Tag Archives: #Fed

Divergent Views

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This morning, we all must feel blessed
Nvidia is still the best
Its’s earnings were great
Which opened the gate
For buyers, much more, to invest
 
But contra to that piece of news
The Minutes showed divergent views
On whether to slash
Next month, rates for cash
Or else wait for more weakness clues

 

Whatever your view of AI and the entire discussion, one must be impressed with Nvidia’s performance as a company, and as an equity.  Last night’s earnings release was clearly better than expected as CEO Jensen Huang indicated that revenues for Q1 should grow to ~$65 billion as there is still significant demand for the buildout of data centers.  He also pushed back on the idea that AI was a bubble.  Of course, he would do that given he is at the center of the discussion.  Nonetheless, after modest gains in US equities yesterday, despite much more hawkish than expected FOMC Minutes (discussed below), US futures are rising sharply this morning, with NASDAQ futures currently higher by 1.6% (6:15) and taking all the indices with it.  Life is good!

Which takes us to the FOMC Minutes and our first look at dissention in the Eccles building.  I think the following paragraph, directly from the Minutes [emphasis added], does a good job in describing the wide range of views that currently exist around the table at the Fed, and make no mistake, I am hugely in favor of a wide range of views as I would contend it has been the groupthink in the past that led us to the current, unfavorable situation.

“In considering the outlook for monetary policy, participants expressed a range of views about the degree to which the current stance of monetary policy was restrictive. Some participants assessed that the Committee’s policy stance would be restrictive even after a potential 1/4 percentage point reduction in the policy rate at this meeting. By contrast, some participants pointed to the resilience of economic activity, supportive financial conditions, or estimates of short-term real interest rates as indicating that the stance of monetary policy was not clearly restrictive. In discussing the near-term course of monetary policy, participants expressed strongly differing views about what policy decision would most likely be appropriate at the Committee’s December meeting.”

Below I have copied the dot plot from the September meeting, which contra to most previous versions shows a particularly wide range of views regarding the future level of Fed funds.  I have to wonder, though, after reading the Minutes, if those dots will be stretched even wider apart from top to bottom in the December report.

Of course, our interest is how did the market respond to this release?  Well, it can be no surprise that the Fed funds futures market repriced further and is now showing just a 32% probability for a cut next month and 78% probability of the next cut coming in January.  That said, the market remains convinced that rates must go lower over time, something that does not appear in sync with equity market growth expectations and seems to be completely ignoring the announced inward investment flows to the US from around the world.

Source: cmegroup.com

As to the equity market response, the two vertical lines show the release of the Minutes and then the release of Nvidia earnings.  You can see for yourself which matters more to the market.

Source: tradingeconomics.com

Between the GDPNow data, which continues to show growth remains robust, and more announcements of inward investment on the back of trade deals, with the Saudis ostensibly promising $1 trillion after the recent White House dinner, I will take the over on future economic activity.  Remember, too, the government is actively supporting mining, drilling and manufacturing and all of that is going to feed into economic growth here.  My view is the Fed funds futures market is completely wrong, and we will not see rates back at the 3.0% level anytime in the next few years.  I’m not suggesting we won’t see an equity market correction, just that the end is not nigh.

Each day the yen slides
Intervention creeps closer
Yen traders beware

Turning to the dollar, it continues to strengthen across the board with the DXY trading back above 100 this morning, and now that the Fed seems more hawkish, looking like it may have legs.  But let us focus on the yen, quite beleaguered of late, as it appears to be accelerating its downfall.  Not only is this evident on the chart below, but we also have heard concerns for the third time, as per the following quotes from Minoru Kihara, the chief cabinet secretary:

“The yen is experiencing sudden, one-way movements that are concerning and which require close monitoring.  Excessive fluctuations and disorderly movements in exchange rates must be monitored with vigilance.  We are concerned about the recent one-way and sudden movements in the foreign exchange market. It’s important for exchange rates to remain stable, reflecting fundamentals.”

In the past six months, the yen has fallen >10% vs. the dollar and is lower by nearly 4% in the past month.  At the same time, JGB yields are starting to accelerate higher, trading to yet another 20-year high at 1.82% and the price action there is remarkably similar to that of USDJPY as per the below chart.  The problem for the JGB market is the BOJ already owns more than 50% of the outstanding debt, so buying more doesn’t seem to be a solution, whereas buying JPY in the FX market will have an impact, albeit short-term if they don’t change policies.   

Source: tradingeconomics.com

The upshot of all this is the world is awash in debt, with global debt/GDP exceeding 3x.  The lesson is that not all this debt will be repaid, in fact probably not that much at all.  Be careful as to what you hold.

Ok, let’s briefly tour the markets I have not yet touched.  Tokyo equities (+2.65%) loved the Nvidia earnings as did Korea (+1.9%), Taiwan (+3.2%) and most of Asia although China (-0.5%) and HK (0.0%) didn’t play along last night.  I guess the ongoing restrictions on sales of Nvidia chips to China is still a negative there, as are recurring concerns over the property market as there is talk of yet another attempt to fix things by the government.  Europe, too, is firmer this morning, although clearly not on tech bullishness given the lack of tech on which to be bullish.  But there is talk of a Russia/Ukraine peace deal which may be a benefit.  At any rate, gains are widespread on the order of +0.6% or so across the board.

In the bond market, Treasury yields rose a couple of ticks yesterday and are higher by 1 more basis point this morning, but still at just 4.14%.  The front of the curve rose by more on the back of the Minutes.  European yields are also higher this morning, between 2bps and 3bps with UK gilts the outlier, unchanged on the day, as softer inflation has traders expecting a rate cut at the next BOE meeting on December 18th.

Oil (+1.0%) has rebounded off its recent lows and is trading back at…$60/bbl, the level at which it is clearly most comfortable these days.  Meanwhile, gold (0.0%) gave back yesterday’s overnight rally to close mostly unchanged with the same true across the other metals although this morning silver (-0.7%) is slipping a bit further.

Finally, other currency movements beyond the yen (-0.3% today) are of a similar size across both the G10 and EMG blocs.  Using the DXY as proxy, this is the third test above 100 since August 1st with many analysts are calling for a breakout at last.  

Source: tradingeconomics.com

Perhaps this is true given the word is the Russia/Ukraine peace deal was negotiated entirely between the US and Russia without either Ukraine or Europe involved, demonstrating how insignificant Europe, and by extension the euro, have become.  Just a thought.

On the data front, the big news is the September employment report is going to be released this morning along with some other data:

Nonfarm Payrolls50K
Private Payrolls62K
Manufacturing Payrolls-8K
Unemployment Rate4.3%
Average Hourly Earnings0.3% (3.7% Y/Y)
Average Weekly Hours34.2
Participation Rate62.3%
Philly Fed-3.1
Existing Home Sales4.08M

Source: tradingeconomics.com

On the one hand, the data is stale.  On the other hand, it is all we have, so it will likely have greater importance than it deserves.  I have a hard time looking at the economy and seeing substantial weakness, whether because of corporate earnings, inward investment announcements or the Fed’s growing concern over higher inflation.  All that tells me the dollar is going to be in demand going forward.

Good luck

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Left For Dead

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Takaichi’s learned
Her chalice contained poison
Thus, her yen weakens

 

If one needed proof that interest rates are not the only determining factor in FX markets, look no further than Japan these days where JGB yields across the board, from 2yr to 40yr are trading at decade plus highs while the yen continues to decline on a regular basis.  This morning, the yen has traded through 155.00 vs. the dollar, and through 180.00 vs. the euro with the latter being a record low for the yen vs. the single currency since the euro was formed in 1999.

Source: tradingeconomics.com

Meanwhile, JGB yields continue to rise unabated on the back of growing concerns that Takaichi-san’s government is going to be issuing still more unfunded debt to pay for a massive new supplementary fiscal package rumored to be ¥17 trillion (~$109 billion).  While we may have many fiscal problems in the US, it is clear Japan should not be our fiscal role model.

Source: tradingeconomics.com

This market movement has led to the second step of the seven-step program of verbal intervention by Japanese FinMins and their subordinates.  Last night, FinMin Satsuki Katayama explained [emphasis added], “I’m seeing extremely one-sided and rapid movements in the currency market. I’m deeply concerned about the situation.”  Rapid and one-sided are the key words to note here.  History has shown the Japanese are not yet ready to intervene, but they are warming to the task.  My sense is we will need to see 160 trade again before they enter the market.  However, while that will have a short-term impact, it will not change the relative fiscal realities between the US and Japan, so any retreat is likely to be a dollar (or euro) buying opportunity.

As to the BOJ, after a highly anticipated meeting between Takaichi-san and Ueda-san, the BOJ Governor told a press conference, “The mechanism for inflation and wages to grow together is recovering. Given this, I told the prime minister that we are in the process of making gradual adjustments to the degree of monetary easing.”   Alas for the yen, I don’t think it will be enough to halt the slide.  That is a fiscal issue, and one not likely to be addressed anytime soon.

The screens everywhere have turned red
As folks have lost faith that the Fed,
Next month, will cut rates
Thus, leave to the fates
A stock market now left for dead

Yesterday, I showed the Fear & Greed Index and marveled at how it was pointing to so much fear despite equity markets trading within a few percentage points of all time highs.  Well, today it’s even worse!  This morning the index has fallen from 22 to 13 and is now pushing toward the lows seen last April when it reached 4 just ahead of Liberation Day.

In fact, it is worthwhile looking at a history of this index over the past year and remembering what happened in the wake of that all-time low reading.

Source: cnn.com

Now look at the S&P500 over the same timeline and see if you notice any similarities.

Source: tradingeconomics.com

It is certainly not a perfect match, but the dramatic rise in both indices from the bottom and through June is no coincidence.  The other interesting thing is that the fear index managed to decline so sharply despite the current pretty modest equity market decline.  After all, from the top, even after yesterday’s decline, we are less than 4% from record highs in the S&P 500.

Analysts discuss the ‘wall of worry’ when equity markets rise despite negative narratives.  Too, historically, when the fear index falls to current levels, it tends to presage a rally.  Yet, if we have only fallen 4% from the peak, it would appear that positions remain relatively robust in sizing.  In fact, BoA indicated that cash positions by investors have fallen to just 3.7%, the lowest level in the past 15 years.  So, everyone is fully invested, yet everyone is terrified.  Something’s gotta give!  In this poet’s eyes, the likely direction of travel in the short run is lower for equities, and a correction of 10% or so in total makes sense.  But at that point, especially if bonds are under pressure as well, I would look for the Fed to step in and not only cut rates but start expanding its balance sheet once again.  QT was nice while it lasted, but its time has passed.  One poet’s view.

Ok, following the sharp decline in US equity markets yesterday on weak tech shares, the bottom really fell out in Asia and Europe.  Japan (-3.2%) got crushed between worries about fiscal profligacy discussed above and the tech selloff.  China (-0.65%) and HK (-1.7%) followed suit as did every market in Asia (Korea -3.3%, Taiwan -2.5%, India -0.3%, Australia -1.9%).  You get the idea.  In Europe, the picture is no brighter, although the damage is less dramatic given the complete lack of tech companies based on the continent.  But Germany (-1.2%), France (-1.3%), Spain (-1.6%), Italy (-1.7%) and the UK (-1.3%) have led the way lower where all indices are in the red.  US futures, at this hour (7:15) are also pointing lower, although on the order of -0.5% right now.

In the bond market, Treasury yields, after edging higher yesterday are lower by -4bps this morning, and back at 4.10%, their ‘home’ for the past two months as per the below chart from tradingeconomics.com.

As to European sovereigns, they are not getting quite as much love with some yields unchanged (UK, Italy) and some slipping slightly, down -2bps (Germany, Netherlands), and that covers the entire movement today.  We’ve already discussed JGBs above.

In the commodity space, oil (-0.2%) continues to trade either side of $60/bbl and it remains unclear what type of catalyst is required to move us away from this level.  Interestingly, precious metals have lost a bit of their luster despite the fear with gold (-0.25%), silver (-0.2%) and platinum (-0.2%) all treading water rather than being the recipient of flows based on fear.  Granted, compared to the crypto realm, where BTC (-1.0%, -16% in the past month) has suffered far more dramatically, this isn’t too bad.  But you have to ask, if investors are bailing on risk assets like equities, and bonds are not rallying sharply, while gold is slipping a bit, where is the money going?

Perhaps a look at the currency market will help us answer that question.  Alas, I don’t think that is the case as while the dollar had a good day yesterday, and is holding those gains this morning, if investors around the world are buying dollars, where are they putting them?  I suppose money market funds are going to be the main recipient of the funds taken out of longer-term investments.  One thing we have learned, though, is that the yen appears to have lost its haven status given its continued weakening (-3.0% in the past month) despite growing fears around the world.  

On the data front, yesterday saw Empire State Manufacturing print a very solid 18.7 and, weirdly, this morning at 5am the BLS released the Initial Claims data from October 18th at 232K, although there is not much context for that given the absence of other weeks’ data around it.  Later this morning we are due the ADP Weekly number, Factory Orders (exp 1.4%) and another Fed speaker, Governor Barr.  Yesterday’s Fed speakers left us with several calling for a cut in December, and several calling for no move with the former (Waller, Bowman and Miran) focused on the tenuous employment situation while the latter (Williams, Jeffereson, Kashkari and Logan) worried about inflation.  Personally, I’m with the latter group as the correct policy, but futures are still a coin toss and there is too much time before the next meeting to take a strong stand in either direction.

The world appears more confusing than usual right now, perhaps why that Fear index is so low.  With that in mind, regarding the dollar, despite all the troubles extant in the US, it is hard to look around and find someplace else with better prospects right now.  I still like it in the medium and long term.

Good luck

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We All Will Be Fucted

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The Fed PhD’s have constructed
Their models, from which they’ve deducted
The future will be
Like post-GFC
In which case, we all will be fucted
 
Instead, perhaps what’s really needed
And for which Steve Miran has pleaded
Is changing impressions
In future Fed sessions
Accepting the past has receded

 

While we all know that things change over time, human nature tends to drive most of us, when facing a new situation, to call on our experience and analogize the new situation to what we have experienced in the past.  But sometimes, the differences are so great that there are no viable analogies.  For the past several years I have made the point in this commentary that the Fed’s models are broken.  Consider, as an example, how wrong they were regarding the alleged transitory nature of inflation in 2022 which led to policy adjustments that not only were far too late to address the issue, but in reality, only had a marginal impact anyway.

On a different, and topical subject, consider the issue with tariffs.  Economists explained that the imposition of tariffs would be devastating to the US consumer, raise prices dramatically and strengthen the dollar as FX markets adjusted to reflect the new trade policy.  But none of that happened, at least not yet.  In fact, the dollar continued to fall in the wake of the Liberation Day tariff announcements, while CPI since then has, granted, edged higher, but remains in its recent range for now and well below the 2022 levels (see below chart from tradingeconomics.com).

And a more important question regarding inflation is, have the tariffs been the driver, or has it been other parts of the price index, housing and core services for instance, that have been the key issue, neither of which would be directly impacted by tariffs.

All of this is to highlight the fact that the world has changed and that the evidence of the past several years, at least, is that the Fed’s econometric models are no longer fit for purpose.  I raise this issue because a look at so many previous market relationships show that many are breaking down.  We have seen gold rise alongside rising real interest rates and the dollar rise alongside gold, two things that are 180o from previous history.  Too, think back to 2022 when both stocks and bonds fell sharply at the same time, breaking the decades-long history of bonds behaving in a manner to offset declines in equity markets.

Source: tradingeconomics.com

This contemplation was brought on by a tweet which led me to a very interesting article (just a 5 minute read) by DL Jacobs of the Platypus Affiliated Society, regarding Fed Governor Miran and his recognition that the world has changed and that the Fed needs to change too.  Here is the second paragraph, and I think it explains the issue beautifully [emphasis added]:

He [Miran] used the moment to challenge the foundations of United States monetary policy. “I think it’s important to take these models seriously, not literally,” he said. He warned that models do not take into account the scale and speed of policy changes in light of the Trump administration’s re-election. The problem with the Fed isn’t wrong technique or bad data, he suggested, but rather that the very structure of its models is embedded in the economic and political assumptions of a bygone era. The world the forecasts are trying to measure no longer exists.

(At this point, I have to explain that the Platypus Society is a left-wing organization trying to explain why Marxism failed and recreate it, but that doesn’t make this article any less worthwhile.  I believe they see it as a step in the destruction of capitalism, which appears to be their goal.)

To me, this is just another point indicating that we’re not in Kansas anymore.  Policies need to change, and the Trump administration is working hard to do so.  One of the key points Miran makes is that the Fed and Treasury ought to be considered as a single entity, with the idea of Fed independence an anachronism from a bygone age.  The upshot is the Trump administration is going to continue to run things hot, or as macro analyst Lynn Alden has been saying, “Nothing stops this train”.  

This means that the Fed is going to run relatively easy monetary policy while the government, via the Treasury, is going to ensure there is ample liquidity available for everything, real economic activity and market activity.  The downside of these policies, alas, is that the idea inflation is going to decline in any meaningful way is simply wrong. It’s not.  Keep this in mind as we go forward.

As it happens, there was very little news of note overnight, at least market news, so let’s see how things behaved.  Friday’s mixed session in the US was followed by Chinese weakness with HK (-0.7%) and China (-0.7%) both under pressure.  Tokyo (-0.1%) was not nearly as impacted and the regional exchanges were actually broadly higher (Korea, India, Taiwan, Indonesia, Thailand).  The big news in Asia is the increasing verbal jousting by China and Japan at each other after PM Takaichi said, out loud, that if China attacked Taiwan, it would impact Japan.  Given the proximity, that is, of course, true, but apparently it was a taboo item in the diplomatic dance in the past.  I don’t see this having a long-term impact on anything.

In Europe, though, bourses are lower this morning led by Spain (-0.8%) although weakness is widespread (Germany -0.5%, France -0.4%. UK -0.1%).  There has been no data of note to drive this movement and it seems as though we are seeing the beginning of some longer-term profit taking after strong YTD gains by most bourses on the continent.  US futures at this hour (6:45) are pointing a bit higher, 0.43% or so.

In the bond market, Treasury yields have slipped -3bps this morning despite (because of?) the market pricing a December rate cut as a virtual coin toss.  This is a huge change over the past month as can be seen at the bottom of the chart below from cmegroup.com

Recent Fedspeak has highlighted the Fed’s uncertainty, especially absent data, and the belief that waiting is a better choice than acting incorrectly (what if waiting is the incorrect move?).  At any rate, we are going to be inundated with both Fedspeak (14 speeches this week!) as well as the beginnings of the delayed data so there will be lots of headlines.  Right now, I think it is fair to say that nobody is confident in the current direction of travel in the economy.  But perhaps, a more hawkish tone at the front of the curve has investors believing that inflation will, once again, become the Fed’s focus.  Alas, I don’t think so.  Looking elsewhere, European sovereign yields have followed Treasury yields lower, slipping between -2bps and -3bps this morning.  Perhaps more interesting is Japan, where JGB yields (+3bps) have risen to a new 17-year high as a prominent LDP member put forth a massive new spending bill to be passed.

In the commodity space, oil remains pinned to the $60/bbl level with lots of huffing and puffing about Russian sanctions and oil gluts and IEA changes of opinion but in the end, WTI has been either side of $60 for the past month+ and continues to trend slowly lower.  

Source: tradingeconomics.com

Metals remain the most volatile segment of the entire market complex although this morning, movement has not been so dramatic (Au -0.1%, Ag +0.9%, Cu -0.4%, Pt -0.1%).  All the metals remain substantially higher than where they began the year and all have seemingly run into levels at which more consolidation is needed before any further substantial gains can be made.  I don’t think the supply/demand story has changed here, just the price action.

Finally, the dollar is a touch firmer this morning, with the DXY (+0.1%) a good representation of the entire space.  The only two currencies that have moved more than 0.2% today are KRW (-0.9%) which reversed Friday’s price action and is explained as continued capital outflows to the US for investment.  On the flip side, CLP (+1.1%) is benefitting from the first round of Presidential elections in Chile, where the right-wing candidate came out ahead and is expected to consolidate the vote and win an absolute majority in the second round.  Jose Antonio Kast, if he wins, is expected to proffer more market-friendly policies than the current socialist president, Gabriel Boric.  It seems the people in Chile have had enough of socialism for now.  But other than those two currencies, this market remains quiet.

On the data front, there is so much data to be released, but the calendar for much of it has not yet been finalized.  One thing that is finalized is the September employment situation which is due for release Thursday morning at 8:30. This morning we see Empire State Manufacturing (exp 6.0) and Construction Spending (-0.1%) and hopefully, the calendar will fill in as the week passes.

While equity markets remain very near their all-time highs, the Fear and Greed Index is firmly in Fear territory as per the below from cnn.com.

Historically, this has been seen as an inverse indicator for stock markets although it has been down here for more than a month.  Uncertainty breeds fear and the lack of data has many people uncertain about the current state of the US economy since the only information they get is either from the cacophony of social media, the bias of mainstream media or their own two eyes.  But even if you trust your own eyes, they just don’t see that much, likely not enough to come to a broad conclusion. 

FWIW, which is probably not much, my take is things are slower than they have been earlier in the year, but nowhere near recession.  I think it is the correct decision for the Fed to hold next month rather than cut because the drivers of inflation remain extant.  But Jay doesn’t ask me.  Whether Miran is correct in his prescriptions for the economy, I am gratified that he is questioning the underlying structure.  In the meantime, run it hot remains the name of the game and that means any risk-off period is likely to be short.

Good luck

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Like a Fable

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It seems there’s a deal on the table
To end the shut down and enable
The chattering classes
To force feed the masses
A story that’s quite like a fable
 
Both sides will claim they have achieved
Their goals, though they were ill-conceived
But markets will love
The outcome above
All else, and we’ll all be relieved

 

While the shutdown is not technically over as the House of Representatives need to reconvene (they have been out of session since September 19th when they passed the continuing resolution) and adjust the bill so that it matches the one the Senate agreed last night and can be voted on in the House, it certainly appears that the momentum, plus President Trump’s imprimatur, is going to get it completed sometime this week. 

The nature of the deal is unimportant for our purposes here and both sides will continue to claim that they were in the right side of history, but the essence is that there appeared to be some movement on health care funding so, hurray!

As you can see in the chart below, while the story broke late yesterday afternoon and futures responded on the open in the evening session, the reality is the market sniffed out something was coming around noon on Friday.  In fact, the S&P 500 has rallied 2.4% since noon Friday.

Source: tradingeconomics.com

So, everything is now right with the world, right?  After all, this has been the major topic of conversation, not just by the talking heads on TV, but also in markets as analysts were trying to determine how much damage the shutdown was doing to the economy.  While I have no doubt that there were many people who felt the impact, my take is there were many, many more who felt nothing.  After all, the two main features were air travel and then SNAP benefits.  Let’s face it, on average (according to Grok) about 2.9 million people board airplanes in the US, well less than 1% of the population, although SNAP benefits, remarkably, go to 42 million people.  However, those have only been impacted for the past week, not the entire shutdown.

I’m not trying to make light of the inconveniences that occurred, just point out that from a macroeconomic perspective, despite the fact that the shutdown lasted 6 weeks, it probably didn’t have much of an impact on the statistics as all the money that wasn’t spent last month will be spent next month.  Different analyst estimates claim it will reduce Q4 GDP by between 0.2% and 0.5% with a concurrent impact on the annual result.  I am willing to wager it is much less.  However, it appears it will have ended by the end of the week and so markets are back to focusing on other things like AI, unemployment and QE.

Now, those three things are clearly important to markets, but I don’t think there is anything new to discuss there today.  Rather, I would like to focus on two other issues, one more immediate and one down the road, which may impact the way things evolve going forward.

In the near term, as winter approaches, meteorologists are forecasting a much colder winter in the Northern Hemisphere across both North America and Europe, something that is going to have a direct impact on NatGas.  Bloomberg had a long article on the topic this morning with the upshot being that the Polar Vortex may break further south early this year and bring a lot of cold weather along for the ride.  This is clearly not new news to the NatGas market, as evidenced by the fact that its price has exploded (no pun intended) higher by 43% in the past month!

Source: tradingeconomics.com

While oil prices have remained stuck in a narrow range, trading either side of $60/bbl for the past 6 weeks amid a longer-term drift lower as you can see in the below chart, oil is only utilized by ~4% of homeowners for heating with 46% using NatGas.

Source: tradingeconomics.com

Ultimately, I suspect that we are going to see this feed through to inflation as not only are there the direct costs of heating homes, but NatGas is also the major source of generating electricity, with 43% of the nation’s electricity using that as its source.  We have already seen electricity prices rise pretty sharply over the past months (I’m sure you have all felt that pain) and if NatGas prices continue to climb, that will continue.  Remember, the current price ~$4.45/MMBtu is nowhere near significant highs like those seen just 3 years ago when it traded as high as $10/MMBtu.  With all this price pressure, will the Fed continue down their path of rate cuts?  Alas, I believe they will, but that doesn’t make our lives any better.

Which takes me to the second, longer term issue I wanted to mention, European legislation that is seeking to effectively outlaw the utilization of cash euros.  This substack article regarding recent Eurozone legislation is eye-opening as the ECB and Europe try to combat the coming irrelevance of the euro.  For everyone who either lives in Europe or does business there, I cannot recommend reading this highly enough.  There are many changes occurring in financial architecture, and by extension financial markets.  Keep informed!

Ok, enough of that, let’s see how markets have responded to the Senate deal.  Apparently, US politics matters to the entire global equity market.  Green is today’s color with Japan (+1.25%), HK (+1.55%) and China (+0.35%) all performing well, although not as well as Korea (+3.0%) which really had a good session.  Pretty much all the other regional markets were also higher.  In Europe, the deal has everyone excited as well with gains across the board (Germany +1.8%, France +1.4%, Spain +1.4%, UK +1.0%).  As to US futures, at this hour (7:45) they are higher by about 1% across the board.

I guess with that much excitement about more government spending, we cannot be surprised the yields have edged higher.  This morning Treasury yields are up by 3bps, which is what we saw from JGB markets last night as well, although European sovereign yields are little changed on the day.  I suspect, though, if equities continue to rally, we will see yields there edge higher.

In the commodity space, oil (+0.5%) continues to trade in its recent range.  The most interesting thing I saw here was that the IEA is set to come out with their latest annual assessment of the oil market and for the first time in more than a decade they are not going to claim that peak fossil fuel demand is here or coming soon.  The climate grift is truly breaking down.  But the commodity story of the day is precious metals which are massively higher (Au +2.5%, Ag +3.3%, Pt +2.6%) with copper (+1.6%) coming along for the ride.  The narrative here is that with the government shutdown due to end soon, President Trump talking about $2000 tariff rebate checks and the Fed likely to cut rates in December (65% probability), debasement is with us and metals is the place to be!

Interestingly, the dollar is not suffering much at all despite the precious metals story.  While AUD (+0.6%), ZAR (+0.6%) and NOK (+0.6%) are all stronger on the commodity story, the euro is unchanged, JPY (-0.4%) continues to decline and the rest of the G10 is not doing enough to matter.  In truth, if I look across the board, there are more currencies strengthening than weakening vs. the greenback, but overall, at least per the DXY, the dollar is little changed.

There is still no data at this point, although it will start up again when the government gets back to work.  Actually, there has been much talk of the weakness in Consumer sentiment based on Friday’s Michigan Index which fell to 50.3, the second lowest in the history of the series with several subindices weakening substantially.  However, that was before the news about the end of the shutdown, so my take is people will regain confidence soon.  As well, we hear from 9 Fed speakers this week, with 5 of them on Wednesday!  Both dissenters from the October meeting will speak, so perhaps things have changed in their eyes, but I doubt it.

At this point, all is right with the world as investors anticipate the US government getting back to work while the Fed will continue to support markets by easing policy further.  In truth, the dollar should not benefit here, but I have a feeling that any weakness will be short-lived at best.  Longer term, I continue to believe the dollar is the place to be.

Good luck

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Filled With Chagrin

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The vibe in the market is fear
As equities get a Bronx cheer
Commodities, too
Most traders eschew
The dollar, though’s, getting in gear
 
So, what has the catalyst been
To drive such a change in the spin
No story stands out
But there is no doubt
Investors are filled with chagrin

 

Ladies and gentlemen, boys and girls, this morning things just feel bad.  As I peruse the headlines around the major publications, there is no obvious story that is driving today’s weakness in risk assets, but there is no mistaking the vibe.  Certainly, there are several issues outstanding that might be seen as a negative, but none of them are new.  

  • The government has been shut down for 35 days as of today, and it doesn’t sound like the Senate Democrats are ready to vote to reopen it.  Granted, the problems of the shutdown increase with time, but there has been no apparent change in tone for at least the past two weeks, so why is today the day when things look bad?
  • The war in Ukraine continues apace with no obvious timeline to ending, but this has been ongoing for nearly 4 years, so what is it about today that may have changed?
  • Concerns over fraud have increased after the recent bankruptcy filings by First Brands and Tricolor, as well as accusations by banks of other situations, but again, no new story broke overnight.
  • Perhaps it is the fact that today is Election Day in the US, and there is concern that Zoran Mamdani, a self-described Democratic Socialist, could become the next mayor of NYC, which given it is still home to so many financial markets, has those market participants unnerved.

Some days, it’s just not clear why markets move in the direction they do, and there can be far less dramatic drivers.  For instance, we have seen a major rally in equity markets, and risk assets in general, over the past 5 years, with an acceleration over the past 6 months and they are simply taking a breather.  Whatever the driver, the movement is clear.

Source: tradingeconomics.com

So, given the absence of obvious drivers to discuss, let’s simply recap the damage. After yesterday’s mixed session in the US, Asia was under significant pressure led by Tokyo (-1.75%) with HK (-0.8%) and China (-0.75%) slipping as well.  But Australia (-0.9%) fell after the RBA left rates on hold, as expected, although Governor Bullock sounded a touch more hawkish than expected, and the rest of the region saw almost universal weakness with Korea (-2.4%) the worst of the bunch, but declines everywhere (India, Taiwan, Indonesia, Singapore, Thailand) except New Zealand, which managed a small gain, to reach yet another record high, on solid earnings numbers from key companies.

Meanwhile, European bourses are all sharply lower as well (DAX -1.3%, CAC -1.2%, IBEX -1.1%) as the overall market vibe weighs on these markets, all of which recently traded at new all-time highs.  Ironically, the UK (-0.6%) is about the best performer despite a speech from Chancellor of the Exchequer, Rachel Reeves, which explained…well, it is not clear what it explained.  The UK has major budget problems and has discussed raising taxes, but given growth is lagging, there is a lot of pushback, even within the Starmer government, on that subject.  As with virtually every G10 economy, the government is spending far more than they take in and they don’t know how to address the deficit.  Unfortunately for the UK, the pound is not the global reserve currency and so they are subject to market discipline, unlike the US…so far.  But, in this space, US futures are all lower this morning, down -1.0% or so as I type at 7:10am.

Now, your first thought might be that bonds have rallied nicely on all this risk aversion, but while they have, indeed, moved higher (yields lower) I don’t know that nicely would describe the movement.  Rather, barely is a better description as 10-year yields are lower by -2bps in the Treasury market and between -1bp and -2bps in all European sovereign markets.  In fact, despite the weakness in Japanese stocks overnight, JGB yields are unchanged.  The message is, bonds are not that appealing, even if stocks aren’t either.

Turning to commodities, oil (-1.4%) is having a hard time this morning alongside the equity markets, with virtually all energy prices lower across the board.  Given there has been no announcement of a major energy breakthrough, this has the feel of growing concern over economic activity going forward.  With that in mind, though, WTI is still trading right around $60/bbl, which seems to be its “home” lately.

In the metals markets, gold (-0.15%) continues to trade around the $4000/oz level, which seems to be its new “home” as traders await the next catalyst in this space.  Silver (-0.3%) is similarly fixated on its level of $48/oz and seems likely to follow gold’s lead going forward.  However, copper (-2.3%) seems like it is more in sync with oil lately, as the two are both so intimately linked with economic activity and changes thereto.  It’s funny, despite the risk asset weakness, I have not seen anything new on a pending recession in the US, nor globally, although there continues to be a steady stream of analysts who have been explaining we are already in one.

Finally, the dollar is today’s winner, rising against every one of its counterparts except the yen (+.45%) which responded to a second round of verbal intervention from FinMin Katayama, who once again drew from the MOF seven-step playbook with a half-step overnight: “I’m seeing one-sided and rapid moves in the currency market. There’s no change in our stance of assessing developments with a high sense of urgency.”  

But away from the yen, it is merely a question of which currency looks worst.  The pound (-0.65%) has traded down to levels not seen since Liberation Day, as it appears the FX market did not take Chancellor Reeves’ comments that well.

Source: tradingeconomics.com

For those who view the DXY as the key indicator, it has traded above 100 for the first time since August, and I know many technicians are looking for a breakout here.  The fact remains that the Fed’s recent seeming mildly hawkish turn is out of sync with most of the rest of the world and will support the dollar for now.  Of course, the futures market is still pricing a 72% probability of a rate cut in December, so traders are taking the ‘hawkish’ comments by Chair Powell at the press conference last week with a grain or two of salt.  In fact, one of the things weighing on the pound is the idea that the BOE may cut this week despite still high inflation.

But wherever you look in this space, the dollar is sharply higher.  ZAR (-1.0%), NOK (-0.9%), MXN (-0.85%) and SEK (-0.9%) lead the way, but declines of -0.5% are rampant across all three regional blocs.  Today is a straight up dollar story.

And that’s all we have today.  Yesterday’s ISM data was a touch weaker than forecast, and last month, slipping to 48.7 with Prices Paid (58.0) slipping as well.  Weirdly, the S&P PMI was a better than expected 52.5, rising from last month and beating expectations.  It seems a mixed message.  Yesterday’s Fed speakers didn’t tell us anything new, with Governor Cook explaining that December is a “live” meeting.  I’m not sure what that means.  Is the implication they may not cut there?  That would not go down well in either markets or the White House.

Given how far equity prices have come in the past 6 months, it would not be a surprise to see a more substantial pullback.  In fact, it would be healthy for the market to remove some of the excesses that abound.  The fraud stories are concerning as they tend to flourish at the end of bull markets, and while they are not yet flourishing, they are starting to become more common.  In the end, while I expect the Fed will cut in December, and then again in January, I don’t see a reason for the dollar to decline sharply.

Good luck

Adf

Printing Up Gobs

Posted on by

The balance sheet, so said Chair Jay
Is really the very best way
For policy ease
And so, if you please,
QT is soon going away
 
Rate cuts are now back on the table
As we work quite hard to enable
Those folks lacking jobs
By printing up gobs
Of cash, just as fast as we’re able

 

Chairman Powell spoke yesterday morning in Philadelphia at the NABE meeting and the TL; DR is that QT, the process of shrinking the Fed’s balance sheet, is coming to an end.  Below is a chart showing the Fed’s balance sheet assets over the past 20+ years.  I have highlighted the first foray into QE, during the financial crisis, and you can see how that balance sheet has grown and evolved since then.

And the below chart is one I created from FRED data showing the Fed’s balance sheet as a percentage of the nation’s GDP.

Pretty similar looking, right?  The history shows that the GFC qualitatively changed the way the Fed managed monetary policy, and by extension their efforts at managing the economy.  As is frequently the case, QE was envisioned as an emergency policy to address the unfolding financial crisis in 2008, but as Milton Friedman warned us in 1984, “Nothing is so permanent as a temporary government program.”  QE is now one of the key tools in the Fed’s toolkit as they try to achieve their mandates.

There has been a great deal of discussion regarding the issue of the size of the Fed’s balance sheet, paying interest on reserves, something that started back in 2008 as well, and what the proper role for the Fed should be.  But I assure you, this is not the venue to determine those answers. 

However, of more importance than the speech, per se, was that during the Q&A that followed, Mr Powell explained that the Fed was soon reaching the point where they were going to end QT, and that they were going to seek to change the tenor of the balance sheet to own more short-term assets, T-bills, than the current allocation of holding more long-term assets including T-bonds and MBS.  And this was what the market wanted to hear.  While both the NASDAQ and S&P 500 both closed slightly lower on the day, as you can see from the chart below, the response to Powell’s speech was immediate and impressive.

Source: tradingeconomics.com

Too, other markets also responded to the news in a similar manner, with gold, as per the below chart accelerating its move higher.

Source: tradingeconomics.com

While the dollar, as per the DXY, responded in an equally forceful manner, falling sharply at the same time.

Source: tradingeconomics.com

Summing up, Chairman Powell basically just told us that inflation was no longer a fight they were willing to have and support of the economy and employment is Job #1.  Of course, this may not work out that well for long-term bond yields, which when if inflation rises are likely to rise as well, I think Powell knows that he will be gone by the time that becomes a problem, so maybe doesn’t care as much.

But here’s something to consider; there has been a great deal of talk about the animus between the Fed and the Treasury, or perhaps between Powell and Trump, but Treasury Secretary Bessent has already made clear they will be issuing more T-bills and less T-bonds going forward, which is a perfect fit for the Fed’s proposition to hold more T-bills and less T-bonds going forward.  This is not a coincidence.

Now, while that was the subject that got most tongues wagging in the market, the other story of note was the ongoing trade spat between the US and China.  It is hard to keep up with all the changes although it appears that soy oil imports from China are now on the menu of items to be tariffed, and the WSJ this morning explained that China is going to try to pressure President Trump by doing things to undermine the stock market as they see that as a vulnerability.  Funnily enough, I think Trump cares less about the stock market this time around than last time, as he is far more focused on issues like reindustrialization and jobs here and elevating labor relative to capital, which by its very nature implies stock market underperformance.

But that’s where things stand now. So, let’s take a turn around markets overnight.  Despite a mixed picture in the US, Asian equity markets had a fine time with Tokyo (+1.8%), China (+1.5%) and HK (+1.8%) all rallying sharply on the prospect of further Fed ease.  Regarding trade, given the meeting between Presidents Trump and Xi is still on the schedule, I think that many are watching the public back and forth and assuming it is posturing.  As well, Chinese inflation data was released showing deflation accelerating, -0.3% Y/Y, and that led to thoughts of further Chinese stimulus to support the economy there.  Of course, their stimulus so far has been underwhelming, at best.  Elsewhere in the region, green was also the theme with Korea (+2.7%), India (+0.7%), Taiwan (+1.8%) and Australia (+1.0%) all having strong sessions.  One other thing about India is the central bank there intervened aggressively in the FX market with the rupee (+0.9%) retracing to its strongest level in a month as the RBI starts to get more concerned over the inflationary impacts of a constantly weakening currency.

In Europe, the CAC (+2.4%) is leading the way higher after LVMH reported better than expected earnings (Isn’t it funny that the US market is dependent on NVDA while the French market is dependent on LVMH?  Talk about differences in the economy!), and while that has given a positive flavor to other markets, they have not seen the same type of movement with the DAX (+0.1%) and IBEX (+0.7%) holding up well while the FTSE 100 (-0.6%) continues to suffer from UK policies.  As to US futures, at this hour (7:40) they are all firmer by 0.5% to 0.9%.

In the bond market, yields continue to edge lower with Treasuries (-2bps) actually lagging the European sovereign market where yields have declined between -3bps and -4bps across the board.  In fact, UK gilts (-5bps) are doing best as investors are growing more comfortable with the idea the BOE is going to cut rates again after some dovish comments from Governor Bailey yesterday.

In the commodity space, oil (+0.2%) is consolidating after it fell again yesterday and is now lower by nearly -6% in the past week.  However, the story continues to be metals with gold (+1.3%), silver (+2.8%), copper (+0.5%) and platinum (+1.7%) all seeing continued demand as the theme of owning stuff that hurts if you drop it on your foot remains a driving force in the markets.  And as long as central banks are hinting that they are going to debase fiat currencies further, this trend will continue.

Finally, the dollar, as discussed above, is softer, down about -0.25% vs. most of its G10 counterparts this morning although NOK (+0.8%) is the leader in what appears to be some profit taking after an exaggerated decline on the back of oil’s decline.  In the EMG bloc, we have already discussed INR, and after that, quite frankly, it has not been all that impressive with the dollar broadly slipping about -0.2% against virtually the rest of the bloc.

On the data front, we see Empire State Manufacturing (exp -1.0) and get the Fed’s Beige Book at 2:00 this afternoon.  Four more Fed speakers are on the docket, with two, Miran and Waller, certainly on board for rate cuts, with the other two, Schmid and Bostic, likely to have a more moderated view.  Earlier this morning Eurozone IP (-1.2%) showed that Europe is hardly moving along that well.  Meanwhile, despite the excitement about Powell’s comments, the Fed funds futures market is essentially unchanged at 98% for an October cut and 95% for another in December.  I understand why the dollar slipped yesterday, but until those numbers start to move more aggressively, I suspect the dollar’s decline will be muted.

One other thing, rumor is that the BLS will be reporting the CPI data a week from Friday at 8:30am as they need it to calculate the COLA for Social Security for 2026.  If that is hot, and I understand that expectations are for 0.35% M/M, Chairman Powell and his crew may find they have a really tough choice to make the following week.

Good luck

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Many Ructions

Posted on by

Just two days before Halloween
When Jay and his minions convene
With great joie de vivre
Investors believe
A quarter-point cut will be seen
 
But what if the model that Jay
Consults might have led him astray
Then Fed fund reductions
May cause many ructions
In markets, and too, the beltway

 

I have often discussed the fact that the models the Fed uses no longer seem to work very effectively as evidenced by the tardiness of their reaction function and the results that occur after the fact.  Consider, the Fed was uniformly convinced that inflation was transitory in 2021 and 2022, right up until it hit 7% when it finally dawned on them that it wasn’t.  I would argue that part of the problem is they continue to utilize a Keynesian framework, which has not proven to be very effective for monetary policy (although it’s great for politicians as a fiscal policy excuse to spend more money.)

But I am just a poet and my voice is not so loud in financial markets.  However, John Mauldin is someone with much greater reach and his letter this week highlighted that exact issue. (For those of you who are not familiar with John, his weekly letter, “Thoughts from the Frontline” is usually an excellent read and completely free, you should sign up.)  At any rate, he reprinted a chart originally in the WSJ that I think does an excellent job of demonstrating the flaws in models developed pre-Covid.

It is quite apparent how this particular model, which appears to use the type of inputs that most econometric models utilize, had done a pretty good job, even throughout the GFC, of anticipating changes in consumer sentiment right up until Covid.  However, it is also clear that since then, it has a terrible track record.  

And this is the problem.  I would wager that every one of the models built by the hundreds of PhD’s at the Fed has a similar problem, things that used to drive economic decision making no longer do.  I guess when people get used to the government supporting them completely, many are willing to sit back and do nothing.  And when that support stops, it appears that people aren’t very happy about that situation.  Go figure!

The bigger picture here is that I believe it is time for the Fed to question its own modeling prowess.  Consider the situation that with interest rates at their current levels of 4% +/- a bit depending on the tenor, many people, especially retirees, were quite content to clip coupons and were spending those funds supporting the economy.  At the same time, interest expense for small companies never really fell that far, so current rates are not deathly. 

But you know who benefits from low interest rates?  The government and large corporations who have access to capital markets and pay the lowest rates.  And even there, companies like Apple, Google and Microsoft have so much cash on hand that they are net earning interest with higher rates.

All this begs the question, what is the purpose of the Fed cutting rates?  A key risk is that inflation will return with a vengeance.  It has been 55 months since core PCE was at or below the Fed’s target level of 2.0% as you can see in the below chart, and I feel confident in saying that when the data is released this Friday, it will not be changing that trend.

Source: tradingeconomics.com

So, savers will suffer as their income will be reduced, the risk of rising inflation will increase as easier monetary policy typically precedes that type of movement, and long-term yields, which have rebounded recently, run the risk of starting higher again.  Remember what happened last year when the Fed cut, 10-year Treasury yields rose 100bps. (see chart below)

Source: tradingeconomics.com

It is far too early to claim the outcome will be the same this time, but it is a real risk.  After all, bond yields have a strong relationship with inflation, running at a long-term correlation of 0.36 and as can be seen in the chart below I prepared from FRED data.

Concluding, the current batch of economic models utilized by analysts and the Fed appear to have limited ability to describe the economy, whether it is because of the asynchronous nature of the current state of the world, or because the unprecedented government responses around the world to the Covid pandemic have changed the way everything works.  The market is pricing a 93% probability of another rate cut in October, and it appears Chairman Powell believes that to be the case.  But is it the right move at this time?  I feel like that is not the question being asked, but it needs to be by people more powerful than this poet.

Ok, I’ll step down from my soapbox to survey the market activity overnight.  Friday’s US closes at yet more all-time highs were followed by a more mixed session in Asia.  While Japanese investors got the joke, with the Nikkei rising 1.0%, Hong Kong (-0.8%) and India (-0.6%) were both under pressure with the former suffering from a strengthening currency and concern about a major typhoon about to hit the island nation, while India is suffering from the backlash of the Trump policy change on H1-b visas, now charging $100,000 for them.  It turns out Indian firms were the largest user of those visas and there is concern over a serious economic impact there.  Otherwise, the region saw a mixture of green (China, Taiwan, Australia, Malaysia) and red (New Zealand, Indonesia, Singapore, Thailand).

European bourses, though, are having a tougher time this morning with the continental exchanges all under pressure (DAX -0.7%, CAC -0.3%, IBEX -1.0%, FTSE MIB -1.0%) as concerns rise over the Flash PMI data to be released tomorrow and the idea it may show a much weaker economy than previously considered.  As well, USD futures are softer at this hour (6:40), with all three major indices showing declines on the order of -0.25%.  However, we must keep in mind that the trend in equity markets has been strongly higher so a modest pullback would not be a surprise and perhaps should be welcomed.

In the bond market, yields having moved higher on Friday, are quite stable this morning with Treasury yields unchanged and most of Europe seeing a -1bp decline.  The only outlier here is Japan, where JGB yields topped 1.65%, a new high for the move and the highest level since 2008 as per the below chart from marketwatch.com.  Ueda-san has to start getting worried soon, I think.

In the commodity space, oil (-0.7%) is continuing its recent decline but remains within the trading range and doesn’t appear to have much impetus in the short term in either direction.  However, I continue to look for an eventual decline here.  As to gold (+1.15%) and silver (+1.6%), nothing is going to stop this train.  Well, certainly there is no indication that policy changes are coming anywhere in the world that would force investors to rethink the idea of continuous depreciation of fiat currencies, and let’s face it, that’s all this represents.  I continue to see analysts raise their target price for the barbarous relic and I agree there is plenty of room to run as interest has been modest, at best, by Western investors.

Finally, the dollar is a touch softer this morning with both the euro (+0.25%) and pound (+0.25%) leading the way in the G10, although the yen is basically unchanged.  There was an interesting story in Bloombergdiscussing how volatility in the FX markets has been declining rapidly with many attributing this to the rise of algorithmic trading.  As well, all over X this morning are stories about how the dollar’s decline this year (about -14% vs. the euro) is unprecedented.  It’s not at all which is one of the reasons you need be careful about what people put up there.  It seems that some analysts are putting undue emphasis on the starting point being January 1st, rather than when the market tops.  But saying the dollar is declining in an unprecedented manner is absurd and picayune.  Meanwhile, EMG currencies are all over the place with gainers (KRW +0.4%, ZAR +0.4%) and laggards (MXN -0.5%, INR -0.25%) and everything in between.  

On the data front, PCE is Friday’s offering, but before then there is some stuff and more interestingly, there is lots of Fed speak.

TodayChicago Fed National Activity-0.17
TuesdayFlash Manufacturing PMI52.0
 Flash Services PMI53.9
WednesdayNew Home Sales650K
ThursdayDurable Goods-0.5%
 -ex transport-0.2%
 GDP (Q2)3.3%
 Initial Claims235K
 Continuing Claims1930K
 Existing Home Sales3.96M
FridayPCE0.3% (2.7% Y/Y)
 Core PCE0.2% (2.9% Y/Y)
 Personal Income0.3%
 Personal Spending0.5%
 Michigan Sentiment55.4

Source: tradingeconomics.com

On top of the data, we hear from…wait for it…ten different Fed speakers, including Chair Powell tomorrow, across 16 different events.  I expected to hear from a lot as there is clearly no real consensus at this point in time there.

People love to hate the dollar, and if the Fed is going to ease more aggressively, I understand that, but longer term, I think the story is different.  Just be careful.

Good luck

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A Centruy Hence

Posted on by

A century hence
The BOJ’s equities
May well have been sold
 
But policy rates
Were left unchanged yet again
What of inflation?

 

Finishing up our week filled with central bank meetings, the BOJ left rates untouched last night, as universally expected, and really didn’t indicate when they might consider the next rate hike.  Ueda-san has the same problem as Powell-san in that inflation continues to run hotter than target while the economy appears to be struggling along.  In addition, the political situation in Tokyo is quite uncertain as PM Ishiba has stepped down and a new LDP leadership election is set to be held on October 4th with the two leading candidates espousing somewhat different views of the future.  If I were Ueda, I wouldn’t do anything about rates either.  Interestingly, there were two dissents on the BOJ board with both calling for another rate hike.

But there was a policy change, albeit one that does not feel like it is going to have a significant impact for quite some time.  The BOJ has decided to start to sell its equity and ETF holdings, which currently total about ¥37.2 trillion, at the annual rate of…¥330 billion.  At this pace, it will take almost 113 years for the BOJ to unwind the “temporarily” purchased equities acquired during the GFC to support the market.  While the Nikkei initially fell about 2% after the announcement, it rebounded over the rest of the session to close lower by a mere -0.6%.  However, in a strong advertisement for the concept of buy and hold, a look at the below chart shows when they started buying and how well the BOJ has done.

Source: finance.yahoo.com

There is no indication that the BOJ has unrealized losses on their balance sheet like the Fed does!

What of USDJPY you might ask?  And the answer is, nothing.  It is essentially unchanged on the day and in truth, as you can see from the chart below, it has done very little for the past 5+ months, trading at the exact same level as prior to the Liberation Day tariff announcements.  While there was an initial decline in the dollar then, that was a universal against all currencies, but we are back to where we were.

Source: tradingeconomics.com

Consider, too, that over the course of the past year, the Fed has cut Fed funds by 125bps while the BOJ has raised their base rate by 60bps, and yet spot USDJPY is effectively unchanged.  Perhaps, short-term interest rate differentials aren’t always the driver of the FX market after all. 

In fact, there is a case to be made that the driver in USDJPY is the capital flowing out of Japan by fixed income investors as they seek a less chaotic situation than they have at home.  This could well be the reason for the ongoing rise in long-dated JGB yields to record after record, while Treasury yields seem to have found a top.  Recall, in the latest 10-year auction, dealers took down only 4% of the auction with foreign interest rising to 71%.  While there has been much discussion amongst the punditry of how nobody wants to buy Treasuries and they are no longer the haven asset of old, the nobody of whom they speak are foreign central banks.  But foreign private investors seem pretty happy to scoop them up and are doing so at a remarkable pace.  I think there are a few more years left before the dollar disappears.

Ok, let’s tour the markets here as we reach the end of the week.  Record highs across the board in the US yesterday as investors apparently decided that the Fed was just like Goldilocks, not too hawkish and not too dovish.  And the hits keep on coming this morning as futures are all higher by about 0.25% at this hour (7:15).  As to Asia, we discussed Japan already, and both China and HK were unchanged.  But elsewhere in the region, the euphoria was not apparent as Korea, India, Taiwan, Singapore and Thailand all fell by at least -0.3% or more while Australia, New Zealand and Indonesia were the only gainers, also at the margin on the order of 0.3% or so.

Europe this morning is also mixed with the DAX (-0.2%) lagging after weaker than expected PPI data indicated that economic activity is slowing more rapidly than anticipated, while both the CAC (+0.2%) and IBEX (+0.4%) are edging higher absent any new data.  There was a comment by an ECB member, Centeno from Portugal, that the ECB needs to be wary of “too low” inflation, a particularly tone-deaf comment after the past several years!  But I guess that is the first hint that the ECB is ready to cut again.

In the bond market, Treasury yields have been bouncing since the FOMC meeting and are now higher by 13bps since immediately after the FOMC statement.  Again, my view is this is a case of selling the news after the market was pricing in the rate cut ahead of the meeting.  I would argue that no matter how you draw the trend line of the decline in yields over the past several months, we are nowhere near testing it.

Source: tradingeconomics.com

And in what cannot be a surprise, European sovereign yields are all rising alongside Treasuries, with today’s bump up of another 1bp to 2bps adding onto yesterday’s 5bp to 7bp raise across the board.  As well, we cannot ignore JGBs which have jumped 4bps after the BOJ meeting last night.  I guess Japanese investors didn’t get any warm and fuzzy feelings about how Ueda-san is going to fight inflation.

Turning to commodities, oil (-0.4%) remains firmly within its recent range, ignoring Russai/Ukraine news as well as inventory data and economic statistics.  I don’t know what it will take to change this equation, but it certainly seems like we will be in this range for a while yet.  Peace in Ukraine maybe does it, or a major escalation there.  Otherwise, I am open to suggestions.  Gold (+0.2%) continues to be accumulated by central banks around the world as well as retail investors in Asia, although Western investors appear oblivious despite its remarkable run.  Silver (+0.7%) too is rallying and has been outperforming gold of late.  Perhaps of more interest is that the precious metals are doing so well despite the dollar’s rebound in the FX markets.

Speaking of which, this morning the dollar is firmer by 0.25% to 0.4% vs most of its G10 counterparts although some of the Emerging Market currencies are holding up better.  So, the euro (-0.25%), pound (-0.5%), AUD (-0.25%), CHF (-0.35%) and SEK (-0.6%) are defining the G10 with only the yen (0.0%) bucking the trend.  As to the EMG currencies, HUF (-0.65%), KRW (-0.6%) and PLN (-0.3%) are the laggards with the rest showing far less movement.  However, while short dollar positions are rife, there is not much joy there lately.  I grant that the trend in the dollar is lower, and we did see a new low for the move print in the immediate aftermath of the FOMC meeting, but it appears that people have not yet abandoned the greenback entirely.  Perhaps the lure of more new record highs in the stock market is enough to get foreigners to reconsider their “end of American exceptionalism” idea.

There is no data today nor are any Fed speakers on the calendar.  Perhaps the most notable data we have seen is UK Public Sector Net Borrowing, which fell to -£17.96B, a massive jump from last month and much worse than expected.  As you can see from the chart below, while there is much angst over US budget deficits, at least the US has the reserve currency on which to stand.  The UK has nothing, and the fiscal situation there is becoming more dire each day.  Yet another reason that the Starmer government can fall sooner rather than later.

Source: tradingeconomics.com

It is hard to look at that chart and think, damn, I want to buy the pound!  

For all the hate it gets, the dollar is still the cleanest dirty shirt in the laundry, and while it may trade somewhat lower in the near term, it will find its legs and rebound.

Good luck and good weekend

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More Insane

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Though debt round the world keeps on growing
The equity run isn’t slowing
But what’s more insane
Is yields slowly wane
Despite signs inflation ain’t slowing
 
The French are the latest to hear
Their credit’s somewhat less sincere
But CBs this week
Seem likely to tweak
Rates lower, and markets will cheer

 

Something is rotten in the state of financial markets, or at least that is the conclusion this poet has drawn (and please do not think I am trying to compare myself to Shakespeare).  No matter what my personal view of the economy may be, I cannot help but look at the recent performance of the equity market and the bond market and be extremely confused.  The chart below shows the past year’s price action in the S&P 500 (blue line) and US 10-year yields (green line). 

Source: tradingeconomics.com

Since early June, the two price series, which have historically had a pretty decent correlation, have gone in completely opposite directions.  Equity markets continue to trade to new highs on a regular basis as earnings multiples continue their expansion.  Typically, multiples only expand when growth expectations are rising, and the economy is in an uptrend.  Ergo, if multiples are high and rising, it seems equity investors believe that is the case.  I understand that view as there are strong indications the administration is going to continue to ‘run the economy hot’ meaning do all it can to increase economic activity and allow inflation to rise as well, counting on the fast growth to offset the pain.

However, 10-year Treasury yields have been sliding steadily for the past three months despite the equity market belief in running it hot.  Bond yields have historically been far more sensitive to inflationary pressures and the fact that yields have been declining, down >40bps since early June, would lead to a very different conclusion about the economy, that it is going to see much slower growth and by consequence, reduced inflationary pressures.

I have discussed the asynchronous economy in the past and I believe this is more proof of that thesis.  The equity markets are still being largely driven by the AI/Tech sector and while that is a huge portion of the equity market, its size within the overall economy is pretty small.  Given the capital weightings of both the S&P 500 and NASDAQ, strength in that sector has clearly been sufficient to drive stock indices higher.  However, much of the rest of the economy is not seeing the same benefits, and in fact, there is a portion suffering as AI takes over roles that had been filled by people thus increasing unemployment.  That segment of the economy is much larger, and it seems there is a growing probability that a recession may be coming there.  

Or not, if the administration is able to run it hot.  Ultimately, the thing the makes the least sense to me is that there is no indication that inflation is slowing anywhere back toward the Fed’s alleged 2% target.  Rather CPI looks far more likely to coalesce around the 3.5%-4.0% level which means that PCE, even on a core basis, is going to be hanging around 3.0%.  If the Fed is getting set to cut rates, and by all indication they are going to cut at least 25bps on Wednesday, I think it is clear that 3.0% is the new 2.0%.

And here’s the problem with that. When inflation is low, 2% or less, equities have historically been negatively correlated with bond prices, so if stocks fell, bonds rallied and the 60:40 portfolio had an internal hedge.  But when inflation is higher, and it doesn’t need to be 10%, 4% is enough to change the relationship, equity prices and bond prices tend to move in sync.  This means, if stock prices fall because of a recession, so do bond prices with yields rising.  In that situation, the 60:40 portfolio suffers greatly.  Just think back to 2022 when both equities and bonds fell -30% or so.  Where was inflation?  Right, we were in the throes of the Fed’s last mistake regarding the word transitory.  The below chart is the best I could find to show how things behaved in the 60’s and 70’s with inflation running hot and then how things changed after Mr Volcker began to squash inflation.

Original source: Isabelnet.com

And what of the dollar you may ask?  Well, theoretically, rising inflation should undermine the currency, but rising rates, when central banks fight inflation, should help support it.  However, this time, with rising inflation and the Fed set to cut, it seems the dollar may have some trouble, although as other central banks follow suit, and they will, the dollar will find support.

Ok, let’s see how things behaved overnight.  While Friday’s US session was mixed with only the NASDAQ managing to gain, there was more green in Asia and Europe.  The Japanese celebrated Respect for the Aged Day, so markets there were closed.  However, both HK (+0.2%) and China (+0.25%) managed modest gains despite (because of?) weaker than expected Chinese economic data.  Every aspect of the data, IP, Retail Sales, Investment and Unemployment, printed worse than forecasts and has now encouraged investors to look for further Chinese government stimulus to support the economy.  That theory helped Korea, Malaysia and Indonesia, all showing solid gains, but did nothing for the rest of the region, perhaps most surprisingly Taiwan.

In Europe, Fitch cut France’s credit rating to A+ from AA- based on fiscal deficits and political turmoil (aka no government), yet equity investors saw that as a buy signal with the CAC (+1.15%) leading European shares higher.  The DAX (+0.4%) and IBEX (+0.6%) are also doing well although the FTSE 100 (0.0%) is just treading water.  There has been no data of note, so it appears investors there are anticipating good things from the US where futures are higher by 0.2% at this hour (7:30).

Bond yields in the US are unchanged this morning, but European sovereign yields have slipped -2bps across the board, despite France’s downgrade.  I am really at a loss these days to understand the mind of bond investors.  I guess there is a growing belief that central bank rate cuts are going to help!

In the commodity sector, oil (+0.4%) has edged higher this morning but remains firmly in the middle of its 3-month trading range and is showing no desire to move in either direction.  Metals markets, meanwhile, are basically unchanged this morning, simply sitting at their recent highs with the latest contest on Wall Street being who can forecast the highest price for gold in 2026.  Goldman just explained that $5000/oz is reasonable if just 1% of risk assets move into the relic.

As to the dollar, while it did little most of the evening, as NY is walking in, it is slipping a bit, with the euro (+0.25%) and pound (+0.5%) leading the way higher in the G10, and truthfully across the board as the largest EMG moves are KRW (+0.4%) and HUF (+0.4%) while the rest have moved on the order of 0.1% to 0.2%.  There has been growing chatter that China is now going to allow the renminbi to start to strengthen more steadily (in fairness, it has been strengthening modestly since the beginning of 2025, up about 3% since then), and that this is part of the trade negotiations ongoing with the US currently taking place in Madrid.  But remember, while CNY has been creeping higher this year, a quick look at the chart below shows it has fallen substantially since 2022, having declined more than 17% between 2022 and the beginning of this year.

Source: tradingeconomics.com

On the data front, in addition to the FOMC, there are several other central bank meetings and some important data as follows:

TodayEmpire State Manufacturing5.0
TuesdayRetail Sales0.3%
 -ex autos0.4%
 Control Group0.4%
 IP-0.1%
 Capacity Utilization77.4%
WednesdayIndonesia Rate Decision5.0% (Unchanged)
 Housing Starts1.37M
 Building Permits1.37M
 Bank of Canada Rate Decision2.5% (-0.25%)
 FOMC Decision4.25% (-0.25%)
 Brazil Rate Decision15.0% (unchanged)
ThursdayBOE Rate Decision4.0% (unchanged)
 Initial Claims240K
 Continuing Claims1950K
 Philly Fed2.3
 South Africa Rate Decision7.0% (unchanged)
 Leading Indicators-0.1%
 BOJ Rate Decision0.5% (unchanged)

Source: tradingeconomics.com

So, while Retail Sales may give us some more color on the strength of the economy, it is really a week filled with central bank policy decisions and the ensuing discussions they have to spin things as they desire.  I imagine we will be getting an article from Nickileaks this afternoon or tomorrow to get Powell’s message out, but it remains to be seen if we are watching bond traders buy the rumor and they are set to sell bonds on the news, especially if the Fed goes 50bps, something that remains a real possibility in my mind, though the futures market is pricing just a 4% chance of that as of this morning.

A 50bp cut will undermine the dollar in the short run and may put pressure on the BOE to cut more rather than hold.  Until then, though, I suspect there will be little net movement in either direction.

Good luck

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Is That the Fear?

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Regarding the payroll report
The fear is jobs coming up short
But is that the fear?
Or will traders cheer
As 50bps they will exhort
 
With clarity at the Fed lacking
Because of Ms Cook’s recent sacking
And markets at highs
It seems to be wise
To hedge some exposure you’re tracking

 

Another month, another payroll day.  It certainly seems that the market has not lost any of its appetite for this particular data point, although one must be impressed with the ongoing rally to continuous record highs in share prices.  So, as we get started, let’s look at what expectations are for this morning’s numbers:

Nonfarm Payrolls75K
Private Payrolls75K
Manufacturing Payrolls-5K
Unemployment Rate4.3%
Average Hourly Earnings0.3% (3.7% Y/Y)
Average Weekly Hours34.3
Participation Rate62.1%

Source: tradingeconomics.com

Yesterday’s ADP Employment number was a bit softer than forecast at 54K with a very slight revision higher to the previous month’s reading.  And of course, poor Ms McEntarfer was fired last month after the massive downward revisions to the previous data so as much scrutiny as this number ordinarily receives, it feels like even that has been turned up to 11 this month.  If we look at the Initial Claims data for a signal, (or the 4-week average which removes situations where individual states are late to report) it is hard to get excited about a major problem in the labor market as per the below chart from tradingeconomics.com.

It has pretty much flatlined since the end of the Covid aberration.  Even more impressively, the number is low by much longer-term historical standards when the absolute population was smaller, yet Claims data were typically somewhat higher.  (I capped the Covid situation so you could get a flavor for the rest of the series).  It is hard to look at the last 58 years and describe Initial Claims as pointing to a problem.  While I didn’t shade the chart, you can see the recessions in 1970, 1973, 1980, 1982, 1990, 2001, 2008-9 as the periods when Claims peaked.  Again, it is difficult to look at this data and conclude a recession is around the corner, at least the traditional definition of one.

Source: FRED database

Of course, there is a very different vibe these days regarding employment as evidenced by the discussions you see on LinkedIn or even the stories in the WSJ regarding the unwillingness of people to leave a job as they fear finding a new one.

All this is just my way of saying that the asynchronous nature of the economy means we really don’t know what to expect.  But we can anticipate market reactions depending on the outcome.  FWIW, and remember, I am just a poet:

NFPBondsFed funds futuresStocksDollarGold
>75K4.30%20bps-1%0.50%-1%
35K – 75K4.15%25bps0%0%0%
0K – 35K4.10%35bps1%-0.5%0.20%
<0K3.95%50bps-1%-1.50%1.50%

So, there you have it, one man’s guesses as to how the markets will respond depending on the data.  In essence, it seems to me that the market has been anticipating enough support to cut rates to protect the economy without assuming the economy is going to crash.  That’s why a negative number will be such a problem because that will force a reevaluation of the economic situation and stocks cannot abide a repricing of that risk given the rich valuations. It will demonstrate that the Fed is behind the curve, at least in traders’ minds, and the result will not be pretty.  We shall see.

In the meantime, after yesterday’s rally in the US, equity markets around the world are all in the green this morning despite some mediocre data from Europe.  But starting with Asia, Japan (+1.0%) had a nice session although China (+2.2%) and Hong Kong (+1.4%) put it to shame.  While Japan benefitted from a reduction to 15% on automobile tariffs vs. Japanese cars, Chinese shares jumped on word from the PBOC that they would inject CNY1 trillion into the system and reduced fears of efforts to hold back the rally.  Elsewhere in the region, other than India, which was unchanged on the day, everything else was nicely higher following the main exchanges’ leads.  As to Europe, while all the bourses are higher, the gains are de minimis, on the order of 0.1% or so, with traders caught between hopes of a US rally and ongoing meh data at home.

In the bond markets, Treasury yields are down to 4.15%, lower by -1bp today, but as you can see from the chart below, down 15bps this week as anticipation of either soft data or 50bps, I’m not sure which, builds.

Source: tradingeconomics.com

In Europe, sovereign yields are all lower by -2bps this morning and we saw the same price behavior overnight in Asia with JGB’s and Australian bond yields slipping as well.  Maybe inflation is dead! (just kidding)

In the commodity markets, oil (-0.7%) continues to slide and has given back all the gains that accrued based on the idea that OPEC+ was going to cut production further.  Gold (+0.1%) continues to find support and drag silver and copper along for the ride as the yellow stuff sits at new historic highs.

Finally, the dollar is softer this morning, down about 0.2% to 0.3% vs. the G10 with similar declines across most of the EMG bloc.  I have a feeling this is the market that is anticipating a weak NFP print and a more aggressive Fed come the meeting in two weeks.  Futures, right now, are pointing to a 99% probability of a 25bp cut and a 55% probability of another cut in October.  Any weak print this morning is going to really show up here, as I explained above.

Source: cmegroup.com

And that’s what we have.  There are no Fed speakers lined up, and after today, the Fed enters its quiet period, so we won’t hear anything until the meeting on the 17th.  NFP will set the tone, so until then, all we can do is wait.

Good luck and good weekend

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