modern times) and the Greens gaining 11.6%.  A tail of other mostly very left-leaning parties made up the balance.  However, one cannot look at a map of the distribution of votes without noticing that the part of the country that was East Germany prior to the fall of the Berlin Wall, still sees things very differently than the rest of the nation.

Source: Reuters.com

Regardless of the distribution, however, the outcome will result in some sort of coalition government, almost certainly to be a combination of the CDU and SPD.  On the surface, it would seem this left-right coalition will be doomed to failure, and that could well be the case, but because the consensus amongst the ‘right-thinking’ people in politics is that AfD is the devil incarnate, or perhaps more accurately, Hitler incarnate, Herr Merz will not be able to rule with a sure majority of conservative voters.

As with virtually every election, the economy is a top priority of the voters, especially since GDP growth, as measured, has essentially been zero for the past three years as per the below chart, and is mooted to stay there on present policies.

Source: tradingeconomics.com

One of the key issues that is currently under discussion there is the constitutionally enshrined ‘debt-brake’ which prevents the German government from running deficits of greater than 0.35% of GDP in any fiscal year.  In order to change the constitution, there needs to be a 2/3’s approval in the Bundestag, but AfD holds a blocking minority and one of their policy platforms has been fiscal prudence.

Arguably, this begs a larger question, what exactly constitutes economic growth?  For instance, if government debt is rising more quickly than economic output, is that actually a growing economy?  And is that process sustainable going forward?  It is quite interesting to look at the government debt dynamics of different nations and ask that question, especially since Germany’s situation really stands out.  

Perhaps, after looking at this group of charts, it is worth reevaluating exactly how much actual growth has been occurring and how much economic activity has simply been government borrowing recycled into the economy across all these nations.  Of course, this process has not been restricted to G-7 nations, it is a global phenomenon, with China doing exactly the same thing as are virtually all nations.  In fact, Germany is unique amongst large nations for bucking the trend.

The reason this issue matters is there is a limit to how far a government can increase its leverage ratio.  At some point, investors will stop buying debt which will force the central bank to buy the debt.  Of course, they will do so by printing more money and devaluing the currency.  We know this because we have seen it happen before many times throughout history with Germany’s Weimar Republic in 1923, Argentina in the 1980’s and Zimbabwe in 2007-2008 as just the most recent examples.  In fact, the reason the Germans have the debt brake is that there is a national memory of that hyperinflation from a century ago.

Circling back to the growth question, what is it that constitutes economic growth?  If you remember your college macroeconomics classes, this is the equation that is used to calculate economic activity in an economy:

            Y = C + I + G + NX

Where:

Y = GDP

C = Consumption

I = Investment

G = Government spending

NX = Net Exports

This equation is taken as gospel in the economics and political worlds.  However, it is not often recalled that it was created in the 1930’s by John Maynard Keynes.  It is not a law of nature, but merely was Keynes’ way of expressing something that had not been effectively measured previously.  Nearly 100 years later, though, perhaps it is time to reevaluate the process.  Remember, economies grew prior to Keynes creating this equation when government activity was a much smaller proportion of the economy.  But as we can see by the dramatic rise in government debt, that is no longer the case.  Perhaps Germany is a peek behind the GDP curtain that shows absent constantly increasing government borrowing, economic growth is stagnant.  Neil Howe’s Fourth Turning could well be the conclusion of this period of government excess, where things will be extremely volatile during the change, but less government will be the norm on the other side, at least for a few generations!

Ok, sorry for the history and theoretical discussion, but that chart of German government debt vs. the rest of the world was really eye-opening.  Let’s turn to markets from the overnight session.

After Friday’s sharp downward movement in the US, the picture in Asia was far more mixed.  Japan (+0.25%) managed a small gain while Hong Kong (-0.6%) and China (-0.2%) both lagged.  Elsewhere in the region, New Zealand (-1.8%) stood out for its weakness, although Korea, India and Taiwan were all softer in the session as well.  Ironically, it seems that better than expected Retail Sales data in NZ hurt sentiment for further policy ease by the RBNZ and concerns over trade with China given US pronouncements is also hurting the situation there, at least for today.

In Europe, Germany’s DAX (+0.9%) is leading the way higher after IfO Expectation data was released a touch better than forecast at 85.4.  However, it is important to remember that while this was a positive outcome, the average reading prior to Covid was between 95 and 103.  As to the rest of Europe, there are more gainers than laggards but little of real note absent any other data.  US futures at this hour (7:00) are pointing higher by at least 0.5% across the board.

In the bond market, Friday saw a very sharp decline in yields, -10bps in Treasuries, after weak readings in the Flash PMI data, especially services at 49.7, Existing Home Sales and Michigan sentiment.  That helped bring global yields lower.  This morning, Treasuries have bounced just 1bp and we are seeing similar rises in most of Europe.  JGB yields are also unchanged and have continued to consolidate near recent highs.

In the commodity markets, after a sharp sell-off on Friday on the back of stories about increased supply from Kurdistan, oil (0.0%) is unchanged this morning.  Meanwhile gold (+0.5%) is rebounding from its regular Friday sell-off, almost as though there were efforts by some to depress the price at the end of every week.  It will be interesting to see what happens this Friday which is month end as well.  As to silver and copper, they are little changed and dull this morning.

Finally, the dollar is asleep this morning, with very limited movement vs. almost any of its counterparts.  USDJPY remains below 150, but the yen has actually fallen -0.3% on the session, while the biggest movers are in Eastern Europe (CZK +0.8%, HUF +0.4%, PLN +0.35%), perhaps on the back of the German election results offering hope for a more useful German government.  We shall see about that.  Otherwise, nobody is concerned over the dollar right now.

On the data front this week, it is a quiet one with PCE data the highlight on Friday.

TodayChicago Fed Natl Activity0.21
TuesdayCase Shiller Home Prices4.4%
 Consumer Confidence103.0
WednesdayNew Home Sales680K
ThursdayInitial Claims220K
 Continuing Claims1874K
 Q4 GDP (2nd look)2.3%
 Real Consumer Spending4.2%
 Durable Goods2.5%
 -ex Transport0.3%
FridayPersonal Income0.3%
 Personal Spending0.2%
 PCE0.3% (2.5% Y/Y)
 Core PCE0.3% (2.6% Y/Y)
 Chicago PMI41.5

Source: tradingeconomics.com

In addition to the data, we also hear from seven Fed speakers over 9 venues, but again, are they really going to change the cautious approach at this stage?  And does it even matter?  For now, financial markets are far more focused on President Trump and his cabinet’s activities than interest rate policy which seems set to remain in place for a while.

When it comes to the dollar, nothing has changed my perspective on relative interest rates in the front end, with US rates likely to be far stickier at current levels than others, but the back end has a potentially different outcome.  Recall that Bessent and Trump are focused on the 10-year yield and getting that lower and seem far less concerned over the Fed for now.  To achieve that they will need to demonstrate the ability to reduce spending and the deficit situation.  While a promising start has been seen with DOGE, we are still a long way from a balanced budget.  My take is the dollar, writ large, is going to take its cues from the 10-year yield for now, so bonds are the market to watch.  If we see yields head back toward 4.0%, the dollar will decline and any significant move higher in yields will likely see the dollar climb as well.

Good luck

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Japanese Tao

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Japanese prices
Are rising ever higher
Probably nothing!
 
Meanwhile Ueda
Explained QE can still be
The Japanese Tao

 

Japanese inflation data was released last night, and the picture was not very pretty.  In fact, let me show you.  The first chart shows the monthly readings of annual inflation for the past 5 years.  Last night’s 4.0% reading was not the highest in that period, (that distinction belongs to Feb 2023 at 4.3%), but it is pretty clear that any sense of declining inflation is beginning to dissipate and has been doing so for the past year.  PS, remember, Japanese interest rates range from 0.5% in the overnight to 1.425% in the 10-year, so real rates remain highly negative regardless of your timeframe.

The second picture takes a longer-term perspective to help us better understand the long history of inflation in Japan.  While a decade ago, inflation showed an uptick of nearly the recent magnitude, that was driven specifically by the government raising the GST (goods and services tax) which was Japan’s answer to a VAT.  It was highly controversial at the time but was also understood to have a truly transitory impact as it was a one-off rise in prices.  However, beyond that period, the Japanese have been living with inflation somewhere between -2.2% in the wake of the GFC and 2.0% since the turn of the century.  In fact, going back to the 1990’s, inflation didn’t reach current levels, and one must head back to 1981 to see significant inflation in Japan.  This means there are two generations of people who have basically never seen prices rise in the current manner.

So, what do you think the central bank is considering?  Let me give you Ueda-san’s own words, [emphasis added] “In exceptional cases where long-term interest rates rise sharply in a way somewhat different from normal movements, we will flexibly increase purchases of government bonds to promote stable formation of interest rates in the market.”  You read that correctly inflation is rising sharply, JGB yields are rising in sync and the BOJ’s response is to BUY MORE BONDS!!!  You cannot make this stuff up.  I guess old habits die hard.

The market response to this was as you might expect.  JGB yields dipped 2bps, Japanese equities managed a modest rally (+0.3%) as they seem caught between lower rates and higher inflation, and the yen ( -0.5%) weakened.  In essence, it appears the combination of a strengthening yen and rising interest rates has the potential to wreck the Japanese government’s budget, and the BOJ went back to form and discussed more QE as a response.  This is simply more proof that there isn’t a central bank in the world that truly cares about inflation.  While stable inflation may be a mandate, it is the last of their concerns.

Inflation is, however, not the last of our concerns, at least as we try to live day to day.  This is what has me concerned about Chairman Powell and his minions at the Fed, they continue to believe that the current interest rate structure is restrictive and despite the fact there is virtually no evidence prices are ever going to get back to their target of 2.0%, let alone true stability, still see cuts as the way forward.  Perhaps I am mistaken to believe that the Fed will see the light and maintain current policy levels or even tighten as inflation rebounds.  If that is the case, my entire dollar thesis is going to come under a lot of pressure!

Ok, away from the Japanese antics overnight, a brief word about China.  Last night, Premier Li Qiang explained that China will look to “vigorously” improve the services sector of the economy, specifically education, health care, culture and sports, as they once again try to adjust the balance of economic activity to a more domestic focus rather than their historical mercantilist process.  Earlier this week the PBOC reiterated their support for the property market, although for both these efforts, this is not the first time they have been discussed, and the evidence thus far is all their efforts have been fruitless.  But for one day, at least, these comments have been embraced as the Hang Seng (+4.0%) and CSI 300 (+1.3%) both rallied sharply on the news of more domestic support for the Chinese economy.  The Chinese are set to hold a key economic confab as they try to plan how to shake things up a bit, and these comments, as well as a seeming promise the PBOC is going to cut rates again, are all of a piece.  Maybe they will be successful this time, but I am not holding my breath.

Otherwise, the only other noteworthy economic news came from the Flash PMI’s across Europe which were soggy at best, certainly not indicative of significant growth coming soon.  With that in mind, let’s look at the rest of the markets’ overnight performance.  The rest of Asia’s equity markets were mixed with Taiwan’s the best performer and several modest declines elsewhere including India, Australia and New Zealand.  In Europe, though, despite those modest PMI outcomes, most markets are higher led by the CAC (+0.5%).  Perhaps, the view is the ongoing weakness will force the ECB to cut rates more quickly, and we have heard several ECB members indicate further cuts are coming.  However, counter to that, Isabel Schnabel, one of the more hawkish members, mentioned this morning that she believed they were already at neutral, and more cuts may not be necessary.  While that is not the consensus view yet, it is worth remembering.  As to the US futures market, at this hour (7:00), all three major indices are basically unchanged.

In the bond market, yields have fallen across the board with Treasuries, after sliding yesterday, down another 2bps this morning and back below 4.50% for the first time in a week.  In a Bloomberg interview yesterday, Secretary Bessent explained that although his goal is to reduce the issuance of T-bills and term out debt, given the situation which he inherited from the previous administration, that process will take longer than some had considered previously.  In other words, there won’t be a large increase in 10-year issuance any time soon. European sovereign yields are also much softer, down between -3bps and -5bps on those further rate cut hopes, or perhaps the lackluster PMI data.

In the commodity markets, oil (-0.8%) is backing off its recent rally highs, but remains quiet overall and well within its ever-tightening trading range.  It seems traders don’t know how to handicap the constant discussions from the Trump administration and whether Russian sanctions will end or not, as well as how quickly OPEC may ramp up production and what is happening to demand.  While none of these things are ever certain, right now they seem particularly fraught.  In the metals space, gold (-0.4%) is backing off from yesterday’s latest all-time highs, and taking both silver and copper with it, but the uptrend in all three of these metals remains quite strong.

Finally, the dollar is higher this morning gaining ground against all its G10 counterparts with the yen being the worst performer, but also against all its EMG counterparts with HUF (-1.0%) the true laggard although the entire CE4 are under pressure, arguably responding to the mayhem over how the Ukraine situation plays out.  After all, they are the closest in proximity and likely to be the most impacted.

On the data front, this morning brings Flash PMI data (exp manufacturing 51.5. Services 53.0), Existing Home Sales 4.12M) and Michigan Sentiment (67.8).  We also hear from two more Fed speakers, Jefferson and Daly, but again, caution and stasis are the story until further notice, and that notice is not coming from Mary Daly but rather from Jay Powell.

Perhaps the most interesting thing happening right now is that although tariffs remain a major economic force and are clearly on the table, they are not even the 4th most important topic in the market.  Back to my earlier comments, I sincerely hope that the BOJ’s overwhelming dovish stance is not a harbinger of things to come here in the States.  Right now, I don’t think so, but I am far less confident than I was earlier this week.

Good luck and good weekend

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Positioned Quite Well

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The Fed is positioned quite well
To leave rates alone for a spell
Employment is stable
Which means they are able
To try, high inflation, to quell

 

“In discussing the outlook for monetary policy, participants observed that the Committee was well positioned to take time to assess the evolving outlook for economic activity, the labor market, and inflation, with the vast majority pointing to a still-restrictive policy stance. Participants indicated that, provided the economy remained near maximum employment, they would want to see further progress on inflation before making additional adjustments to the target range for the federal funds rate.”

I would say that this paragraph effectively summarizes the Fed’s views during the January FOMC meeting and based on the comments we have heard since, nothing has really changed much.  If anything, there appeared to be more concern over the upside risks to inflation than worries over a much weaker employment picture.  As well, there was some discussion regarding the potential of tariffs impacting prices and economic activity, although they would never be so crass as to actually use the word.

I would argue we don’t know anything more about their views now than we did prior to the Minutes.  Interestingly, they continue to believe that the current policy rate is restrictive even though Unemployment has been sliding, inflation is sticky on the high side and equity and other financial markets continue to make record highs.  Personally, I would have thought the appropriate view would be policy is slightly easy, but then I’m no PhD economist, just a poet.  If we learned anything it is that they are not about to change the way they view the world.  This merely tells me they have the opportunity to double down on previous mistakes.

It’s almost as if
Japanese markets now see
Future yen glory

Meanwhile, away from the machinations and procrastinations of the Fed, if we turn East, we can see that last night the yen, for a brief moment, traded through the key 150 psychological level, although it has since edged back higher.  This is the strongest the yen has been in more than two months and, in a way, is somewhat surprising given the strong belief that tariffs imposed against a nation will result in that nation’s currency declining.  But that is not the case right now, where despite mooted tariffs on steel, autos and semiconductors, three things the Japanese export to the US, the yen is climbing again.  

Source: tradingeconomics.com

One of the interesting things about the interest rate market’s response to the FOMC Minutes is that there continues to be an expectation of 39bps of rate cuts this year in the US.  But then, I read the Minutes as somewhat hawkish, obviously a misconception right now.  Meanwhile, in Tokyo, we continue to hear comments from former BOJ members that further rate hikes are coming and the futures market there is pricing 36bps of rate hikes by the end of this year.  So, for now, the direction of travel is diametrically opposed between the Fed and the BOJ.  Last night also saw JGB yields edge higher by another 1bp, to 1.43% and another new high level for this move.  Add it all up and the rate movements are sufficient to be the current FX drivers.

Now, as per my opening discussion regarding the Fed, while I believe that the next move should be a hike, and that gained support from a WSJ article this morning telling us to expect higher rent prices ahead which implies that the shelter portion of US inflation is not going to decline anytime soon, perhaps this is another reason to consider that the dollar may decline.  After all, the textbooks all explain that a high inflation economy results in a weaker currency.  If the Fed is truly going to continue to try to ‘normalize’ rates lower despite rising inflation, that will change my broad view of the dollar, and I suspect it will weaken dramatically.  While the yen is the first place to watch this given the opposing actions by the Fed and BOJ, it could easily spread.

Too, it is important to remember that while we have lately become accustomed to the yen trading in the 140-160 range vs. the dollar, for many years USDJPY traded between 100 and 120 as per the below chart.  While the world has certainly changed, it doesn’t mean that we cannot head back to those levels and spend another decade at 110 give or take a bit.

Source: tradingeconomics.com

Ok, with that in mind, let’s take a look at how markets have handled the new information.  Clearly US equity markets are not concerned about a Fed volte-face as they closed at yet new record highs yesterday, albeit with very modest gains of about 0.2%.  Asian markets, however, were not so sanguine with red the dominant color as the Nikkei (-1.25%) suffered amid that strengthening yen while both the Hang Seng (-1.6%) and mainland (CSI 300 -0.3%) fell despite PBOC promises of more support for the economy and the property market.  If I’m not mistaken, this is the third time the PBOC has said they will be increasing support for property markets and prices there continue to decline.  In fact, every major index in Asia fell overnight, mostly impacted by tariff fears.

Meanwhile, European bourses are all modestly firmer save the UK (-0.4%) as we see a rebound after yesterday’s declines and earnings data from Europe continues to show decent outcomes.  While there is much talk and angst over the Ukraine situation and tariffs, right now given the uncertainty of the timing of any tariffs, as well as the possibility that they may be delayed further or deals may be struck, investors seem to be laying low.  Remember, though, that European equity markets have been outperforming US markets for the past several months, although that could well be because their valuations had become so cheap, we are seeing a rotation into them for now.  As to the US markets, futures are pointing slightly lower at this hour (7:15) down about -0.25%.

In the bond market, yesterday saw Treasury yields cede their early gains and slip 2bps on the session and this morning they have fallen a further 2bps.  Meanwhile, European sovereign yields, after jumping yesterday across the board, are falling back slightly with declines on the order of -1bp or -2bps.

In the commodity market, the one constant is that the price of gold (+0.4%) continues to climb.  Whether it is because of growing global uncertainty, concerns over rising inflation, or technical questions regarding deliveries in NY, it is not clear.  Price action is not volatile, rather it has been a steady climb for more than a year.  just look at the chart below.

Source: tradingeconomics.com

As to the other metals, both silver and copper are also continuing their climb and higher by 1.0% this morning.  Oil (+0.2%) is also edging higher which seems a bit odd given the fundamental news I keep reading.  First, OPEC+ is going to begin increasing production later this year, second, the prospects of a peace deal with Russia seems likely to result in Russian oil coming back on the market sans sanctions, and third, despite talk of Chinese economic stimulus, demand from the Middle Kingdom has not been growing.  Add to this the fact that supply is expected to grow by upwards of 1mm bpd from Guyana, Brazil and Canada, and it seems a recipe for falling prices.  Just goes to show that markets are perverse.

Finally, the dollar is under pressure across the board this morning with the yen (+0.95%) leading the way but commodity currencies (AUD +0.5%, NZD +0.5%, ZAR +0.4%) also showing strength.  In fact, virtually every currency has strengthened vs. the greenback this morning.  Looking at the charts, there is a strong similarity across almost all currencies vs. the dollar and that is the dollar put in a peak back in early January and has been gradually declining since then.  This is true across disparate currencies as seen below and may well represent the market deciding that President Trump would like to see the dollar decline and will enact policies to achieve that end.  (I used USDDKK as a proxy for EURUSD since the two are linked quite closely with a correlation of about 0.99.)

Source: tradingeconomics.com 

As I wrote above, my strong dollar thesis is based on the Fed continuing to fight inflation.  If they abandon that fight, then the dollar will certainly decline!

On the data front, this morning brings Initial (exp 215K) and Continuing (1870K) Claims as well as the Philly Fed (20.0).  In addition to the Minutes yesterday we saw Housing Starts tumble although Permits were solid.  However, there is clearly some concern over the housing market writ large, with fewer first-time buyers able to afford a new home, hence the rent story above.  We have 3 more Fed speakers today but again, I ask, are they going to change their tune?  I don’t think so.  I find it hard to believe that the Fed will allow inflation to rebound sharply, but if they remain focused on rate cuts while inflation continues to creep higher, I fear that will be the outcome.  And that, as I said above, will be a large dollar negative.  We shall see.

Good luck

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Hard to Kill

Posted on by

Inflation just won’t go away
As evidenced by the UK
This year started out
Removing all doubt
The Old Lady’s work’s gone astray
 
And elsewhere, the problem is still
Inflation is quite hard to kill
Though central banks want
More rate cuts to flaunt
Those goals are quite hard to fulfill

 

While most eyes remain on President Trump with his ongoing efforts to reduce the size of the US government, as well as his tariff discussions and efforts to negotiate a lasting peace in Ukraine, we cannot ignore the other things that go on around the world.  One of the big issues, which has almost universally been acclaimed a problem, is that inflation is higher than most of the world had become accustomed to pre-Covid.  As well, the virtual universal central bank goal remains the local inflation rate, however calculated, to be at 2.0%.  Alas for the central bankers in their seats today, that remains quite a difficult reach.  A quick look at the most recent headline CPI readings across the G20 shows that only 5 nations (counting the Eurozone as a bloc since they have only one monetary policy) are at or below that magic level as per the below table.

Source: tradingeconomics.com

Of those nations who are below, two, China and Switzerland, are actually quite concerned about the lack of price pressure and seeking to raise the inflation rate, and the other three (Canada, Singapore and Saudi Arabia) are right on the number, with core inflation readings tending higher than the headline reported here.

Perhaps a better way to highlight the problem is to look at the 10-year bonds of most countries and see how they have been behaving of late as an indication of whether investors are comfortable with the inflation fighting efforts by each nation.  While it is not universal, you can look at the column on the far right of the below table and see that 10-year yields have been rising for the past year.

Source: tradingeconomics.com

I only bring this up because, despite the fact that I have been downplaying central bank, especially the Fed’s, impact on markets, ultimately, every nation tasks their central bank to manage inflation.  That seems reasonable since inflation, as Milton Friedman explained to us in 1963, is “always and everywhere a monetary phenomenon.”  But perhaps you don’t believe that and are schooled in the idea that faster growth leads to higher wages and therefore higher inflation.  Certainly, Paul Samuelson’s iconic textbook (as an aside, Dr Samuelson was my Economics 101 professor in college) made clear that was the pathway.  Alas, as my good friend, @inflation_guy Mike Ashton, wrote yesterday, there is no evidence that is the case.  Read the article, it is well worth it and can help you start looking elsewhere for causes of inflation, like perhaps the growth in the money supply!

Of course, the reason that we continue to come back to inflation in our discussions is because it is critical to the outcomes in financial markets.  And that is our true focus.  It is the reason there is so much discussion regarding President Trump’s mooted tariffs and how inflationary they will be.  It is the reason that parties out of power continue to highlight any prices that have risen substantially in an effort to disparage the parties in power.  And it is the reason that central banks remain central to the plot of all financial markets, at least based on the current configuration of the global economy.  If there was only one financial lesson from the pandemic response, it is that Magical Money Tree Modern Monetary Theory is a failed concept of how to run policy.  This poet’s fervent hope is that Treasury Secretary Bessent is smart enough to understand that and will address fiscal issues in other manners.  I believe that to be the case.

Back to the UK, where CPI printed at 3.0%, 2 ticks higher than the median forecast, while core CPI printed at 3.7%.  This cannot be comforting for the BOE as most of the MPC remain committed to helping PM Starmer’s government find growth somehow and are keen to cut rates in support.  The problem they have is that inflation will not fade despite extremely lackluster GDP growth.  Recall, last week, even though the Q/Q GDP print of 0.1% beat forecasts, it was still just 0.1%.  Not falling into recession hardly seems a resounding victory for policy in the UK, especially since stagnation, or is it now stagflation, is the end result.  It should be no surprise that market participants have sold off the pound (-0.3%), Gilts (+5bps) and UK equities (-0.4%) and it is hard to find a positive way to spin any of this.  Again, while I have adjusted my views on Japan, the UK falls squarely in the camp of in trouble and likely to see a weaker currency.

Ok, let’s look elsewhere to see how things behaved overnight.  After a very modest rise in US equity indices yesterday, the Asian markets were mixed with the Nikkei (-0.3%) and Hang Seng (-0.15%) slacking off a bit although the CSI 300 (+0.7%) managed to find buyers after President Xi met with business leaders and the expectation is for further government stimulus, as well as a reduction in regulations, to help support the economy.  Australia (-0.7%) is still under pressure despite yesterday’s RBA rate cut as the post-meeting statement was quite hawkish, indicating caution is their approach for now given still sticky inflation.  (Where have we heard that before?)

In Europe, the only color on the screen is red with declines of between -0.4% and -0.9% as investors seem to be taking some profits after a solid run in most of these markets.  I guess the fact that European governments have been shown to be powerless in the world has not helped investor sentiment either as it appears these nations may be subject to more outside forces than they will be able to address adequately.  Lastly, US futures are unchanged at this hour (7:40).

In the bond market, as per the table above, yields are higher across the board with Treasuries (+2bps) the best performer as virtually all European sovereign issues have seen yields rise between 5bps and 7bps.  It simply appears that confidence in the Eurozone is slipping and demand for Eurozone assets is falling alongside that.

In the commodity markets, it should be no surprise that gold (+0.1%) continues to edge higher.  The barbarous relic continues to find price support despite the fact that interest in gold, at least in Western economies, remains lackluster at best.  There is much discussion now about an audit of the US’s gold reserves at Fort Knox and in the NY Fed, something that has not been performed since 1953.  Not surprisingly, there are rumors that there is much less gold in storage than officially claimed (a little over 8 tons) and rumors that there is much more which has not been reported but was obtained via seizures throughout history.  This story has legs as despite the lack of institutional interest in the US, it is picking up a retail following and we are seeing the punditry increasingly raise their price forecasts for the coming years.  As to oil (+0.8%) it is higher again this morning but remains in a tight trading range with market technicians looking at the $70/bbl level as a key support to hold.  A break there could well see a quick $5/bbl decline.

Finally, the dollar is modestly firmer this morning against most of its counterparts with most G10 currencies showing declines similar to the pound’s -0.2%, although the yen (+0.15%) is bucking that trend.  However, versus its EMG counterparts, the dollar is having a much better day, rising vs. PLN (-0.9%), ZAR (-0.7%) and BRL (-0.5%) on various idiosyncratic stories.  The zloty seems to be suffering from its proximity to Ukraine and the uncertainty with the future regarding a potential peace effort.  The rand is falling after the FinMin delayed the budget speech as internal squabbling in the governing coalition seems to be preventing a coherent message while the real is under pressure as inflation remains above target and the central bank’s tighter policy has been negatively impacting growth in the economy.

On the data front, this morning brings Housing Starts (exp 1.4M) and Building Permits (1.46M) and then this afternoon we see the FOMC Minutes from the January meeting.  That will be intensely parsed for a better understanding of what the committee is thinking.  We do hear from Governor Jefferson after the market closes, but generally, the cautious stance remains the most popular commentary.

Has anything really changed?  The market remains uncertain over Trump’s moves, the Fed remains on hold and cautious, and data shows that the economy continues to tick along nicely with price pressures unwilling to dissipate.  I see no reason to abandon the dollar at this point.

Good luck

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