Tag Archives: #Fed

Rate Cuts Have Slowed

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The story that’s driving the news
Is one on which most have strong views
Both neighbors have claimed
Their borders are tamed
So, tariffs, the Prez, will not use
 
Meanwhile, data yesterday showed
That managers are in growth mode
The ISM rose
And Fed speakers chose
To validate rate cuts have slowed

 

The major economic story is, of course, the news that both Canada and Mexico have altered their behavior in order to prevent the imposition of 25% tariffs on their exports to the US.  Both nations have now promised to police the border between themselves and the US more tightly, and it also seems that the US now has operational control, via military overflights, of the Mexican border.  While there are many pundits who believe all this activity was merely theater and could have been accomplished without tariff threats, none of them are in a position of power.  In the end, I think it is very difficult to conclude anything other than Trump got what he wanted and achieved it via his preferred means.

The market response was very much what you might expect.  The early sharp declines in the CAD and MXN were reversed and the day ended with both currencies at basically the same levels they closed on Friday.  However, as you can see from the chart below, there was clearly some excitement and panic during the session, with back and forth 2% movements.

Source: tradingeconomics.com

Here’s the thing, I think you all need to be prepared for this type of activity on a regular basis for the next four years.  Certainly, there is nothing to suggest that President Trump is going to change his style and as long as he is successful in achieving his aims in this manner, he will continue with these activities.  Consider this as well, no national leader wants to appear weak, especially to their electorate, and so when President Trump turns his focus to a smaller nation, those leaders are very likely to try to stand up to the pressure, at least in public.  But in the end, most nations are far more reliant on the US market to buy their stuff than the other way around.  After all, the US is basically the consumer of last resort globally.  As such, very few nations can truthfully withstand an onslaught of this magnitude.

Now, turning to the state of the US economy, President Trump got some very positive news from the ISM data which printed at 50.9, its highest level since September 2022 and far higher than forecasts.  In fact, it is not hard to look at the recent trend in this data series and believe we are going to see positive economic growth going forward

Source: tradingeconomics.com

However, the downside here was that the Prices Paid portion of the index also rose, back to 54.9, implying that inflation pressures remain extant within the economy.  Now, you and I both know that is the case as we all deal with these prices on a daily basis, but until the data starts to become more obvious, it appears the Fed is always the last to know.

Speaking of the Fed, while only one speaker was on the schedule, Atlanta Fed President Bostic, we heard from three of them anyway as it remains clear to me there is a strong belief in the Marriner Eccles building that a key part of their job is to never shut up constantly pitch their narrative to try to keep markets in line.  So, as well as Bostic, we heard from Chicago’s Goolsbee and Boston’s Collins and they all basically said the same thing, perhaps best stated by Ms Collins, “There’s no urgency for making additional adjustments.  The data is going to have to tell us.  At some point I certainly would see additional normalization in terms of what the policy stance is.”  The last part of her comment refers to the idea that she, and truthfully all three, believe that further rate cuts remain appropriate despite the ongoing growth and continued stickiness of prices.  And to think, some people believe that Trump and the Fed are not on the same page.   They all want lower rates!

Ok, let’s turn to markets and see how they have behaved overnight.  Yesterday, after a pretty horrible opening on the basis of tariffs, tariffs everywhere, the news that they would be postponed saw US markets rebound, although still close lower on the session.  In Asia, Japan (+0.7%) rallied as so far, Japan remains out of the tariff sightlines, and Hong Kong (+2.8%) traded much higher in its first post-holiday session although mainland Chinese share trading doesn’t reopen until tonight.  Elsewhere in Asia, the screens were largely green, perhaps on the thesis that tariffs are just a negotiating tactic.  In Europe, the picture is more mixed with the UK (-0.2%) lagging while Spain’s IBEX (+0.8%) is the leading gainer.  The rest of the continent, though, is seeing gains on the order of just 0.2%, so not much love.  And at this hour (7:10) US futures are little changed.

In the bond market, Treasury yields, after edging higher by a few bps yesterday, are up another 2bps this morning and pushing back to 4.60%.  In Europe, sovereign yields are also firmer this morning, up between 2bps and 4bps across the board, although this is after sharply lower yields yesterday on still weak PMI data from the continent.  As well, Mr Trump is hinting that he is going to turn his tariff sights on Europe soon, so there has to be some trepidation there.  After all, Europe, which is already a basket case due to self-inflicted energy-based wounds, really cannot afford a trade fight with the US, especially since they have a net trade surplus on the order of $200 billion with the US.  Finally, JGB yields rose 3bps and are now at their highest level since May 2010 and look for all the world like the trend remains strongly intact as per the below chart.

Source: tradingeconomics.com

In the commodity markets, confusion in energy reigns as yesterday’s initial rally on Canadian tariff news has been completely reversed with oil (-2.1%) and NatGas (-4.2%) both falling sharply today.  But what is not falling is gold (+0.1%) which made yet another new all-time high yesterday and continues to defy gravity.  This has helped the entire metals complex with both silver and copper higher by 0.5% this morning.

Finally, the dollar continues its general winning ways this morning.  Yesterday saw early gains, also on the tariff story, which as evidenced by the chart at the beginning of the note, reversed.  But in the other currencies, the euro and pound remain under modest pressure along with Aussie, as all three are softer by about -0.3% today, with the yen (-0.4%) along for the ride.  In the EMG bloc, MXN (-0.6%), BRL (-1.2%) and ZAR (-0.3%) are also under pressure as though the immediate tariff threat seems to have abated, fear remains the driving force in the space.  Add to the tariff fears the fact that the US economy continues to outperform its peers, and the Fed has basically put the kibosh on any rate cuts anytime soon and it is easy to understand why money is flowing this way.

On the data front, JOLTS Job Openings (exp 8.0M) and Factory Orders (-0.7%, +0.6% ex Transport) are today’s information, and we hear from more Fed speakers.  It seems clear, so far, that the Fed mantra is wait and see as things evolve under President Trump.  Unless one of these speakers (Bostic, Daly, Jefferson) offers a different view, which seems unlikely, then I suspect the dollar will continue to find more support than resistance for now.

Good luck

Adf

Eclipse

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This morning, the question on lips
Is where did DeepSeek get their chips
As well, there’s concern
That China will learn
Our secrets, and so, us, eclipse

 

Narratives are funny things.  They seemingly evolve from nowhere, with no centralization, but somehow, they quickly become the only thing people discuss.  I’ve always been partial to the below comic as a perfect representation of how narratives evolve for no apparent reason.

Of course, yesterday’s narrative was that the Chinese LLM, DeepSeek, was built by a hedge fund manager with older NVDA chips and for far less money than the other announced models from OpenAI or Google and performed just as well if not better.  While equity traders were not going to wait around to determine if this was true or not, hence the remarkable selling on the open of all things AI, a little time has resulted in some very interesting questions being raised about the veracity of how DeepSeek was built, what type of chips they use and who actually built it.

For instance, a quick look at NVDA’s 10Q shows that, remarkably, Singapore is a major source of revenue, and it has been growing dramatically.

Source: SEC.gov

Now, it is entirely possible that Singapore is a hotbed of AI development, but from what I have read, that is not the case.  In fact, there is basically one lab there that has resources on the order of just $70mm.  But despite that lack of local investment, at least reported local investment, Nvidia shows that chip sales in Singapore nearly quadrupled in the last year.  Far be it from me to suggest that the narrative may change again, but who is buying those chips, more than $17 billion worth?  The idea that they have been trans shipped to China is quite plausible and they may well be what underpins DeepSeek.

Again, I have no first-hand knowledge of the situation but it is not beyond the pale to make the connection that China has been effectively circumventing US export controls through Singapore, have built their own LLM model using the exact same chips as OpenAI and others, but propagated a narrative that they have built something better for much less in order to undermine the US tech sector equity performance and call into question some underlying beliefs in the US market and economy.  Now, maybe this Chinese hedge fund manager did what he said.  But the one thing we know about China is, it is opaque in everything it does, so perhaps we need to take this story and dig deeper.  I am sure others will do so, and more information will be forthcoming, but it highlights that narratives continue to drive markets, but can also, at times, be constructed rather than simply evolve.

The thing is, this is still the only story of note in the market.  Scott Bessent was confirmed as Treasury Secretary yesterday, and indicated he was a fan of gradual tariff increases, perhaps 2.5% per month, rather than large initial tariffs, but that does not seem all that exciting.  And while Trump has not slowed down one iota, his focus has been on things like browbeating California into allowing reconstruction of LA rather than international issues, at least for the past twenty-four hours.  The upshot is that markets, which even yesterday closed far above their worst levels from the opening, are rebounding further today with many of yesterday’s moves reversing, at least to some extent.

Starting in the equity markets, despite the weakness in the tech sector, US market closes were far higher than the opens with the DJIA actually gaining 0.65% on the session.  However, while Japanese shares (-1.4%) definitely felt the pain of the tech sector, the rest of Asia saw some decent performance (Korea +0.85%, India +0.7%, Taiwan +1.0%) although Chinese shares (-0.4%) struggled.  Of course, one reason for that may be that the largest Chinese property company, Vanke, reported humongous losses and both the Chairman and CEO stepped down.

In Europe, though, all is well with every major exchange in the green led by Spain’s IBEX (+1.0%) although gains of 0.5% – 0.7% are the norm.  Now, remember, there is effectively no tech sector in Europe to be negatively impacted by the AI story, and it should be no surprise that these shares have followed the DJIA higher.  And this morning in the US futures market, at this hour (6:50), we are seeing gains on the order of 0.4% across the board.

In the bond market, yesterday’s early rally in prices (decline in yields) backed off as stocks bounced from their lows although Treasury yields still fell 10bps on the day.  This morning, the bounce in yields continues with Treasury yields higher by another 3bps and European sovereign yields rising between 1bp and 2bps on the session.  It will be very interesting to watch the bond market now that Bessent has been confirmed as Treasury Secretary given his goal to extend the maturity of the US debt outstanding.  Arguably, that should push up back-end yields, so we will see how effective he can be in reaching that goal.  

Turning to commodities, yesterday saw a rout there as well with both oil and the metals markets suffering greatly.  However, this morning, like many other markets, things are reversing course.  Oil (+0.75%) has bounced off its lows from yesterday, and despite a pretty rough past two weeks, is still higher than it was at the beginning of the year.  Gold and silver are unchanged from yesterday’s closing levels, and while off their recent highs, remain much higher in the past month.  Copper, too, is bouncing slightly and still much higher this month.  Perhaps yesterday’s price action was a catalyst for lightening up positions rather than changing views.

Finally, the dollar has rebounded vs. the G10 this morning, rising alongside US yields with the euro (-0.7%) and AUD (-0.8%) lagging the field, although dollar gains of 0.5% are the norm across the entire G10 this morning.  In the EMG bloc, the CE4 are all tracking the euro lower, with all down around -0.6% to -0.8%, but yesterday’s biggest laggards, MXN, COP and BRL are little changed this morning, not rebounding, but not falling further.  With the Fed expected to remain on hold while both the BOC tomorrow and ECB on Thursday are set to cut rates, perhaps the FX market is reverting to its more fundamental interest rate drivers than the hysteria of AI models.  If that is the case, then we are likely to turn our attention to Chairman Powell’s press conference as the next critical piece of news.

On the data front this morning, we see Durable Goods (exp 0.8%, 0.4% -ex Transport), Case Shiller Home Prices (+4.3%) and Consumer Confidence (105.6).  Yesterday saw New Home Sales rise more than expected but still resulted in the smallest number of sales for the year since 1995 when the population was far smaller.  

Once again, depending on where you look, you can find data that supports either economic strength or weakness.  It strikes me that today’s data will be of little consequence as traders will be focused on the equity market to see if the rebound has legs, as well as further news regarding DeepSeek.  Tomorrow, however, the Fed will take center stage.

Good luckAdf

Shortsighted

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The CPI data delighted
Investors, who in a shortsighted
Response bought the bond
Of which they’re now fond
And did so in, time, expedited
 
But does this response make much sense?
Or is it just way too intense?
I’d offer the latter
Although that may shatter
The narrative’s current pretense

 

Leading up to yesterday’s CPI data, it appeared to me that despite a better (lower) than expected set of PPI readings on Tuesday, the market was still wary about inflation and concerned that if the recent trend of stubbornly sticky CPI prints continued, the Fed would soon change their tune about further rate cuts.  Heading into the release, the median expectations were for a 0.3% rise in the headline rate and a 0.2% rise in the core rate for the month of December which translated into Y/Y numbers of 2.9%% and 3.3% respectively. At least those were the widely reported expectations based on surveys.  

However, in this day and age, the precision of those outcomes seems to be lacking, and many analysts look at the underlying indices prepared by the BLS and calculate the numbers out several more decimal places.  This is one way in which analysts can claim to be looking under the hood, and it can, at times, demonstrate that a headline number, which is rounded to the first decimal place, may misrepresent the magnitude of any change.  I would submit that is what we saw yesterday, where the headline rate rose to the expected 2.9% despite a 0.4% monthly print, but the core rate was only 3.24% higher, which rounded down to 3.2% on the report. Voila!  Suddenly we had confirmation that inflation was falling, and the Fed was right back on track to cut rates again.

Source: tradingeconomics.com

Now, I cannot look at the above chart of core CPI and take away that the rate of inflation is clearly heading back to 2% as the Fed claims to be the case.  But don’t just take my word for it.  On matters inflation I always refer to Mike Ashton (@inflation_guy) who has a better grasp on this stuff than anyone I know or read.  As he points out in his note yesterday, 3.5% is the new 2.0% and that did not change after yesterday’s data.

However, markets and investors did not see it that way and the response was impressive.  Treasury yields tumbled 13bps and took all European sovereign yields down by a similar amount, equity markets exploded higher with the NASDAQ soaring 2.5% and generally, the investment world is now in nirvana.  Growth remains robust but that pesky inflation is no longer a problem, thus the Fed can continue cutting rates to support equity prices even further.  At least that’s what the current narrative is.  

Remember all that concern over Treasury yields?  Just kidding!  Inflation is dying and Trump’s tariffs are not really a problem and… fill in your favorite rationale for remaining bullish on risk assets.  I guess this is where my skepticism comes to bear.  I do not believe yesterday’s data reset the clock on anything, at least not in the medium and long term.

Before I move on to the overnight, there is one other thesis which I read about regarding the recent (prior to yesterday) global bond market sell-off which has some elements of truth, although the timing is unclear to me.  It seems that if you look at the timing of the recent slide in bond markets, it occurred almost immediately after the fires in LA started and were realized to be out of control.  This thesis is that insurers, who initially were believed to be on the hook for $20 billion (although that has recently been raised to >$100 billion) recognized they would need cash and started selling their most liquid assets, namely Treasuries and US equities.  In fact, this thesis was focused on Japanese insurers, the three largest of which have significant exposure to California property, and how they were also selling JGB’s aggressively.  Now, the price action before yesterday was certainly consistent with that thesis, but correlation and causality are not the same thing.  If this is an important underlying driver, I would expect that there is more pressure to come on bond markets as almost certainly, most insurance companies don’t respond that quickly to claims that have not yet even been filed.

Ok, let’s see how the rest of the world responded to the end of inflation as we know it yesterday’s CPI data. Japanese equities (+0.3%) showed only a modest gain, perhaps those Japanese insurers were still out selling, or perhaps the fact that the yen (+0.3%) is continuing to grind higher has held back the Nikkei.  Hong Kong (+1.25%) stocks had a good day as did almost every other Asian market with the US inflation / Fed rate cuts story seemingly the driver.  The one market that did not participate was China (+0.1%) which managed only an anemic rally.  In Europe, the picture is mixed as the CAC (+2.0%) is roaring while the DAX (+0.2%) and IBEX (-0.4%) are both lagging as is the FTSE 100 (+0.65%).  The French are embracing the Fed story and assuming luxury goods will be back in demand although the rest of the continent is having trouble shaking off the weak overall economic data.  In the UK, GDP was released this morning at 1.0% Y/Y after just a 0.1% gain in November, slower than expected and adding pressure to the Starmer government who seems at a loss as to how to address the slowing economy.  As to US futures, at this hour (7:30) they are pointing slightly higher, about 0.2%.

In the bond market, after yesterday’s impressive rally, it is no surprise that there is consolidation across the board with Treasury yields higher by 2bps and similar gains seen across the continent.  Overnight, Asian government bond markets reacted to the Treasury rally with large gains (yield declines) across the board.  Even JGB yields fell 4bps.  The one market that didn’t move was China, where yields remain at 1.65% just above their recent historic lows.

In the commodity markets, oil (-1.0%) is backing off yesterday’s rally which saw WTI trade above $80/bbl for the first time since July as despite ongoing inventory builds in the US, and ostensibly peace in the Middle East, the market remains focused on the latest sanctions on Russia’s shadow tanker fleet and the likely inability of Russia (and Iran) to export as much as 2.5 million barrels/day going forward.  NatGas (+0.75%) remains as volatile as ever and given the polar vortex that seems set to settle over the US for the next two weeks, I expect will remain well bid.  On the metals side of things, yesterday’s rally across the board is being followed with modest gains this morning (Au +0.3%) as the barbarous relic now sits slightly above $2700/oz.

Finally, the dollar doesn’t seem to be following the correct trajectory lately as although there was a spike lower after the CPI print yesterday, it was recouped within a few hours, and we have held at that level ever since.  In fact, this morning we are seeing broader strength as the euro (-0.2%), pound (-0.4%) and AUD (-0.5%) are all leaking and we are seeing weakness in EMG (MXN -0.6%, ZAR -0.6%) as well.  My take is that the bond market, which had gotten quite short on a leveraged basis, washed out a bunch of positions yesterday and we are likely to see yields creep higher on the bigger picture supply issues going forward.  For now, this is going to continue to underpin the dollar.

On the data front, this morning opens with Retail Sales (exp 0.6%, 0.4% -ex autos) and Initial (210K) and Continuing (1870K) Claims.  We also see Philly Fed (-5.0) to round out the data.  There are no Fed speakers today, although in what cannot be a surprise, the three who spoke yesterday jumped all over the CPI print and reaffirmed their view that 2% was not only in sight, but imminent!  As well, today we hear from Scott Bessent, Trump’s pick to head the Treasury so that will be quite interesting.  In released remarks ahead of the hearings, he focused on the importance of the dollar remaining the world’s reserve currency, although did not explicitly say he would like to see it weaken as well.  The one thing I know is that he is so much smarter than every member of the Senate Finance committee, that it will be amusing to watch them try to take him down.

And that’s really it for now.  If Retail Sales are very strong, look for equities to see that as another boost in sentiment, but a weak number will just rev up the Fed cutting story.  Right now, the narrative is all is well, and risk assets are going higher.  I hope they are right; I fear they are not.

Good luck

Adf

Will It Matter?

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Will Japan hike rates?
How much will it matter if
They do?  Or they don’t?

 

Market activity and discussion has been somewhat lacking this week as the real fireworks appear to be in Washington DC where President-elect Trump’s cabinet nominees are going through their hearings at the Senate.  Certainly, between that and the ongoing fires in LA, the news cycle is not very focused on financial markets in the US.  This, then, gives us a chance to gaze Eastward to the Land of the Rising Sun and discuss what is happening there.

You may recall yesterday I mentioned a speech by BOJ Deputy Governor Himino where he explained that given the inflation situation as well as the indication that wages would continue to rise at a more robust clip in Japan, a rate hike may be appropriate.  Well, last night, Governor Ueda basically told us the same thing.  Alas, it seems that the BOJ takes a full day to translate speeches into English because there are no quotes from Ueda, but we now have the entire Himino speech from the day before.

Regardless, the essence of the story is that the BOJ is carefully watching the data and awaiting the Trump inauguration to see if there are any surprise tariff outcomes against Japan (something that has not been discussed) while they await their own meeting at the end of next week.  Market pricing now has a 72% probability of a 25bp rate hike next week, up from about 60% yesterday, and last night the yen did rally, climbing 0.7%.  However, a quick look at the chart below might indicate that the market is not overly concerned about a major yen revaluation.

Source: tradingeconomics.com

In fact, since the last BOJ meeting in December, when they sounded a bit more dovish than anticipated, the yen has done very little overall, treading water between 156.50 and 158.50.  While a BOJ rate hike would likely support the yen somewhat, there is another dynamic playing out that would likely have the opposite effect.  At the beginning of the year I prognosticated that the Fed may well hike rates by the end of 2025 as inflation seems unlikely to cooperate with their prayers belief that 2.0% was baked in the cake.  At the time, that was not a widely held view.  However, in a remarkably short period of time, market participants are starting to discuss the idea that may, in fact, be the case.  Even the WSJ today had a piece on the subject from James Mackintosh, one of their economics writers laying out the case.  The point here is that if tighter monetary policy by the Fed is in the cards, I suspect the yen will have a great deal of difficulty climbing much further.  Let’s keep an eye on the 156.00 level for clues that things are changing.

In England, inflation is rising
Less quickly than some theorizing
Meanwhile in the States
Jay and his teammates
Are hoping for data downsizing

Turning now to the inflation story, European releases were generally right on forecast except for the UK, where the headline rate fell to 2.5% while the core fell to 3.2%, 1 tick and 2 ticks lower than expected respectively.  Certainly, that is good news for the beleaguered people in the UK and it has now increased the odds that the BOE cuts rates at their next meeting on February 6th.  However, we cannot forget that the BOE’s inflation target, like that of the Fed, is 2.0%, and there is still limited belief that they will achieve that level even in 2025. But the markets did respond to the data with the FTSE 100 (+0.75%) leading the European bourses higher while 10-year Gilt yields (-8bps) have seen their largest decline in several weeks and are also leading European sovereign yields lower.  Interestingly, the pound has been left out of this movement as it is essentially unchanged on the day.  Perhaps there is a message there.

Which brings us to the US CPI data this morning.  after yesterday’s PPI data printed softer than expected at both the headline and core levels, excitement is building for a soft print and the resumption of the Fed cutting cycle.  However, it is important to remember that despite the concept that these prices should move together, the reality is they really don’t.  Looking at the monthly core movements below, while the sign is generally the same, the relationship is far weaker than one might imagine.

Source: tradingeconomics.com

In fact, since January 2000, the correlation between the two headline series is 0.04%, or arguably no relationship at all.  I would not count on a soft CPI print this morning based on yesterday’s PPI.  Rather, I am far more concerned that the ISM Services Prices Paid index last week was so hot at 64.1, a better indicator that inflation remains sticky.  But I guess we will all learn in an hour or two how it plays out.

Ahead of that, let’s look at the rest of the overnight session.  Yesterday’s mixed US equity performance (the NASDAQ lagged) was followed by mixed price action overnight with the Nikkei (-0.1%) edging lower on the modestly stronger yen and talk of a rate hike, while the Hang Seng (+0.3%) managed a gain on the back of Chinese central bank activity as the PBOC added more than $130 billion in liquidity ahead of the Lunar New Year holiday upcoming.  However, mainland shares (CSI 300 -0.6%) did not share the Hong Kong view.  Elsewhere in the region Taiwan (-1.25%) was the laggard while Indonesia (+1.8%) jumped on a surprise rate cut by the central bank there.

In Europe, though, all is green as gains of 0.4% (CAC) to 0.8% (DAX) have been driven by ECB comments that rate cuts are coming as concerns grow over the weakness of the economies there.  Germany released its GDP data and in 2024, Germany’s GDP shrank by -0.2%, the second consecutive annual decline and the truth is, given the combination of their insane energy policy and the fact that China is eating their proverbial lunch with respect to manufacturing, especially in the auto sector, it is hard to look ahead and see any positivity at all.  Meanwhile, US futures are higher by 0.5% or so at this hour (7:00) clearly with traders looking for a soft CPI print.

In the bond market, Treasury yields are lower by 3bps this morning but remain just below 4.80% and the 5.0% watch parties are still hot tickets.  European yields have also softened away from Gilts, with the entire continent lower by between -2bps and -4bps.  Right now, with dreams of a soft CPI, bond bulls are active.  We shall see how that plays out.

In the commodity space, oil (+0.3%) is modestly firmer after a reactionary sell-off yesterday.  The IEA modestly raised its demand forecast and supplies in the US, according to the API, were a bit tighter yesterday, so that seems to be the support.  NatGas is little changed right now while metals markets (Au +0.4%, Ag +0.5%, Cu +0.4%) are edging higher although mostly remain in a trading range lately.  Activity here has been lackluster with no new story to drive either direction.

Finally, the dollar is a touch softer overall, but away from USDJPY, most movement is of the 0.1% variety. Right now, the FX markets are not garnering much interest overall.

On the data front, expectations for CPI are as follows: Headline (0.3%, 2.9% Y/Y) and Core (0.2%, 3.3% Y/Y).  As well, we see Empire State Manufacturing (3.0) and then the Beige Book at 2:00pm.  We also have three Fed speakers, Williams, Kashkari and Barkin, but are they really going to alter the cautionary message?  I doubt it and the market continues to price a single 25bp cut for all of 2025.  The real fireworks will only come if/when price hikes start to get priced in as discussed above.

It is hard to get excited for market activity today as all eyes remain on the confirmation hearings and LA.  As such, I suspect there will be very little to see today.

Good luck

Adf

A Future Quite Noeth

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All eyes will be on NFP
As pundits are hoping to see
A modest result
That can catapult
The market to its apogee
 
If strong, the concern is that growth
Will strengthen and Jay will be loath
To cut rates once more
Which bulls will deplore
Implying a future quite noeth
 
If weak, then the problem for stocks
Is earnings will suffer a pox
So even if rates
Are cut in the States
The NASDAQ may still hit the rocks

 

It’s payroll day and especially after yesterday’s day of respect for the late President Carter closed equity markets in the US, investors are anxious to get back to business.  Here are the latest consensus estimates for the key figures to be released

Nonfarm Payrolls160K
Private Payrolls135K
Manufacturing Payrolls5K
Unemployment Rate4.2%
Average Hourly Earnings0.3% (4.0% Y/Y)
Average Weekly Hours34.3
Participation Rate62.8%
Michigan Sentiment73.8

Source: tradingeconomics.com

As well, there will be annual revisions to the household report today, which is the portion of the process that calculates the Unemployment Rate.  Next month we will see the annual revisions to the NFP, where estimates are already circulating that the number of jobs created in 2024 will be revised down by more than 1 million, nearly one-half of the claimed number (~2.2 million) created.

But ultimately, the reason this data point gets so much press is that it is half of the Fed’s mandate and so is closely watched by the FOMC as they consider any policy stance.  Yesterday, St Louis Fed president Musalem became the seventh or eighth Fed speaker since the last meeting to explain that more caution was warranted as the Fed tries to reduce what they still believe is a modest tightening bias.  “… [rate reductions] have to be gradual – and more gradual than I thought in September,” according to Musalem.  So, caution remains the watchword for every member of the FOMC and accordingly, the market is pricing just a 5% probability of a rate cut later this month.

The thing that has really changed over the past several months is the market’s reaction function to the data.  Part of this is based on the fact that it appears the Fed’s reaction function has changed a bit, and part of this is because the economic situation remains so confusing.

Regarding the Fed, given the fact that the data since they started cutting rates in September has been quite robust and given the fact they no longer have a political/partisan motive to cut rates, it strikes me it will be far harder for Powell and friends to justify further rate cuts from here.  After all, if GDP is growing at 3.0% and inflation is running at 3.3%, absent all other information, that data would truthfully argue for rate hikes.  However, there remains a large camp of analysts that continue to expect a significant slowdown in economic activity, with a number of well-respected voices claiming that we are already in a recession and have been in one since sometime in 2024.  

My view is that this confusion remains best explained by the concept of the K-shaped recovery where a smaller portion of the population, notably those with assets and investments in the markets, have been huge beneficiaries of Fed policies as they not only have seen their portfolios climb in value, but their cash is earning a nice return.  Meanwhile, a much larger percentage of the population, although a group that receives far less press from the financial reporters, continues to struggle given still rising prices and less overall opportunity for advancement.  This is the genesis of the labor strife we have seen, but there are many who remain left behind.  The problem for the Fed is they don’t really see this second cohort as their constituents, at least based on their policy actions.

As to today’s release, if we look at the recent Initial Claims data, it is consistent with a stronger number rather than a weaker one.  However, from a market perspective, I believe that a strong NFP number, something like 200K, will see a risk sell-off as the market continues to remove pricing for any rate cuts in 2025.  This will hurt stocks and likely bonds, although it will help the dollar and, surprisingly, commodities, as the market is likely to see increased demand forthcoming.

Elsewhere, aside from the wildfires in LA, which are a terrible tragedy, the other story in markets today revolves around the ongoing, slow motion disintegration of any remaining credibility in the UK government and its ability to address the many problems there.  Gilt yields continue to rise sharply, although I continue to hear many rationales as to why this is NOT like the October 2022 Gilt crisis.  Alas, while certainly the speed of this decline in Gilts is not quite as dramatic as we saw back then, the duration of the problem is far greater, and we have moved further now than then.  As you can see from the below chart, Gilt yields have risen 110bps since the middle of September, outpacing even Treasury yields and 10yr Gilts now yield 15bps more than Treasuries.  

Source: tradingeconomics.com

In fact, UK 10-year yields are the highest in the G10, although in fairness, they are not yet approaching levels like Mexico (10.6%), Brazil (14.75%) or Turkey (26.4%).  Perhaps Chancellor Reeves has those targets in mind.

OK, let’s see how markets behaved in the lead-up to the data this morning.  There was no joy in Mudville Asia last night as the Nikkei (-1.05%) slid amid new stories that the odds of a BOJ rate hike in two weeks are rising, while Chinese shares (Hang Seng -0.9%, CSI 300 -1.2%) were also under pressure amid news that the PBOC would stop buying bonds (ending QE) and additionally might be selling some to reduce liquidity in Hong Kong as they attempt to slow the decline of the renminbi.  The rest of the region was similarly under pressure across the board. 

In Europe, the picture is more nuanced with the DAX (+0.4%) and CAC +0.3%) showing some modest gains after slightly better than expected French IP data.  However, the FTSE 100 (-0.4%) and other continental bourses (IBEX -0.9%) are not quite as positive, with the FTSE clearly feeling pressure from the overall negative sentiment on the UK, while mixed data elsewhere is undermining any investor sentiment.  US futures at this hour (7:15) are pointing lower by about -0.25% across the board.  Fears of a strong number?

In the bond market, Treasury yields continue to climb, as they are holding onto yesterday’s rise of 5bps and this morning we are seeing European sovereign yields all creep higher by 1bp to 2bps.  JGB yields also rose 2bps overnight as part of that BOJ rate hike story.  In fact, the only market that didn’t see yields rise is China, where they remain within 2bps of their recent all-time lows

In the commodity markets, oil (+3.2%) is skyrocketing as continued cold weather increases heating demand while the reduction in inventories in Cushing, Oklahoma (the main point for NYMEX contract settlements) has raised concern over available supply of crude.  Meanwhile, metals prices continue to climb steadily with gold (+0.3%) continuing its run alongside silver (+0.8%) and copper (+0.45%).  The demand for “stuff” remains strong as nations around the world slowly lose confidence in government bonds as an effective store of value.

Finally, the dollar is, net, little changed this morning with some gains and some losses although few large moves.  On the dollar’s plus side we see KRW (-0.5%), ZAR (-0.55%) and BRL (-0.35%) while the yen and renminbi have both seen modest gains (+0.1%) on the back of the liquidity reduction stories in both nations.  However, we must keep in mind the dollar, as measured by the DXY, remains above 109 and continues to strongly trend higher.  My take is the highs seen in autumn 2022 are the next target, so look for the euro to sink below parity and the pound well below 1.20, probably 1.15, before too long.

There are no Fed speakers on the schedule today, although I imagine we will hear from somebody after the data since they cannot seem to shut up.  However, after today, they head into their quiet period ahead of the next FOMC meeting, so until then we will need to rely on Nick Timiraos from the WSJ to understand what Powell is thinking.

While nothing is that clear, and we could easily see a weak NFP report, my take is we are far more likely to see a strong one with stocks and bonds selling off and the dollar rising further.

Good luck and good weekend

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Tempt the Fates

Posted on by

Inflation just won’t seem to die
No matter what Jay and friends try
Will he tempt the fates
To once more cut rates?
And if so, will bond yields comply?

 

It took until 1:10pm yesterday for Nick Timiraos at the WSJ to publish his article regarding the fact that Strengthening Inflation Poses Challenge for Trump, Fed.  I find the title of the article interesting as, to the best of my knowledge, Mr Trump has yet to take office and enact any policies.  But I suppose if Chairman Powell doesn’t like Trump (which seems to be the widely held view) he wanted to ensure his mouthpiece took a dig and distracted the audience from Powell’s problems.

Regardless, yesterday’s CPI report was a bit firmer than forecast, at least at the second decimal place, which is enough for the punditry to discuss.  Of course, it is remarkable that a statistic of this nature is considered down to the second decimal place given the broad uncertainty over its measurement overall.  However,  looking at the chart below, which shows the monthly CPI readings for the past ten years, it is not hard to see that monthly inflation bottomed back in June and appears to be finding a new home at the 0.3% or higher level.  

Source: tradingeconomics.com

I showed the 10-year chart to also highlight that pre-Covid, the monthly readings were somewhere between 0.1% and 0.2% consistently.  My point is that 0.3% per month annualizes to about 3.7% which is as good a guess as any for how inflation is going to play out going forward absent some major fiscal and monetary changes.

Aside from the fact that this is important because we all suffer the consequences in our daily lives, from a markets perspective, I believe this is the money line in the article [emphasis added], “Officials have indicated sticky inflation could lead them to slow the pace of rate reductions or stop altogether.”  Yet, despite this strong hint that the Fed is getting uncomfortable with the market’s current assessment of how much further Fed funds are going to decline, the futures market is pricing a 98.6% probability of a cut next week.  

In fairness, the market is now pricing only two more rate cuts after next week for all of 2025, a number that has been declining slowly over the past month.  But ask yourself how the Fed will behave if their firmly held belief that inflation is still heading toward their 2% goal starts to falter under the weight of continued high readings.  There are a few analysts who are discussing rate hikes for next year for just this reason.  That, my friends, would upset the apple cart!

The central bank theme of the week
Is current rates need quite a tweak
Despite CPI
That’s still on the fly
More havoc, these bankers, will wreak
 
Down Under, though they didn’t cut
The doves’ case was open and shut
The Swiss and Canucks
Made changes, deluxe
While Christine, a quarter, will strut

While we are beginning to see some changes in the market’s perception of the Fed’s future path, those changes are not obvious elsewhere.  So far this week, the RBA left rates on hold, as they had promised, but explained the need to cut was upon them, demonstrating far less concern over inflation than in the past.  You may recall that the AUD fell sharply after the RBA statement put cuts in play going forward.  Then, yesterday, the BOC cut 50bps, as expected, as they, too, have turned their focus to economic activity and away from inflation, which continues above their target.  This morning, the Swiss National Bank surprised the markets with a 50bp cut, taking their base rate back down to 0.50%, expressing concern that inflation was slowing too rapidly and could become a problem.  Finally, shortly the ECB will announce their policy rate with the market highly confident a 25bp cut is on the way, although there are a few looking for 50bps.

The funny thing about all these cuts is that other than Switzerland, where recent CPI readings were at 0.7%, inflation remains above target levels and is demonstrating the same type of behavior as in the US, where it bottomed during the summer and is rebounding.  As well, especially in Europe, unemployment does not appear to be a major problem in these nations.  This begs the question, why are central banks so keen to cut rates if inflation remains sticky above their target levels and economic activity is hanging on?  

I have no good answer for this although I suspect there may be significant pressure from finance ministries regarding the cost of all that government debt that is outstanding and needs to be refinanced.  Alas, even though almost every central bank’s primary mandate is to maintain low inflation, it has become clearer by the day that following that mandate is not seen as important as other concerns.  Whether those concerns are economic activity or financing outstanding debt, or perhaps something else, I fear that we are heading back into a world where higher inflation is going to be the norm everywhere in the world.  Plan accordingly.

Ok, after another couple of record high closes in the US yesterday, let’s see how things have played out ahead of the ECB this morning.  In Asia, both Japan (+1.2%) and China (+1.0%) rallied on the brightening tech outlook, the prospect of further rate cuts and the ongoing hopes for that Chinese bazooka to finally be fired.  As well, Hong Kong (+1.2%) and Korea (+1.6%) also fared well, although the rest of the region was more mixed on much smaller movement.  In Europe, the best description ahead of the ECB is unchanged, with every bourse within 0.1% of Wednesday’s closing levels.  US futures at this hour (7:15) are pointing modestly lower, however, down about -0.2%.

In the bond market, despite all the surety of rate cuts, investors are not comfortable holding duration, and we are seeing yields continue to rise across the board.  Treasury yields are higher by another 3bps and back to 4.30% while European sovereign yields are all higher by between 3bps and 5bps.  It seems the bond markets are not convinced that central banks are behaving properly.  Perhaps the “bond vigilantes” will truly make a return after all.

In the commodity markets, oil (+0.1%) which managed to capture the $70/bl level is holding on this morning after the IEA raised its demand forecast for 2025 based on increased expectations for Chinese demand (because of the stimulus that is expected.). In the metals market, that Chinese stimulus is helping copper (+0.5%) although the precious sector is consolidating yesterday’s gains with gold (-0.3%) backing off slightly and silver unchanged.  However, gold is back above $2700/oz and appears to have finished its consolidation.

Finally, the dollar is mixed this morning, broadly holding onto its recent gains, but seeing some weakness against specific currencies.  For instance, BRL (+1.0%) responded to the fact that the central bank there, bucking the global trend, hiked the Selic rate by 100bps, a quarter point more than expected, as their concern over rising inflation increases.  (It seems they are one of the few central banks that is focused on their job, not the politics!). But away from that outlier move, we see AUD (+0.45%) rising on stronger than expected jobs growth data while NOK (+0.4%) is continuing to benefit from oil’s recent gains.  On the flip side, CHF (-0.35%) is suffering for the larger than expected SNB rate cut and GBP (-0.2%) is under modest pressure as traders debate whether the BOE will cut rates next week or not.

On the data front, Initial (exp 220K) and Continuing (1880K) Claims lead the way alongside PPI (0.2%, 2.6% Y/Y headline, 0.2%, 3.2% Y/Y core) at 8:30 this morning.  Beyond that, there is a 30-year auction this afternoon and that is really it.  I don’t see PPI having a great deal of impact and with CPI behind us, and Timiraos having told us that the Fed is going to slow the pace of cuts, I’m not sure what else there is to watch.  Obviously, this morning’s ECB meeting matters, but really, it is hard to get overly excited about the outcome there.  I suspect that attention will now be focused on the FOMC next week, with much more concern over the dot plot and SEP than the 25bp cut that seems a foregone conclusion.  

If the Fed is truly slowing the pace of cuts, once again, it becomes difficult to see how the dollar will soften vs. its major counterparts. Keep that in mind for now.

Good luck

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Kind of a Ruse

Posted on by

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

 

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

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

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

Source: tradingeconomics.com

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

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

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

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

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

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

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

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

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

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

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

Good luck

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A Warning

Posted on by

Though Trump has been leading the news
With folks asking who he will choose
As agency chiefs
That share his beliefs
For markets, today brings new cues
 
Inflation will soon be released
And though Jay claims he killed this beast
The data this morning
May well be a warning
Inflation, in fact, has not ceased

 

Source: tradingeconomics.com

Beauty (and everything else) is in the eye of the beholder.  So, what are we to make of the above chart which shows the past ten years’ worth of monthly Core CPI readings prior to this morning’s release.  Some eyes will travel to the peak in April 2021 (0.812%) and see a downward sloping line from there.  The implication is that the trend is your friend and that things are going well.  Others will gravitate to the June 2023 print (0.195%) and see that except for a blip lower in June 2024 (0.1%), the series looks like it may have bottomed and, if anything, has found a new home.

Remember, that if the monthly print is 0.3%, that annualizes to 3.7% Core CPI.  That seems pretty far above the 2.0% target that the Fed is shooting for and would call into question exactly why they are cutting interest rates.  In fact, you can look at the above chart and see that prior to the pandemic, core CPI on a monthly basis was below 0.3% every month except one, with many clearly down near the 0.1% level.

As much as Powell and his minions want to convince us that inflation is heading back to their goal and everything is ok, the evidence does not yet seem to be pointing in that direction.  For today, current median analyst expectations are for a headline of 0.2% M/M, 2.6% Y/Y and a core of 0.3% M/M, 3.3% Y/Y.  Even if the data comes as expected, it would seem very difficult to justify continuing to cut rates given the equity market remains essentially at all-time highs, while Treasury yields (-1bp today, +12bps yesterday) seem like they are starting to price in higher long-term inflation.

However, something interesting seems to be happening with the Fed speakers.  Richmond Fed President Barkin yesterday explained that things look pretty good, but declined to even consider forecasting where things will go.  As well, Minneapolis Fed President Kashkari indicated that while inflation has declined, it does not yet seem dead.  The Fed funds futures market is now pricing just a 62% probability of a rate cut in December.  One month ago, it was pricing an 84% probability.  As I have maintained, it seems increasingly difficult for the Fed to make the case that rate cuts are necessary given the economic data that we continue to see.  I understand that there are still a large group of pundits who believe things are much worse when you dig under the surface of the data, and I also understand that most people in the country don’t believe that things are going that well, hence the landslide election results for Mr Trump.  However, based on the data that the Fed allegedly follows, rate cuts seem difficult to support.  Today will be another piece of the puzzle.  If the data is hot, I expect risk assets to suffer more and the dollar to continue its rally.  If the data is soft, look for new records in stocks while the dollar retraces some of its recent gains.

With that in mind, let’s look at what happened overnight in markets.  Yesterday’s modest declines in the US market were followed by more selling than buying in Asia with the Nikkei (-1.7%) leading the way lower but weakness also seen in Australia (-0.75%), Korea (-2.65%), India (-1.25%) and Taiwan (-0.5%) as an indication of the general sense in the time zone.  The outlier here was mainland China (+0.6%) where hope remains eternal that the government will fire their bazooka.  In Europe, though, this morning is seeing a hint of red with most major indices lower by just -0.1% and Spain’s IBEX (+0.2%) even managing a small gain.  The commentary from the continent is over fears of how things will evolve with the new Trump administration and his threat of more tariffs on European exports.

But here’s something to consider.  If Trump is successful in quickly negotiating an end to the Russia/Ukraine war, won’t that be a huge benefit to Europe?  After all, if the war is over, they will be able to restart imports of cheap Russian NatGas which should have an immediate impact on their overall cost of energy, especially Germany, and help the economies there substantially.  I know they love to scream because they all hate Trump, but it seems like he could help them a lot if they would let him.  Oh yeah, US futures are a touch lower, -0.2%, at this hour (7:10).

Anyway, in the bond market, after yesterday’s rout in the US, yields are little changed this morning but in Europe, yields are climbing as they weren’t able to keep up with US yields yesterday.  So, on the continent, yields are higher between 2bps and 4bps after rising 4bps – 6bps yesterday.  In Asia, JGB yields jumped 4bps on the global rise in bond yields and are now back above 1.0%.  However, that has not been nearly enough to help the yen (-0.2%), which continues to weaken and is pushing back above 155.00 this morning.  

In the commodity markets, oil (+0.2%) is edging higher, but that seems to be consolidation after what has been a pretty awful week for the black sticky stuff.  OPEC reduced its demand forecasts for the 4th consecutive month, something else that is weighing on the price and, of course, the Trump administration is going to seek to make it much easier to explore for and produce more oil.  In the metals markets, gold (+0.5%) seems to have found a temporary bottom along with silver (+0.8%) although the damage has been substantial this week.  However, copper and aluminum remain under pressure as fears over continued weakness in China seem to be weighing on the price.

Finally, the dollar has stopped rising sharply, although it is not really declining very much, at least not vs. the G10 currencies.  In fact, vs. the G10, the dollar is softer by just 0.1% or so vs. the entire bloc other than the yen mentioned above.  However, vs. the EMG bloc, the dollar has ceded some more gains with KRW (+0.7%) the leader but MXN (+0.4%), CNY (+0.35%) and ZAR (+0.6%) all bouncing back after a week of substantial declines.  We all know nothing goes up or down in a straight line, so this consolidation is just that, it is not a trend change by any stretch.  A quick look at the MXN chart below, which is essentially what we have seen everywhere, explains just how insignificant the overnight movement has been relative to the recent trend.

Source: tradingeconomics.com

On the data front, aside from the CPI data, we hear from three more Fed speakers (Logan, Musalem and Schmid) so it will be interesting to see if they are starting to change their sense of how things are going to progress.  Of course, all eyes will be on Powell’s speech Thursday afternoon, but perhaps there are some clues to be had here.

It is not clear to me that anything has changed in the big picture.  The US economy continues to be the strongest one around and now has the added impetus of expectations for more positivity with the change in the administration.  In that environment, my long-term view on the dollar remains it has further to run.

Good luck

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Lickspittle

Posted on by

The Fed has a banker named Jay
Who last week was quick to betray
His fervent belief
He can’t come to grief
If Trump wants to force him away
 
This morning his Journal lickspittle
Wrote glowingly ‘bout Jay’s committal
To stand strong and firm
And finish his term
No matter how much he’s belittled

 

First, on this Veteran’s Day holiday, let us all pause a minute and remember those veterans who gave their lives for our nation.

The reverberations of Donald Trump’s re-election last week continue to be felt around the world with comments from virtually every walk of life explaining their joy/distress at the outcome and trying to prognosticate what will play out in the future.  I will tell you that I have no idea how things will evolve, although I am hopeful that his administration will be able to reduce the size of the federal government as that can only be a benefit.

But one of the things that we learn about people during times of change, especially people who believe they are crucially important to the world, is just how much they believe they are crucially important to the world.  Nothing highlights this quite like the lead article in this morning’s WSJ titled, If Trump Tries to Fire Powell, Fed Chair Is Ready for a Legal Fight.  This is not to say that Powell doesn’t have an important role, he certainly does.  But this pre-emption of the entire question is a testimony of just how important he thinks he is.  

My one observation on this is that despite all the discussion that the Fed isn’t political, it is clearly a very political institution.  Nothing highlights that better than this Tweet from Joseph Wang (aka @FedGuy12), a commentator who spent a dozen years at the Fed and understands its inner workings quite well.  Under the rubric that a picture is worth 1000 words, take a look at Federal Reserve political contributions below and then ask yourself if the Fed is not only political, but partisan.  

Source: X @FedGuy12

It is important to recognize this as it also may help explain why the Fed is cutting interest rates despite GDP (currently 2.8%) and Core PCE (currently 2.7%) running far above their long-term expectations and Unemployment (currently 4.1%) running below their long-term expectations as per the below SEP from the September FOMC meeting.  If anything, I might argue they should be raising interest rates!

Source: fedreserve.gov

At any rate, the ramifications of this election outcome are likely to drive the market narrative for a while yet.

But overnight, there just wasn’t that much of interest, at least not that much new.  So, let’s take a look at overnight market activity.  After Friday’s latest record high closes in the US, the picture in Asia was less robust with Japanese equities basically unchanged on the day after Shigeru Ishiba was elected PM to run a minority government, while Hong Kong (-1.5%) and mainland Chinese (+0.7%) shares went in opposite directions.  Chinese financing data was released that was mildly disappointing, but there are several stories about how the government is going to reacquire land that is currently in private hands but not being used and repurpose it for benefit.  The rest of the region had many more laggards than gainers, perhaps on concerns that Trump will be imposing tariffs throughout the region.  As to Europe, despite all the pearl clutching by the leadership there, equity investors are excited with gains seen across the board (DAX +1.3%, CAC +1.2%, FTSE 100 +0.8%).  US futures at this hour (7:30) are continuing their ride higher, up 0.4%.

In the bond market, Treasuries aren’t really trading today with banks closed.  In Europe, sovereign yields have edged down between 1bp and 2bps, perhaps feeling a little of that equity euphoria, as there was precious little in the way of news or commentary to drive things.

In the commodity space, oil (-1.7%) is under further pressure as broadly slower global growth undermines demand while prospects of the Trump administration fostering significant additional drilling opportunities helps build the supply side.  However, NatGas (+7.0%) is soaring this morning as Europe, notably Germany, is suffering from dunkelflaute (maybe the best word I have ever heard) which means ‘a period of low wind and solar power generation because it is cloudy, foggy and still’, and so they need to buy a lot more NatGas to power the economy.  In fact, NatGas is higher by nearly 15% in the past month although remains substantially cheaper in the US than in Europe and Asia.  My take is this discrepancy cannot last forever.  As to the metals markets, they are under pressure again this morning with both precious (Au -0.9%, Ag -0.3%) and industrial (Cu -0.5%, Al-1.4%) feeling the pain.  

A key driver in the metals space is the dollar, which is rallying against all its counterparts this morning quite robustly.  The euro (-0.6%) is back to levels last briefly touched in April, but where it spent more time a year ago, as it seems to be heading to 1.05 and below.  Meanwhile, JPY (-0.8%) is also feeling the heat while NOK (-0.7%) is pressured by both the dollar’s general strength and the oil weakness.  In the EMG bloc, MXN (-1.3%) is having a rough go as the tariff talk heats up, but we have also seen weakness in EEMEA with ZAR (-1.4%), PLN (-1.0%) and HUF (-1.2%) all under pressure this morning.  Not to be outdone, Asian currencies, too, are selling off with CNY (-0.3%) back above 7.20 for the first time since August while THB (-0.9%), MYR (-0.7%) and SGD (-0.6%) demonstrate the breadth of the move.

With the holiday, there is no data to be released today, but this week brings CPI amongst other things.

TuesdayNFIB Small Biz Optimism91.9
WednesdayCPI0.2% (2.6% Y/Y)
 Ex food & energy0.3% (3.3% Y/Y)
ThursdayPPI0.2% (2.3% Y/Y)
 Ex food & energy0.3% (2.9% Y/Y)
 Initial Claims224K
 Continuing Claims1895K
FridayRetail Sales0.3%
 -ex autos0.3%
 Empire State Mfg-1.4
 IP-0.3%
 Capacity Utilization77.2%

Source: tradingeconomics.com

In addition to this data, we hear from 11 different Fed speakers this week, including Chairman Powell again at 3:00pm on Thursday afternoon.  It is difficult to believe that the message from last week is going to change, but you never know.  However, I expect that every one of them is going to be explaining that things are good, but they are cutting rates to ensure things remain that way as they consistently congratulate themselves on having slain inflation.  I hope they are right…I fear they are not.

For now, though, the US economy remains the strongest in the world (7% budget deficits will help prop up growth after all) and capital continues to flow in this direction.  I see no reason for the dollar to fall anytime soon.  Whatever problems lie ahead, I believe they are over the metaphorical horizon and other than a few doomporn purveyors, not in the market’s view.

Good luck

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Clueless

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The risks to our mandates appear
More balanced so let us be clear
We’re still cutting rates
Which just demonstrates
We’re clueless and shaking with fear

 

To absolutely nobody’s surprise, the Fed cut the Fed funds rate by 25bps yesterday.  The accompanying statement explained, “The Committee judges that the risks to achieving its employment and inflation goals are roughly in balance.”  The implication is that they remain confident that inflation is slowly heading to their 2.0% target, and they are keeping a close eye on the Unemployment Rate, especially after the terrible number last week.  Of course, the combination of the Boeing strike and the impact of the two major hurricanes, Helene and Milton, were likely responsible for a significant portion of that underperformance, so we will need to see how the November report, published on December 6th plays out.  There is a lot of time between now and then so the narrative could easily change prior to the release.  Be vigilant.

The press conference consisted of a lot of self-congratulatory comments about how they have done a good job “recalibrating” policy and continuing to insist inflation is dying, although not quite dead yet.  The market response was to continue the US equity rally, with the NASDAQ (+1.5%) leading the way higher and to reverse some of yesterday’s bond losses with 10-year yields slipping -8bps.  In the commodity markets, yesterday saw all of them rebound, recouping roughly half of their losses from Wednesday and the dollar gave back some of those initial gains as well.

At this stage, the market is pricing a two-thirds probability of another 25bp cut at the December meeting, and all eyes are now going to turn to Trump and whatever policy prescriptions he starts to tout.  The early indication is that people expect more growth in the US from his policies as the no-landing scenario seems to be the favorite.  We shall see.

Investors had high hopes that Xi
Would give away more renminbi
Instead, in a flop
They’ve spurred a debt swap
While stimulus, no one can see

The other story of note overnight was the final statement of the Standing Committee in China, where many had expected hoped the elusive Chinese Bazooka would be fired.  It was not.  Instead, they gave more details on an effective debt swap that they will permit for local governments.  

A brief tutorial: Chinese cities and regions had typically financed infrastructure investment via local government funding vehicles (LGFV) which issued debt to investors that was backed by the government entity, but not officially on their balance sheet.  This model evolved because there were restrictions on how much debt these cities/regions were allowed to issue.  These entities would then sell land to developers to service and pay off the debt.  It all worked great while the property bubble in China was inflating and nobody was the wiser.  But now that property prices have been falling for 3 years, it is a major problem because the cities/regions aren’t generating the property sales and revenues needed to repay the debt.  

The solution that Xi came up with is to allow the cities/regions to issue debt on the balance sheet, upwards of CNY 10 trillion over the next 5 years, and replace the off-balance sheet stuff from the LGFVs.  And that’s it!  A debt swap that will likely lower interest rates slightly and save somewhere along the lines of CNY 600 billion over 5 years.  While the central government claims there is only a total of CNY 14.3 trillion in these LGFVs, most analysts put the number at around CNY 60 trillion.  This is not really that stimulative, will not help Chinese consumers nor factories in any way, and is very likely to have only a tiny impact. 

Cagily, the Standing Committee didn’t announce this until after local markets closed for the weekend, so the fact that stocks on the mainland and in Hong Kong only fell -1.0% does not represent the totality of the disappointment.  I expect we will see further declines next week.  President Xi has some tough sledding ahead for his economy.

And that was really the news of note.  Literally everything else you can read is a post-mortem of the election.  So, let’s look at how markets behaved overnight.  Away from the Chinese share declines, there were more winners than losers in Asia, with those nations that seem to have closer ties to the US benefitting (Taiwan, Australia, Singapore, New Zealand) while others which are more neutral or in China’s sphere of influence under pressure (India, Thailand, Vietnam).  The other noteworthy news was that the Chinese Current Account hit its second highest surplus ever last month, but with most people expecting significant tariff implementation when Trump takes office in January, I suspect those numbers will decline.  

Meanwhile, European bourses are almost entirely under water this morning with most lower by -0.9% although Spain’s IBEX is unchanged on the day.  There hasn’t been much in the way of new data, and I sense that investors are starting to price in more difficult relations with the US now that it seems clear the Republicans will win the House as well, giving Trump the ability to implement his vision.  Meanwhile, at this hour (6:50) US futures are little changed, consolidating ahead of the weekend.

In the bond market, yields which backed off in the wake of the FOMC meeting yesterday have edged 2bps lower this morning and are now sitting at 4.30%. This is the level, when first reached a week ago, set hair on fire as to the dichotomy between the Fed cutting rates and longer-term yields rising.  My view continues to be that yields have higher to climb over time as the Fed’s inflation fight is not won, and it will become evident that is the case going forward.  As to European sovereign yields, they are all lower by -4bps this morning as they are simply following Treasury yields but had to catch up given the FOMC meeting occurred after their close yesterday.

In the commodity markets, it appears that nobody wants to own ‘stuff’ anymore as they are back under real pressure.  Oil (-1.4%) is sliding although that makes sense as a Trump administration is very likely to support as much production as possible thus increasing supply.  But metals prices are also under pressure (Au -0.5%, Ag -1.5%, Cu -2.2%) which makes less sense as if economic expansion is the view, I would expect these to perform well.  Of course, it is possible that this is a reaction to the damp squib from China last night, but I expect these items to gradually regain lost ground.

Finally, the dollar is gaining some strength this morning, rising against most of its G10 counterparts with AUD (-0.6%) the worst performer, although JPY (+0.5%) and CHF (+0.2%) have managed to climb.  It’s almost as if this is a classic risk-off scenario in the FX markets.  Certainly, EMG currencies are under pressure this morning with ZAR (-1.1%) the laggard, but declines across the board, notably CNY (-0.3%) and pushing back toward the 7.20 level.  But the dollar is strong everywhere in this bloc.  

On the data front, Michigan Sentiment (exp 71.0) is all we get this morning although we also get our first Fed speaker, Governor Bowman, who has been one of the more hawkish voices.  One other thing to note is that the FAO’s Food Price Index was released this morning, climbing 2% to 127.4.  as you can see from the chart below, while this is not as high as prices reached in the immediate aftermath of the Russian invasion of Ukraine, this level is still in the upper echelons of where things have been over the past thirty-four years.

Source: tradingeconomics.com

It is worth remembering that the Arab Spring in 2011 was partially driven by rising food prices with large scale protests upending several governments.  Given how unhappy people around the world have been with their leadership, as evidenced by the number of governments that have been kicked out of office in recent elections and given that rising food prices have been a constant complaint, this needs to be kept in mind for how events unfold in the future.  To me, the market implication is that more volatile politics around the world will feed into more volatile financial markets as uncertainty grows.  In times of stress, the dollar remains the haven of choice, so this is just another reason to keep looking for the dollar to outperform in the medium term.

Good luck and good weekend

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