Tag Archives: federal-reserve

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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AI is Grokking

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The ‘conomy grew a bit faster
Than ‘spected by every forecaster
Consumers are rocking
While AI is Grokking
Though prices could be a disaster
 
The question this data incites
Is why cut rates from current heights?
With stocks on a tear
And ‘flation still there
The risk is the long bond ignites

 

Yesterday’s GDP data indicated that both consumer spending and AI investment were larger than expected with the result being GDP activity increased more than economists had forecast.  Most would consider this good news, and the equity markets clearly saw the benefits as they continue their slow march higher.  Surprisingly, despite the positive economic data, the Fed funds futures market did not reduce the probability of a rate cut next month.  Arguably that was because Governor Waller, one of the two who voted for a cut in July, spoke yesterday and reiterated his views that a cut was appropriate to prevent a worse outcome in the employment situation.  Frighteningly, he said, “I am back on Team Transitory.”  I fear that the transitory phenomenon is going to be the reduction in inflation we have experienced over the past two years, not the initial peak seen in 2022. (As an aside, if inflation is your concern, USDi is one way to maintain the purchasing power of your funds as it mechanically tracks CPI, rising in step with the index.)

Perhaps the futures market is starting to expect that Governor Lisa Cook’s days are truly numbered with a third instance of potential mortgage fraud surfacing yesterday, a situation that has a bad look for a Fed governor.  If she is forced out soon, that would be yet another Fed governor that President Trump will get to appoint, and the tension in the Marriner Eccles building will certainly grow at that September meeting.  After all, if Trump seats two more governors, and has 4 votes for a rate cut on the board, the question will not be should they cut, but how much they should cut with 50 basis points on the table regardless of the economics.

But all that is still three weeks away and based on the fact that if I look at almost every market, price action has been consolidating for the entire summer, it is hard to get excited in the short-term.  In fact, I think it is worthwhile to look at some charts so you can get a sense of just how little is going on.

All these charts are from tradingeconomics.com and I have drawn in some recent ranges to show that over the past 6 months, only one asset class has shown any trend of note.  See if you can guess which that is.  I’ll start with the EURUSD since, after all, I am an FX guy, but go to bonds, oil, gold and equities.

Since late April, the euro has chopped back and forth despite many stories of the dollar’s incipient demise and the euro’s upcoming rally as investors flock to European equity markets.  Maybe not.

Treasury yields have also been largely range bound, and if anything, look like they are heading lower despite fears being flamed regarding massive amounts of issuance having trouble finding buyers as foreigners pull out of the market.  Maybe not.

Crude has been the choppiest, and of course we did have the bombing of Iran’s nuclear facilities which inspired some fears of the beginning of a new Middle East war.  But Russia keeps pumping, OPEC put 2.2 million barrels per day of production back into the market and it appears, that for now, the market has found a balance.  I still see oil sliding over time, but for now, the range is king.

The barbarous relic has just started to pick up and broke above the $3400 range cap just two days ago but has not yet shown signs of a major breakout.  However, if the Fed cuts, especially if they go 50bps for some reason, I would look for this to change and gold (and all precious metals) to rally sharply as inflation re-enters the conversation.

However, if we look at the US equity market, the picture is very different.  The only other market moving like this is USDTRY as the Turkish Lira steadily depreciates amid massive monetary expansion there with inflation rising sharply.  In fact, this is what many foresee for the dollar going forward, but even if the Fed cuts, it seems a bit of an exaggeration.

At this point I should note that there is one currency that is outperforming the dollar right now, the Chinese renminbi.  It appears that as trade negotiations are ongoing, the Chinese (and the Koreans amongst others) have gotten the message that they need to adjust their currency’s value if an agreement is going to be reached.  

To conclude, ranges remain the situation in most markets other than equities which continue to rally based on hopes and prayers that central bank spigots are never turned off.  With Labor Day on Monday, perhaps we will begin to see more real activity reenter the market as traders and investors come back from summer vacation.  But we will need a real catalyst to break those ranges, whether that is a shocking NFP number, a reescalation of Middle East conflict or something else (China laying siege to Taiwan?).  While I don’t know what that catalyst will be, history tells us something will come along, that’s for sure.

As we look to the NY opening, we do get more important data as follows: Personal Income (exp 0.4%); Personal Spending (0.5%); PCE (0.2%, 2.6% Y/Y); Core PCE (0.3%, 2.9% Y/Y); Goods Trade Balance (-$89.5B); Chicago PMI (46.0); and Michigan Sentiment (58.6).  There are no Fed speakers on the docket, but you can be sure that the Lisa Cook story will remain front and center, especially as I read that the judge initially selected to oversee the case was Ms Cook’s sorority sister, potentially a disqualifying factor that would cause her recusal and a new appointment. In fact, I suspect that story will have more traction than whatever the data says today.

As to the dollar, it is hard to get excited at this point.  If PCE data is softer than forecast, though, I would look for the dollar to sell off and the probability of that Fed funds rate cut to rise from its current 85%.

Good luck and have a good holiday weekend

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Political War

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In Washington, Cook feels the heat
As Trump wants a change in her seat
In Paris, the sitch
For Macron’s a bitch
As confidence there’s in retreat
 
These two stories plus so much more
Explain that we’re in, Turning, Four
So, all that we knew
Seems no longer true
Instead, there’s political war

 

The dichotomy between the general lack of price volatility in markets and the increase in political volatility over policy choices and requirements around the world is truly remarkable.  However, just like so much else that many have assumed as a baseline process for so long, this relationship appears to be changing as well.  These changes have historical precedence, as documented by Neil Howe and William Strauss back in 1997 in their seminal book, The Fourth Turning.  

Perhaps this is the best definition of what the Fourth Turning is all about [emphaisis added]:

“In the recurring loop of modern history, a final, perilous era arrives once each lifetime.  It is marked by civic upheaval and national mobilization, both traumatic and transformative.  That era, reshaping the social and political landscape, is unfolding now.”

Now, read that and tell me it is not a perfect description of what we are seeing daily, not just in the US, but around the world.  If you wondered why all the models that had been built about many things, whether financial, economic or governmental are no longer offering accurate forecasts, I would point to this as the underlying premises are going through the throes of change.

For instance, consider President Trump and his relationship with the Fed.  We already know that he and Chairman Powell are at odds and have been so for months over Powell’s reluctance to cut rates.  But his attacks on the Fed are unceasing, and last night he ‘fired’ Governor Lisa Cook for cause.  That cause being the allegations that she committed mortgage fraud, which if true is certainly a concern for a Federal Reserve Board Governor.  But this has never been attempted before so will involve legal wrangling which we will watch over the next many months.

Now, some of you may remember the last time there was a scandal at the FOMC, where two different regional Fed presidents, Dallas’s Robert Kaplan and Boston’s Eric Rosengren, were trading S&P 500 futures in their personal accounts prior to FOMC announcements of which they had inside knowledge.  Both did step down and allegedly the Fed has tightened its controls on that issue as they tried to sweep it under the rug, but let’s face it, Fed members are no angels.

I have no idea how this will play out, although I suspect that Governor Cook will eventually resign as the one thing at which President Trump excels is applying public pressure.  While Powell is an experienced public figure, Ms Cook was a professor at Michigan State, not exactly a spot where you feel the withering heat of a Trumpian attack on a regular basis.  Of course, if she did lie on her mortgage applications, that is a tough look for someone charged with overseeing the financial system.

But that is just the latest issue in the US, at least involving financial markets.  This Fourth Turning is coming alive all around the Western World, perhaps no place more than Paris this morning.  There, PM Bayrou has called for a confidence vote in order to gain the power to pass an austerity budget that cuts €44 billion from spending.  While at this point, it seems long ago, his predecessor PM, Michel Barnier, lasted just 99 days with his minority government and was ousted last December.  While Bayrou has made it for 9 months, it appears his odds of making it for a full year are greatly diminished now as all the opposition parties have promised to vote against him.  Recall, he leads a minority government and if he loses the vote, there will be yet another set of elections in France.

Again, this is emblematic of a Fourth Turning, where systems and institutions that have been operating for decades are suddenly coming apart.  From our perspective, the impact is more direct here with French equity markets (CAC -1.5%) falling sharply (see below) while French government bond yields soar.

Source: tradingeconomics.com

In fact, French 10-year yields now trade above almost all other EU nations including Greece and Spain, although Italian yields are still a touch higher.  Consider that during the European bond crisis of 2011-12, France was considered one of the stronger nations.  Oh, how the mighty have fallen!

Source: tradingeconomics.com

Again, my point is that much of what we thought we understood about how markets behave on both an absolute and relative basis is changing because the institutions underlying the Western economy are undergoing massive changes.  This is not merely a US phenomenon with President Trump, but we are seeing a growing nationalist fervor throughout the West as populations throughout Europe, and even Japan, increasingly reject the culmination of what has been described as the globalist agenda.  As John Steinbeck has been widely quoted, things can change gradually…and then suddenly.

So, let’s look at how other markets behaved overnight following the weakness in US equity markets yesterday.  Asian markets followed suit lower (Tokyo -1.0%, Hong Kong -1.2%, China -0.4%, Korea -1.0%, India -1.0%) with essentially the entire region in the red.  Europe, too, is under pressure this morning and while France leads the way, Germany (-0.4%), Spain (-0.8%) and the UK (-0.6%) are all declining in sync.  However, at this hour (7:10) US futures are essentially unchanged, so perhaps things will stabilize.

Those yields I picture above represent modest declines from yesterday’s levels, although that is only because European yields yesterday mostly climbed between 5bps and 7bps across the board.  As to Treasury yields, they are higher by 2bps this morning, but remain below 4.30%, so are showing no signs of a problem.

In the commodity markets, oil (-1.8%) is giving back all its gains from yesterday and a little bit more, but in the broad scheme of things, continues to trade in its recent range.  The one thing to watch here is Ukraine’s increasing ability to interrupt Russian production and shipment of oil via long-range drone strikes, as if they continue to be successful, it may well start to push prices above their recent cap at $70/bbl.  That is, however, a big if.  It is getting pretty boring describing metals markets as gold (+0.3%) has been trading in an increasingly narrow range as per the below chart.  This has been ongoing since April and feels like it could last another 5 months without a problem.  Silver’s chart is similar, albeit not quite as narrow a range.

Source: tradingeconomics.com

Finally, the dollar is a touch softer this morning, slipping against the euro (+0.3%), pound (+0.2%), and yen (+0.2%) with most of the rest of the G10 having moved less than that.  NOK (-0.3%) is the outlier following oil lower.  In the EMG bloc, +/- 0.3% is the range for the entire bloc today, so it appears that traders like other G10 currencies today for some reason I cannot fathom.

On the data front, we see Durable Goods (exp -4.0%, +0.2% ex Transport) as well as Case Shiller Home Prices (2.1%) and then Consumer Confidence (96.2).  Speaking of Consumer Confidence, in France this morning the latest reading was released at 87.0, three points lower than forecast and clearly trending down.  Perhaps the government’s problems are feeding into the national psyche.

Source: tradingeconomics.com

It is difficult to get excited by markets during the last week of August, and if we add the time of year, when vacations are rife, to the ongoing White House bingo outcomes, the best position seems to be no position at all.  As to the dollar, if the Fed does start to ease policy at this time, with inflation still sticky, I do foresee a decline.  However, it is very difficult to look around the world and think, damn, I want to own THAT currency, whatever currency that might be.  Perhaps the one exception would be the Swiss franc, where they really do work to have sane monetary policies.

Good luck

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A FAIT Accompli

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Said Jay, ‘twas a FAIT accompli
As all of his minions agree
The average was flawed
And now our new god
Is maximum jobs, don’t you see
 
But really, what pundits all heard
Was rate cuts would not be deferred
Instead, twenty-five
Next month is alive
And fifty would not be absurd

 

Although Chairman Powell clearly wanted to focus on the new Monetary Policy Framework, as it has evolved, market practitioners really don’t care much about that.  All they care about is what is going to happen to interest rates.  So, here is the paragraph from Powell’s speech on Friday that got pulses quickening and led to another set of new all-time highs in equity markets [emphasis added]:

“Putting the pieces together, what are the implications for monetary policy? In the near term, risks to inflation are tilted to the upside, and risks to employment to the downside—a challenging situation. When our goals are in tension like this, our framework calls for us to balance both sides of our dual mandate. Our policy rate is now 100 basis points closer to neutral than it was a year ago, and the stability of the unemployment rate and other labor market measures allows us to proceed carefully as we consider changes to our policy stance. Nonetheless, with policy in restrictive territory, the baseline outlook and the shifting balance of risks may warrant adjusting our policy stance.” 

The market was quick to reprice the probability of that cut as well, with the current view up to an 87% probability, compared to 71% prior to Powell’s speech.  

Source: cmegroup.com

While I personally believe a cut is unnecessary, it does feel like he just promised one.

However, for the economists out there, those who feel above such mundane issues as the price of some stock, they were far more concerned about the Policy Framework.  It was the last review of this framework, back in 2019 which was released in early 2020 (pre-Covid) that Powell and friends harped on their concern over the Effective Lower Bound (ELB) aka zero interest rates.  Their fear was that with the then current rate structure so low, if a recession came about, they wouldn’t have the tools to address it.  So, in their definitively finite wisdom, they came up with Flexible Average Inflation Targeting (FAIT) which was designed to allow them to keep policy accommodative even if inflation was somewhat above their 2.0% goal, instead relying on the average inflation rate over time.  Of course, they didn’t describe what time constituted the period of averaging, but everyone understood that the idea was to run the economy hot.  Oops!  It turns out that wasn’t a really good idea once Covid hit, and the federal government responded by shutting down production while pumping some $5 trillion extra into the economy.  We are all still feeling the sting from that particular mistake.

Here is the pertinent commentary regarding the changes in the policy framework with shortfalls referreing to the shortfall of employment vs. full employment:

“We still have that view, but our use of the term “shortfalls” was not always interpreted as intended, raising communications challenges. In particular, the use of “shortfalls” was not intended as a commitment to permanently forswear preemption or to ignore labor market tightness. Accordingly, we removed “shortfalls” from our statement. Instead, the revised document now states more precisely that ‘the Committee recognizes that employment may at times run above real-time assessments of maximum employment without necessarily creating risks to price stability.’ Of course, preemptive action would likely be warranted if tightness in the labor market or other factors pose risks to price stability.”

In the end, I would argue all they have done is rejigger the wording of how they excuse running things hot and allowing inflation to rise.  Hence, the nearly promised rate cut and the new framework that says unemployment is the key.  

Enough about Friday.  Overnight, the key story came from China, where the city of Shanghai eased policy restrictions on home ownership to help restart that moribund market by allowing more people to buy as many homes as they would like. (It seems odd to me that after at least three years of a property problem, there would still be restrictions on home purchases, but then I never professed to understand Chinese policies.). At any rate, the very fact that there was more action on one of the key problems in the economy was a distinct positive and helped drive Chinese equity markets much higher (CSI 300 + 2.1%, Hang Seng +1.9%) with that news, along with the perception that the Fed is going to ease next month pulling the entire region higher. While Japanese shares (+0.4%) had a modest rally, Korea (+1.3%) and Taiwan (+2.2%) went gangbusters and literally every major bourse there was higher in the session.

In Europe, though, things are less bright with all the main bourses on the continent lower (DAX -0.25%, CAC -0.6%, IBEX -0.6%) although the FTSE 100 (+0.1%) is bucking the trend.  It appears there are concerns over the details of the ostensibly agreed trade deal with the US as well as concerns that the Russia-Ukraine peace negotiations are not progressing as well as hoped.  As to US futures, at this hour (6:50), they are taking a breather from Friday’s rally and currently point lower by about -0.25% across the board.

In the bond market, Treasury yields have recouped 2bps of the -3bps they fell in the wake of Chairman Powell’s speech on Friday.  However, they remain below 4.30% and continue to trade in a narrow range as per the below chart.  FYI, the mean over this period is 4.33%.

Source: tradingeconomics.com

European sovereign yields have been rising this morning, with the entire continent seeing yields higher by between 4bps and 5bps amid concerns that the mooted Fed rate cuts will not see any appreciable impact on European yields as those nations struggle with financing their promised €1 trillion of defense and infrastructure spending amid a stagnant economy.

In the commodity markets, oil (+0.6%) is continuing its slow rebound from the lows seen early last week but at $64/bbl, remain well within their trading range.  There were several Ukrainian attacks on Russian refineries overnight, which arguably helped the bulls’ case, but my take remains that the trend here is lower over time.  Since shortly after the start of the Ukraine war, prices have been trending lower steadily.

Source: tradingeconomics.com

In the metals markets, Friday’s Powell speech goosed all of them higher and this morning, like equity indices, they are backing off a bit with gold (-0.2%) and sliver (-0.45%) still trading near their recent levels.  We will need some outside catalyst, I think, to shake these markets up.

Finally, the dollar is a bit firmer this morning, also reversing some of Friday’s post-Powell decline, with both the euro and pound lower by -0.2% while the yen (-0.35%) is a touch softer than that.  The biggest movers have been ZAR (-0.7%) responding to the weakness in precious metals and CZK (-0.8%) and HUF (-0.9%), both of which appear to be reflexive sales after strong moves Friday.  If the Fed is really going to pay less attention to inflation, I see that as a distinct negative for the dollar.  That has been my concern all year, although the offsetting feature was the promise of massive inward investment flows.  But the short-term view is more focused on Fed policy, so beware more confirmation by Fed speakers that they are willing to cut.

On the data front this week, probably the most impactful number is NVidia earnings Tuesday after the close, but from an economic perspective, this is what we have coming,

TodayChicago Fed Nat’l Activity-0.2
 New Home Sales630K
TuesdayDurable Goods-4.0%
 -ex Trasnport0.2%
 Case Shiller Home Prices2.2%
 Consumer Confidence96.4
ThursdayInitial Claims230K
 Continuing Claims1975K
 Q2 GDP3.1%
 Q2 GDP Sales6.3%
 Q2 Real Spending1.4%
FridayPersonal Income0.4%
 Personal Spending 0.5%
 PCE0.2% (2.6% Y/Y)
 Core PCE0.3% (2.9% Y/Y)
 Chicago PMI45.5
 Michigan Sentiment58.6

Source: tradingeconomics.com

In addition to this, we only hear from Richmond Fed President Barkin (twice) and Governor Waller.  We already know Waller wants to cut, so Barkin is the one who can give us new info.  

And that’s what we have for today.  The ongoing ructions from Powell’s speech and the question of how investors will interpret the probability of a rate cut.  As I said, if they really are going to put inflation second, then the dollar will suffer.

Good luck

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Panic They’re Sowing

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While eyes and ears focus on Jay
And whatever he has to say
Poor Germany’s shrinking
And it’s wishful thinking
Japan’s kept inflation at bay
 
But fears about Jay have been growing
That rate cuts he will be foregoing
If that is the case
Most traders will race
To sell things while panic they’re sowing

 

Clearly, the big story today is Chairman Powell’s speech with growing expectations that he will sound more hawkish than had previously been anticipated.  Recall, after the much weaker than expected NFP data was released at the beginning of the month, it appeared nearly certain that the Fed was going to cut at the next meeting with talk of 50bps making the rounds.  Now, a few hours before Powell steps to the podium, the futures market is pricing just a 71% probability of that rate cut with a just two cuts priced in for 2025 as per the CME’s own analysis below:

Arguably, this is one reason that equity markets have been having trouble moving higher as the Mag7 drivers of the market are amongst the longest duration assets around, so higher rates really hurt them.  While there has been a rotation into more defensive names, if opinions start to shift regarding the magnificence of AI, or perhaps just how much money they are spending on it and the potential benefits they will receive, things could get ugly.

I also find it interesting that the Fed whisperer, Nick Timiraos at the WSJ, has been running flack for Chairman Powell in this morning’s article, trying to get people to focus on the Fed’s framework as the basis of today’s speech, rather than policy per se.  Briefly, the current Fed framework, was designed right before COVID when for whatever reason they were concerned that low inflation was a problem, and they created Average Inflation Targeting (AIT) as a way to allow inflation to run above their target of 2.0% for a period if it had been below that level for too long.  We all know how well that worked out and, in fact, we are all still paying for their mistakes every day!  The word is they are going to scrap AIT although it is not clear what they will come up with next.  It is exercises like this that foment the ‘end the Fed’ calls from a growing group of monetarist economists and pundits.

At any rate, comments from other Fed speakers indicate that most are not yet ready to cut rates, so Powell will be able to have a significant impact if he turns more dovish.  But we have to wait a few more hours for that so let’s turn our attention elsewhere.

Germany GDP data (-0.3% Q/Q, +0.2% Y/Y) was a few ticks lower than expected and continues to point to an economy that has no positive momentum at all.  In fact, a look at the quarterly GDP data from Germany paints a pretty awful picture if growing your economy is the goal.

Source: tradingeconomics.com

Clearly, the US tariff changes have been quite negative, but in fairness, Germany’s insane energy policy is likely a much bigger driver of their problems as they have the most expensive power costs in the EU.  It is very difficult to have a manufacturing-based economy if you cannot power it cheaply.  Again, while the euro is more than just Germany, this does not bode well for the single currency.

Turning to Japan, inflation continues to run far above their 2.0% target, printing last night at 3.1% on both the headline and core metrics, which while 2 ticks lower than June’s data, was still a tick higher than expected.  It has now been 40 consecutive months that core CPI in Japan has been above the BOJ’s 2.0% target and Ueda-san continues to twiddle his thumbs regarding raising rates.

Source: tradingeconomics.com

It is very hard to watch this lack of policy response to a clear problem, that from all I read is becoming a much bigger political issue for PM Ishiba, and have confidence that the yen is going to strengthen any time soon.  Back in May, the talk was of the unwinding of the carry trade.  All indications now are that it is being put back on in significant size.  FWIW I think we will see 150.00 before too long, especially if Powell sounds hawkish.

And those are really the stories today ahead of Powell and the NY open.  So, let’s see how things behaved overnight.  After a modest down day in the US yesterday, and despite the poor inflation data, Japan was unchanged overall.  However, China (+2.1%) had a huge up move apparently on the idea that US-China trade tensions are easing and despite continued weak data from the country.  Apparently, there has been a rotation from bonds to stocks by local investors driving the move.  Hong Kong (+0.9%) also had a strong session as did Korea (+1.0%) although India, Taiwan and Australia all struggled with declines between -0.6% and -1.0%.  In Europe, the. screens are green, but it is a pale green with muted gains (DAX +0.1%, CAC +0.25%, IBEX +0.4%) despite the weak German data.  Perhaps the belief is this will encourage the ECB to ease policy further.  Meanwhile, at this hour (7:15) US futures are pointing higher by 0.25% or so.

In the bond market, after climbing a few basis points yesterday, Treasury yields are unchanged, trading at 4.33%, so still range bound.  European sovereign yields are softer by -1bp to -2bps, again likely on the softer German data with hopes for a more aggressive ECB.  JGB yields edged higher by 1bp in the 10-year but the longer end of the curve there has seen yields move to new all-time highs with 30-year yields up to 3.216%. it feels like things are starting to unravel in Japanese bond markets.

Turning to commodities, oil (+0.4%) is creeping higher again this morning but remains in its downtrend and activity is lacking.  Meanwhile, the metals markets (Au -0.35%, Ag -0.5%, Cu -0.3%) are all under pressure from a combination of a strong dollar and a lack of investor interest, at least in the West.

Speaking of the dollar, it rallied yesterday and is largely continuing this morning with one notable exception, KRW (+0.75%) which benefitted from trade data showing exports rose 7.6% in the first 20 days of the month on strong semiconductor sales.  But otherwise, +/-0.3% or less is the story of the day, with most currencies within 0.1% of yesterday’s closing levels.

And that’s really it.  There is no data so we are all awaiting Powell and then anything that may come from the White House regarding trade deals, or peace, I guess.  As the summer comes to a close, unless Powell says rate hikes are coming or promises cuts, I expect that traders will have gone for the weekend by lunch time and it will be a very quiet market.

Good luck and good weekend

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A Final Bronx Cheer

Posted on by

Though markets are desperate for Jay
To cut, there is fear that he’ll say
It’s not yet the time
In this paradigm
As tariffs have caused disarray
 
But truly, Chair Jay’s greatest fear
Is that ere October this year
The Prez will have chosen
A new Chair and frozen
Him out with a final Bronx cheer

 

Yesterday saw the first substantial equity market move in nearly 3 weeks, with the NASDAQ declining 1.5% as concerns arose that the current extremely high valuations would have a more difficult time being maintained if the Fed does not ease policy as widely expected next month.  This resulted in all the Mag7 declining, which given they have been the driving force higher in the market, necessarily resulted in overall index declines.

Source: tradingeconomics.com

Of course, the question is, what made yesterday any different than previous sessions.  There were no earnings results of note, and arguably, the biggest tech news was the story about the US government taking a stake in Intel, something that seems likely to have been a positive.  However, there has been an increase in chatter about what Chair Powell is going to say on Friday at his Jackson Hole speech.  Notably, in the SOFR options market, there are a large, and still increasing, number of bets being placed that Powell will indicate 50bps is on the table in September.  But Wall St analysts continue to side with the patience crowd, explaining that while the current policy settings may be slightly restrictive, they are hardly suffocating for the economy.

While Powell has repeatedly blamed an uncertain impact of tariffs on his decision to maintain current policy settings, just like everything else, this is becoming extremely political.  Trump’s allies are lining up behind him and calling for immediate rate cuts to help support the economy.  At the same time, Trump’s political foes remain focused on preventing any Fed action that might help Trump, although they couch their arguments in terms of maintaining Fed ‘independence’.

However, last night was instructive in that two central banks, New Zealand and Indonesia, cut rates further while Sweden’s Riksbank, though standing pat, explained that more cuts are possible, if not likely, later this year.  While the PBOC did not cut rates, the pressure there is building as the economic situation is very clearly slowing down, as discussed last week after their data releases.  So, with most of the world cutting rates (Japan being the notable exception), pressure continues to mount on Powell and the Fed to pick up where they left off last December.

Hanging over both Powell’s speech and the September rate decision is the fact that Treasury Secretary Bessent explained yesterday that interviews for the next Fed chair would begin around Labor Day, just two weeks from now, and nearly eight months before Powell’s term ends.  This will almost certainly weaken Powell as other FOMC members and the market will look to whomever is selected for their views, with Powell serving out his term as a lame duck.  In fact, it is for this reason that my take is Powell’s speech at Jackson Hole will be less about policy and more an attempt to burnish his legacy.

And that’s where things stand.  With no data of note today, and yesterday’s housing data being mildly positive, but not enough to change macroeconomic opinions, the narrative writers are looking for something to say and Powell’s speech is where they have landed.  Absent a run of declining days, I put no stock in a change in the market temperature at this point.  So, let’s see how things behaved overnight.

In Asia, the Nikkei (-1.5%) had a rough night in a direct response to the US tech-led selloff.  Given that US markets have stabilized this morning, with futures unchanged at this hour (7:25), we need to see a continuation here before expecting a significant further decline there.  China (+1.1%), however, bucked that weaker trend, ostensibly on hopes that the ongoing trade talks with the US will prove fruitful.  Elsewhere in the region, Korea (-0.7%) and Taiwan (-3.0%) were both hit on the tech selloff blues but other markets, with less exposure to that sector were fine.  In Europe, it is a mixed picture with the DAX (-0.4%) the laggard after weaker than expected PPI indicated that current ECB policy needs to be more accommodative to help the country but may not be coming soon.  However, the rest of the continent is little changed.  surprisingly, UK stocks (+0.3%) are holding up well despite higher-than-expected CPI data which has adjusted analysts’ thoughts on whether the BOE will be able to cut again at their next meeting.

In the bond market, Treasury yields (-1bp) continue to trade in the middle of that band I showed yesterday, while European sovereign yields have also slipped between -1bp and -2bps this morning after the softer German price data.  The UK (-4bps) is a surprise as I would not have expected lower yields after a higher inflation reading.  Perhaps this is an indication that investors are expecting a much worse economic outcome from the UK going forward.

In the commodity markets, oil (+1.3%) is bouncing, but it remains in a well-defined downtrend for now as per the below chart.

Source: tradingeconomics.com

To change this trajectory, we will need to see something alter the production schedule, which with peace on the table in Ukraine seems likely to bring more oil to market not less, or we will need to see a significantly better economic outlook that drives a substantial increase in demand, something which right now seems unlikely as well.  I cannot get on board the higher oil price bandwagon at this time.  One other thing weighing on oil is the fact that NatGas has been trending lower for the past 6 months and is now at levels not seen since last November.  In fact, those two charts look remarkably similar!

Source: tradingeconomcis.com

There is a real substitution effect here and currently oil is trading at a price that is about 4X the energy price of NatGas.  Until that arbitrage closes, and it will eventually, oil will have difficulty rallying in my view. 

In the metals markets, gold (+0.4%) which sold off a few dollars yesterday is rebounding although both silver and copper are soft this morning.  These markets are just not that interesting right now.

Finally, the dollar is little changed this morning with one real outlier, NZD (-1.2%) which responded to the dovish tones of the RBNZ last night and is pricing in more interest rate cuts now.  KRW (-0.4%) also fell on concerns over trade and the semiconductor results but otherwise, there is very little ongoing here.

The only data this morning is EIA oil inventories with a small draw anticipated.  The FOMC Minutes come at 2:00 and there will be a lot of digging to see if other members seemed to agree with Bowman and Waller in their dissents at the last meeting.  Bowman spoke yesterday, but was focused on her role as chief regulator, not monetary policy, although we hear from Waller this morning.

A down day in equities is not the end of the world despite much gnashing of teeth.  It remains difficult to get excited about markets right now.  Perhaps Mr Powell will shake things up on Friday, but my sense is we will need to wait for the next NFP data to get some action.

Good luck

Adf

PS. A reader explained to me that in Australia, black swans are the norm, not the remarkable case as here in the US.  I guess we will need to find a new term to discuss an unexpected surprise.

What Would You Choose?

Posted on by

As summer meanders along
No market is weak, nor’s it strong
But traders keep trading
With hope masquerading
As knowledge, though they know they’re wrong
 
The question is what sort of news
Can catalyze changes in views?
Seems rate cuts will not
And peace had its shot
Dear readers, just what would you choose?

 

My friend JJ (he writes the Market Vibes note) made a profound comment that described the current situation so well, I think it is worth repeating: 

“It is not that the news and fundamentals are uninteresting or unimportant. They are. But vol control has anesthetized every future, ETF, equity, and FX market, and the managers of it are making trillions on it. Therefore, it is likely this narcolepsy won’t end for a while.”

A point he has been making of late, and one with which I cannot argue, is that everything that is not algorithmic is dumb money as the algos drive it all.  And it is a fair point.  Market activity has ground to a halt, and while I have no proof, I would estimate it is even quieter than the typical year’s summer doldrums.  That seems remarkable given the panoply of news stories that exist and in other times would have had a major market impact.  Consider, war and peace in Ukraine, massive changes in federal regulations and administration priorities, and remarkable electoral shifts around the world, yet none of it matters.  Consider this chart of the US 10-year Treasury:

Source: tradingeconomics.com

The yield, which most afficionados agree is critical to not just US, but global, financial markets and activity, has largely traded between 4.0% and 4.5% since well before Mr Trump was elected.  The one thing that cannot be said is that the Trump administration has been boring.  More has happened on the fiscal front in the past six months than in entire presidential terms and yet yields are essentially unchanged since November 5th when Trump was elected.

JJ’s view is the massive increase in the use of options by retail traders has become the driving force.  Retail buys options, paying premium which decays away and that value accrues to the market making algorithms. The amounts of premium are huge, in the $trillions, and it is a straightforward business model that reaps huge rewards, so a lack of movement is the goal.  I cannot argue with that either.

However, the one thing I have learned over my too many years in the market is that no matter how smart you are, no matter how well you have considered the potential outcomes, reality will be different, and at some point, there will be a tipping point to change the market dynamic.  After all, Covid was not expected, nor even more importantly, the government responses to it which is what drove the market volatility.  I am pretty sure there is another true black swan out there, something nobody is discussing as it currently seems irrelevant or impossible, but which will alter the game.

I spent my trading career learning to manage risks while running a global FX options business, trying to profit, but more importantly preventing the huge drawdowns that end careers.  I spent my sales career trying to help my clients understand their FX risks and learn to mitigate them in the most cost-effective manner possible.  What I learned over that 40+ years is that while risks sometimes seem unimportant, or unimaginable, they exist.  Do not mistake the current state for the future state.  Things will change, although how I cannot currently imagine.

With that as preamble, let’s look at just how little things are moving.  Stocks did nothing in the US yesterday and movement overnight in Asia was lackluster as well (Nikkei -0.4%, Hang Seng -0.2%, CSI 300 -0.4%).  As I wrote above, there is just not that much that is exciting investors right now.  Europe, however, seems to be taking a positive stance on the Oval Office meeting with many of their leaders as perhaps peace in Ukraine, if it is coming, will be helpful for the continent.  Ostensibly, Presidents Trump and Putin discussed a closer economic relationship between the US and Russia, which if that came to pass, would undoubtedly rearrange some things in markets, largely to the benefit of Europe.  As to US futures, they are unchanged this morning, again.

Bond markets in Europe are exactly unchanged across the board, so much so that you would expect it was a holiday there.  Treasury yields have edged lower by -1bp, but as I explained above, are simply range trading.

I would argue the commodity markets are where there is the most potential for movement going forward as any type of US-Russian economic détente would almost certainly reduce oil prices substantially.  And, coincidentally, WTI (-1.25%) is falling this morning as hopes for a direct meeting between Putin and Zelensky, and with it the end of the war, are increasing.  Weirdly, gold (+0.35%) is not declining on that news, despite the idea that gold represents a haven against war.  Perhaps gold represents a haven against money supply growth, which if there is an economic détente, you can be sure will increase.  As to the other metals, very little movement there either.  In the vein of the lack of activity, perhaps the below gold chart is even a better descriptor of just how little activity has been going on since spring.

Source: tradingeconomics.com

Finally, the dollar is a touch softer this morning, but it, too, remains rangebound.  While much has been made of its weakness in the first half of the year, as though that calendar period had some special significance (it doesn’t), here too, things have simply ground to a halt.  Using the dollar index (DXY) as our proxy, you can see that this market, too, has done nothing for months.

Source: tradingeconomics.com

Whether it’s G10 or EMG currencies, the movement remains desultory at best, and catatonic may be a better description.

So, let’s look at the data this week that will precede Chairman Powell’s speech Friday morning.

TodayHousing Starts1.30M
 Building Permits1.39M
WednesdayFOMC Minutes 
ThursdayInitial Claims226K
 Continuing Claims1960K
 Philly Fed6.0
 Flash Manufacturing PMI49.5
 Flash Services PMI53.7
 Existing Home Sales3.91M
 Leading Indicators-0.1%
FridayPowell Speech 

Source: tradingeconomics.com

I think it is worthwhile to consider why we look at the Leading Indicators.  The original design was that it tracked a series of indicators that historically had presaged economic activity.  Ahead of recessions, these indicators turned lower and so it seemed a pretty good fit.  However, as you can see from the below chart from conference-board.org, the creators of the index, since 2021, when the index turned lower, it has been completely out of sync with the economy’s outcome.

As I have repeatedly written, models that were created pre-Covid, and many pre-GFC, simply no longer have any relevance to today’s reality.

On the whole, the most likely outcome today, like every day lately, is limited movement in either direction.  While I am sure a black swan exists, he is currently hibernating.

Good luck

Adf

Stock-pocalypse?

Posted on by

Inflation is on traders’ lips
As rate cuts now lead all their scripts
But what if it’s hot
And questions the plot?
Will that lead to stock-pocalypse?
 
Meanwhile pundits keep on complaining
That everything Trump does is straining
Their efforts to force
A narrative course
And so, their impact keeps on waning

 

It is CPI Day and there are several different stories in play this morning.  Naturally, the first is that President Trump’s dismissal of BLS head McEntarfar calls into question the veracity of this data, which has already been questioned because of a reduction in the headcount at the BLS.  While we cannot be surprised at this line of attack by the punditry, it seems unlikely that anything really changed at the BLS in the past week, especially since there is no new head in place yet.  

But the second question is how will this data impact the current narrative that the Fed is set to cut rates at each of the three meetings for the rest of this year?  At this hour (6:30) the probability, according to the CME futures market, of a September cut has slipped to 84.3% with a 72% probability of two cuts by year end as per the below table courtesy of cmegroup.com.

Interestingly, the market remains quite convinced that the trend in rates is much lower as there is a strong expectation of a total of 125 basis points of cuts to be implemented by the end of 2026.  I’m not sure if that is pricing in much weaker economic growth or much lower inflation, although I suspect the former given the ongoing hysteria about tariff related inflation.

To level set, here are the current median estimates for today’s release:

  • Headline: 0.2% M/M, 2.8% Y/Y
  • Core:         0.3% M/M, 3.0% Y/Y

Now, we are all well aware that the Fed uses Core PCE in their models, and that is what they seek to maintain at 2.0%.  But, historically, PCE runs somewhere between 0.3% and 0.5% below CPI, so no matter, they have not achieved their goal.  However, we continue to hear an inordinate amount of discussion and analysis as to why the latest NFP report signals that a recession is pending.  And in fairness, if one looks at indicators like the ISM employment indices, for both manufacturing and services they are at extremely low levels, 43.4 and 46.4 respectively, which have historically signaled recessions.  At the same time, concerns over inflation rising further due to tariffs and other policy changes remain front and center in the narrative.  In fact, one of the key discussion points now is the idea that the Fed will be unable to cut rates despite a weakening labor market because of rising inflation.  I’m not sure I believe that to be the case although the last time that situation arose, in the late 1970’s, Chairman Volcker raised rates to attack inflation first.  However, that doesn’t seem likely in the current environment.

Remember this, though, when it comes to the equity market, the bias remains bullish at all times.  In fact, I would suggest that most of the narratives we hear are designed with that in mind, either to attack a policy as it may undermine stocks, or to cheerlead something that is pushing them higher.  I suspect that the major reason any pundits are concerned over higher inflation is not because it is a bad outcome for the economy, but because it might delay Fed funds rate cuts which they have all concluded will lead to higher equity prices. After all, isn’t that the desired outcome for all policy?

Ok, as we await the data this morning, let’s see how things behaved overnight.  Yesterday’s lackluster US session was followed by a lot of strength in Asia.  Japan (+2.15%) led the way on a combination of stronger earnings from key companies and the news about tariff recalculations.  (remember, they were closed Monday).  China (+0.5%) and Hong Kong (+0.25%) benefitted from news that President Trump has delayed the tariff reckoning with China by 90 more days as negotiations remain ongoing.  Australia (+0.4%) was higher after the RBA cut rates 25bps, as expected, while Governor Bullard indicated further easing is appropriate going forward.  There was one major laggard in Asia, New Zealand (-1.2%) as tariffs on their exports rose to 15% and local earnings results were softer than forecast.

In Europe, the picture is mixed with Germany (-0.45%) the laggard after much weaker than expected ZEW Economic Sentiment data (34.7, down from 52.7 and below the 40.0 forecast).  As to the rest of the region, there are modest gains and losses, on the order of 0.15% or less with talk about what will come out of the Trump-Putin talks on Friday in Alaska and how that will impact the European defense situation.  As to US futures, at this hour (7:15) they are unchanged.

In the bond market, Treasury yields are unchanged this morning, remaining below 4.30% although still well below the recent peak at 4.50% in seen in mid-July.

Source: tradingeconomics.com

European sovereign yields are edging higher by 2bps across the board as investors show caution ahead of both the US CPI data as well as the uncertainty of what will come from the Trump-Putin talks.  However, UK gilts (+4bps) responded to better-than-expected payrolls data there, although the Unemployment Rate remained unchanged at 4.7%.

In the commodity markets, oil (-0.35%) is still in the middle of a narrow trading range as it seeks the next story, arguably to come from Friday’s talks, but potentially from this morning’s CPI data if it convinces people that a recession is imminent.  Metals markets are little change this morning, consolidating yesterday’s declines but not showing any bounce at all.

Finally, the dollar remains generally dull with the euro (-0.1%) unable to spark any life at all lately.  We did see AUD (-0.4%) slip after the rate cuts Down Under and in the EMG bloc, there is a bit of weakness, albeit not enough to note.  There was an amusing comment from Madame Lagarde as she tried to explain that now is the time for the euro to shine on a global reserve basis because of the perceived troubles of the dollar.  Not gonna happen, trust me.

And that’s really it for today.  Another summer day with limited activity as we all await both the data and the next story from the White House, as let’s face it, that is the source of virtually all action these days.  A soft print today ought to result in a rally in both equities and bonds while the dollar might slide a bit as the prognosis for a rate cut increases.  But a hot print will see the opposite as fear of stagflation becomes the story du jour.  Remember, too, two more Fed speakers, Barkin and Schmid, will be on the tape later this morning so watch for any dovishness there as both have been very clear that patience is their game.

Good luck

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You Need to Squint

Posted on by

While data continues to print
It doesn’t give much of a hint
To where things are going
Unless you’re all-knowing
And even then, you need to squint
 
The reason for this situation
Is passive flows constant inflation
No matter the news
Or anyone’s views
The target funds need their proration

 

The hardest thing about macroeconomic analysis is trying to discern whether it has any impact on market movement.  For the bulk of my career, my observation was that while there were always periods when flows dominated fundamentals, they were short-lived periods and eventually those fundamentals returned to dominance in price action.  This was true in equity markets, where earnings were the long-term driver, outlasting short-term bouts or particular manias and this was true in FX markets, where economic performance and the ensuing interest rate differentials were the key long-term driver of exchange rates.  Bond markets were virtually always a reflection of inflation expectations, at least government bond markets and commodities were simple products of supply and demand of the physical stuff.

Alas, since the GFC, and more importantly, the global central bank response to the GFC, flooding financial markets with massive amounts of liquidity, G10 economies have become increasingly finanicialized to the point where the underlying fundamentals have less and less impact and funds flows are the driving force.  The below chart I have created from FRED data shows the ratio of M2 relative to GDP.  For decades, this ratio hovered between 53% and 60%, chopping back and forth with the ebbs and flows of the economy during recessions and expansions.  But the GFC changed things dramatically and then the pandemic and its ensuing response put financialization on steroids.

By 2011, this ratio hit 60% for the first time since 1965, and it has never looked back.  The result is that there is ever more money sloshing around the economy looking for a home with the best return.  This is part and parcel as to why we have seen both massive asset price inflation as well as consumer price inflation, too much money chasing too few goods.  And this is the underlying facet in why funds flows, whether between asset classes or between nations, are the new driving force of market price action.  Michael Green (@profplum99 on X) has done the most, and most impressive, work on the rise of passive investing, which is a direct consequence of this financialization.  The upshot is, as long as money comes into the system (your semi-monthly 401K flows are the largest) they continue to buy stocks regardless of anything fundamental.  And as almost all of it is capitalization weighted, they buy the Mag7 and maybe some other bits and bobs.  It doesn’t matter about fundamentals; it only matters how much they have to buy.

So, with that caveat as to why fundamental macro analysis has been doing so poorly lately, a look at the data tells us…nothing really.  As I wrote yesterday, the two main blocs of the economy, goods production and services production, are out of sync, with marginal strength in services outweighing marginal weakness in goods production and resulting in slow growth.  Whether you look at the employment situation, the ISM data or the inflation data, none of it points in a consistent and strong direction.

For instance, yesterday’s productivity and Labor cost data were better than expected, far better than last quarter’s and pointing to an improved growth outcome.  However, if we look at the past five years of this data, we can see that labor costs have grown dramatically faster than productivity as per the below chart (ULC in grey, Productivity in blue).

Source: tradingeconomics.com

Looking at this, it is no surprise that price inflation has risen so much, given labor’s impact on prices.  But, again, this is merely another impact of the massive flow of money into the economy over the past 15 years. 

Virtually every piece of data we get has been significantly impacted by this financialization which is one reason that previous econometric models, built prior to the GFC, no longer offer effective analysis.  The system is very different.  I continue to believe that over time, fundamentals will reassert themselves, but that belief structure is under increased pressure.  Perhaps YOLO and BTFD are the future, at least until our AI overlords come into their own and enslave the human population.

In the meantime, let’s look at what happened overnight.  Yesterday’s mixed, and relatively dull, US session was followed by a mixed session in Asia with Tokyo (+1.85%) soaring on news that there were going to be adjustments, in Japan’s favor as well as rebates, to the tariff schedule.  However, both the Hang Seng (-0.9%) and CSI 300 (-0.3%) saw no such love from either the Trump administration or investors.  As to the rest of the region, red (Korea, Australia, India, Thailand, Singapore) was more common than green (Malaysia).  Apparently, tariff adjustments are not universal.  In Europe, both Spain (+0.8%) and Italy (+0.8%) are having solid sessions but they are alone in that with the other major bourses (DAX 0.0%, FTSE 100 0.0%, CAC +0.2%) not taking part in the fun.  US futures, at this hour (7:30) are higher by about 0.4%.

Bond markets, meanwhile, are sleeping through the final day of the week, with Treasury yields unchanged on the day and European sovereign yields having edged higher by just 1bp across the board.  It seems, nobody cares right now.  After all, it is August and most of Europe is on vacation anyway.

Commodity markets are showing oil (+0.6%) bouncing off its recent lows, but this seems more about trading activity than fundamental changes.  Perhaps there will be a Russia-Ukraine peace, but it is certainly not clear.  Trump’s tariffs on India for continuing to buy Russian oil are also having an impact, but as I showed yesterday, I believe the trend remains modestly lower.  Gold (-0.3%) is currently lower but has been extremely choppy as you can see from the 5-minute chart below

Source: tradingeconomics.com

This is a market where supply and demand dynamics have been impacted by both tariffs and the interplay between financialized markets (i.e. paper gold or futures) and the actual metal.  There are many theories as to different players trying to manipulate the price either higher (the Trump administration in order to revalue Ft Knox holdings) or lower (the ‘cabal’ of banks that have ostensibly been preventing the price from rising according to the gold bug conspiracy theorists).  Recently, there has apparently been less central bank demand, but that can return at any time based on political decisions.  I continue to believe that it is an important part of any portfolio, but it should be tucked away and forgotten in that vein.  As to the other metals, they are little changed this morning.

Finally, the dollar is stronger this morning, as the euro (-0.3%) and yen (-0.65%) are both under pressure and leading the way.  In fact, virtually every G10 currency is weaker (CAD is unchanged) and yet the DXY seems to be weaker as well. Something is amiss there.  Meanwhile, EMG currencies are mostly down on the session with KRW (-0.5%) the laggard, but weakness in INR (-0.2%), PLN (-0.25%) and CZK (-0.25%). 

On the data front, there is none today.  Yesterday, Atlanta Fed president Bostic explained his view that only one rate cut was likely this year, which is not what we have been hearing from other FOMC members.  Obviously, there is still uncertainty at the Fed, but they also have more than a month to decide.  Today, we hear from KC Fed president Alberto Musalem, one of the more hawkish members, so it will be interesting to see if he has changed his tune.

I would contend that confusion is the driving force in markets because data markers are not pointing in one direction nor are Fed speakers.  But it is a Friday in August so I suspect it will be a quieter day as traders look to escape to the beach for the weekend.  This morning’s trends, a higher dollar and higher stock prices, seem likely to prevail for the day.

Good luck and good weekend

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A Bevy of Doves

Posted on by

The Fed has a bevy of doves
Whose world view was given some shoves
When Trump was elected
As they were subjected
To boxing, though without the gloves
 
But suddenly, they’ve found their voice
And rate cuts are now a real choice
So, bad news is good
And traders all should
Buy stocks every day and rejoice

 

Apparently, the signal has been given from on high at the Marriner Eccles building that discussing rate cuts is permitted.  Patience is no longer the virtue it was just last week.  In the past two days, three different FOMC members, Daly, Cook and Goolsbee, have returned to form and are quite open to cutting rates sooner after the recent employment data.  I would contend that rate cuts are their natural stance, but they were discouraged from expressing that view because it would put them in sync with the president, something that they very clearly have worked to avoid.  Regardless of the history, the Fed funds futures market is now pricing in a 93.2% probability of a cut next month as you can see below.  Perhaps more interesting is the fact this probability has risen from 37.7% in just the past week.  My how quickly things can change.

Source: cmegroup.com

I’m sure you recall that one of the key reasons Chairman Powell and his acolytes described the need to remain patient was the potential impact of tariffs on inflation.  This was even though the universal view was tariffs, a new tax, would be a one-off price increase, so would have no long-term impact, and that higher interest rates would do nothing to fight this particular cause of inflation, just like the price of food doesn’t respond to interest rates.  However, I want to highlight a piece from the WSJ this morning that asks a very good question, why wasn’t Powell concerned about all the tax increases from the previous administration, or for that matter, the tax increase that would have occurred had the BBB not been enacted.  Again, all the discussion that the Fed is apolitical is simply not true and never has been.

Moving on, I wanted to follow up on yesterday’s discussion as I, along with many market observers, have been trying to come to grips with the inconsistency in the data.  Some is strong, other parts are weak, and it is difficult to arrive at a broad conclusion.  My good friend, the Inflation_Guy™ put out a podcast the other day and made an excellent point, historically, there was a synchronicity between activity in the goods sector and the services sector, so when things in either sector started to decline (or rise) it took the other sector along with it.  But that is not currently the case.  

Instead, what we have seen is asynchronous behavior with the correlation between prices in the two sectors essentially independent of each other over the past five years, rather than tracking each other as they had done for the previous 30 years.  Extending the price action to overall activity, which seems a reasonable concept as prices follow the activity, depending on the data you observe, you may see strength or weakness, rather than everything heading in the same direction.  However, it is worthwhile to remember that systems in nature eventually do synchronize (see this fantastic clip) and so eventually, I suspect that both sectors will do so and a full blown recession (or expansion) will materialize.  Just not this week!

Which takes us to markets and how they have been responding to all the tariff news.  I think you can make one of the following two arguments regarding equity investors; either they have absorbed the tariff information and ensuing changes in trade behavior and have decided that earnings will continue to grow apace, or, they have no idea that there is a cliff ahead and like the lemmings they are, they are rushing toward the abyss.  Perhaps it is simply that President Trump has discussed tariffs so much that they have become the norm in any analysis thought process, and so modest adjustments don’t matter.  But whatever the reason, we continue to see strength pretty much across the board here.

The rally in the US yesterday was followed by strength across almost all of Asia with gains in Tokyo (+0.7%) and Hong Kong (+0.7%) as well as Korea, India and almost all regional bourses.  China, however, was unchanged on the session after their trade balance rose a less than expected $98.2B, as imports rose more than expected.  However, as this X post makes clear, it should be no surprise given the renminbi’s real exchange rate continues to fall, hence their exports remain quite competitive, tariffs or not.  As to Europe, strength is the word here as well (DAX +1.5%, CAC +1.2%, IBEX +0.5%) although the FTSE 100 (-0.5%) is lagging ahead of this morning’s expected BOE rate cut.  And don’t worry, US futures are higher across the board as well.

In the bond market, yields have been edging higher with Treasury yields up 2bps after yesterday’s 10-year auction was not as well received as had been hoped, but then, yields were 25 basis points lower than just a week ago, so demand was a little bit tepid.  European sovereign yields are also edging higher, mostly higher by 1bp and we saw the same thing overnight in JGBs, a 2bp rise.

In the commodity markets, oil (+0.6%) has found a short-term bottom, but is just below $65/bbl, which seems like a trading pivot of late as can be seen by the chart below from tradingeconomics.com.  As my personal bias is that the price is likely to decline going forward, the 6-month trend line heading down does appeal to me, but for now, choppy is the future.

Meanwhile, metals markets are in fine fettle this morning (Au +0.4%, Ag +1.4%, Cu +0.15%) as the dollar’s recent weakness seems to be having the expected effect on this segment of the market.

Speaking of the dollar, as more tariffs get agreed, I am confused by its weakness since I was assured that the response to higher US tariffs would be a stronger dollar.  But arguably, the fact that the Fed is suddenly appearing much more dovish is the driver right now, and while the euro is little changed this morning, we are seeing the pound (+0.4%), Aussie (+0.3%) and Kiwi (+0.4%) all move up, although the rest of the G10 space is higher by scant basis points.  In the EMG bloc, movement, while mostly higher in these currencies, is also measured in mere basis points, with INR (+0.25%) the largest mover by far.  Arguably, it is fair to say the dollar is little changed.

On the data front, the BOE did cut rates 25bps as expected, although the vote was 5/4, a bit more hawkish than forecast which is arguably why the pound is holding up so well.  US data brings Initial (exp 221K) and Continuing (1950K) Claims as well as Nonfarm Productivity (2.0%) and Unit Labor Costs (1.5%).  This is a much better mix of this data than what we saw in Q1 with productivity falling -1.5% while ULC rose 6.6%.  That was a stagflationary outcome.  In addition, we hear from two more Fed speakers, Bostic and Musalem, as the Fed gets back in gear this week.  It will be interesting to see if they are more dovish as neither would be considered a dove ex ante.

Apparently, we are back on board the bad news is good for stocks train, and it is hard to fight absent a collapse in earnings or some other catalyst.  As such, with visions of Fed cuts dancing in traders’ heads, I suspect the dollar will remain under pressure for a while.

Good luck

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