Tag Archives: #FOMC

Fear Has Diminished

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From Asia, last night, what we learned
Was China, the corner, has turned
The lockdowns are finished
And fear has diminished
Thus spending, in spades, has returned

The major news overnight comes from China, where the monthly release of data on IP, investment and Retail Sales showed that the Chinese economy is clearly regaining strength.  Arguably, the most noteworthy number was Retail Sales, which while still lower by -8.6% YTD, has rebounded to be 0.5% higher than August of last year.  Anecdotally, movie theaters there have seen attendance return to ~90% of pre-Covid levels, obviously far above anything seen here or in most of Europe.  In addition to the Retail Sales data, IP there rose 5.6% Y/Y and Property Investment rose a greater than forecast 4.6% on a YTD basis.  Overall, while these numbers are still well below the data China had been reporting pre-Covid, they point to Q3 GDP growth in excess of 3.0%, with some analysts now expecting GDP to grow as much as 6% in the third quarter.

With this unalloyed good economic news, it should be no surprise that the renminbi has performed well, and in fact, CNY is one of the top performers today, rising 0.5% and trading to levels not seen since May of last year.  While there are still numerous concerns regarding different aspects of China’s economy, notably that its banking sector is insolvent amid massively underreported bad loans, on the surface, things look better than almost anywhere else in the world.  Perhaps what is more surprising is that the equity market in Shanghai, which rose 0.5% overnight, did not have a better day.

Down Under, the RBA noted
That Aussie, though not really bloated
Would be better off
In more of a trough
Thus, helping growth there be promoted

Meanwhile, the Minutes of the most recent RBA meeting showed that while they couldn’t complain that the Aussie dollar was overvalued, especially given the recent rebound in commodity prices, they sure would like to see it lower to help the export sector of the economy.  However, despite reaffirming they would continue to support the economy, and that yield curve control wasn’t going anywhere, they gave no indication they were about to increase their support.  As such, AUD (+0.6%) is the top G10 performer of the session, and it is now pushing back to the 2-year highs seen earlier this month.

Turning to Europe, the two stories of note come from the UK and the ECB.  In Parliament, PM Johnson had the first reading of his bill that is set to unilaterally rewrite the Brexit deal with the EU, and it passed handily.  It appears that Boris believes he needs even more leverage to force the EU to accede to whatever demands remain in the negotiations, and he is comfortable playing hardball to achieve his ends.  The Europeans, however, continue to believe they have the upper hand and claim they are prepared to have the UK leave with no deal.  Politics being what it is, I imagine we won’t know the outcome until the last possible date, which is ostensibly next month at the EU Summit.

In the meantime, the market is starting to get concerned that a hard Brexit is back on the table and that the pound has much more to fall if that is the outcome.  While the market is not at record long GBP position levels, it is still quite long pounds.  The options market has been pricing more aggressively, with implied volatility around 12% for year-end (compared to 3-month historic volatility of just 9%) and risk reversals 2.5 points for the GBP puts.  While the pound has fallen a bit more than 4% since its peak on September 1st, it is still well above levels seen when fears of a hard Brexit were more prevalent.  As this new bill makes its way through Parliament, I suspect the pound will have further to decline.

As to the ECB, we have had yet more verbal intervention, this time from Italian Executive Board member, Fabio Panetta, who repeated that the ECB needs to remain vigilant and that though they have done a great job so far, they still may need to do more (i.e. ease further) in order to achieve their inflation goals.  The euro, however, continues to drift higher, up another 0.25% this morning, as the market appears to be preparing for a more aggressive FOMC statement and implicit further easing by the Fed.  While I believe it is too early for the Fed to more clearly outline their explicit plans on how to achieve average inflation of 2.0%, clearly there are many market participants who believe the Fed will be the most aggressive central bank going forward and that the dollar will suffer accordingly.  We shall see, but as I have repeatedly indicated, and Signor Panetta helped reiterate, the ECB will not stand idly by and allow the euro to rally unabated.

And those are really today’s stories.  Risk appetite continues to be fed by perceptions of further easy money from all central banks and we have seen equity markets continue their rebound from the short correction at the beginning of the month.  While Asia was mixed, Europe is in the green and US futures are pointing higher as well.  Treasuries are a touch lower, with yields up about 1 basis point, but the reality here is that yields have been in a very tight range for the past month.  In fact, the idea that the Fed needs to introduce yield control is laughable as it appears to already be in place.

As to the rest of the FX market, the dollar is under pressure everywhere, although Aussie and cable are the two leaders in the G10 space.  Elsewhere, there appears to be less conviction, or at least less rationale to buy the currency aggressively.  In the EMG bloc, ZAR is the leader, rising 1.2% this morning, continuing its strengthening trend that began back in August and has seen a nearly 7% appreciation in the interim.  Otherwise, there has been less excitement, with more modest gains on the back of generic USD weakness.

For today, we see Empire Manufacturing (exp 6.9) this morning as well as IP (1.0%) and Capacity Utilization (71.4%).  Alas, with the Fed meeting tomorrow and all eyes pointed to Washington, it seems unlikely that the market will respond to any of this data.  Instead, with the market clearly comfortable selling dollars right now, I see no reason for the buck to do anything but drift lower on the day.

Good luck and stay safe
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Nations Regress

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When two weeks ago I last wrote
The narrative was to promote
A dollar decline
Which did intertwine
With hatred for Trump ere the vote

But since then the dollar’s rebounded
While experts galore are confounded
Poor Europe’s a mess
While nations regress
On Covid, where hope had been founded

I told you so?  Before my mandatory leave began, the market narrative was that the dollar was not merely falling, but “collapsing” as everything about the US was deemed negative.  The background story continued to be about US politics and how global investors were steadily exiting the US, ostensibly because of the current administration.  Adding to that was Chairman Powell’s speech at the virtual Jackson Hole symposium outlining average inflation targeting, which implied that the Fed was not going to respond to incipient inflation by raising rates until measured inflation was significantly higher and remained there sufficiently long to offset the past decade’s period of undershooting inflation.  In other words, if (when) inflation rises, US interest rates will remain pegged to the floor, thus offering no support for the dollar.  While there were a few voices in the wilderness arguing the point, this outcome seemed assured.

And the dollar did decline with the euro finally breeching the 1.20 level, ever so briefly, back on September 1st.  But as I argued before leaving, there was no way the ECB was going to sit by idly and watch the euro continue to rally without a policy response.  ECB Chief economist Philip Lane was the first to start verbal intervention, which was sufficient to take the wind out of the euro’s sails right after it touched 1.20.  Since then, the ECB meeting last week was noteworthy for not discussing the euro at all, with market participants, once again, quickly accepting that the ECB would allow the single currency to rally further.  But this weekend saw the second volley of verbal intervention, this time by Madame Lagarde, VP Guindos, Ollie Rehn and Mr Lane, yet again.  Expect this pattern to be repeated regularly, every euro rally will be met with more verbal intervention.

Of course, over time, verbal intervention will not be enough to do the job, which implies that at some point in the future, we will see a more intensive effort by the ECB to help pump up inflation.  In order of appearance look for a significant increase in QE via the PEPP program, stronger forward guidance regarding the timing of any incipient rate hikes (never!), a further cut to interest rates and finally, actual intervention.  In the end, there is absolutely no way that the ECB is going to allow the euro to rally very much further than it already has.  After all, CPI in the Eurozone is sitting at -0.2% (core +0.4%), so far below target that they must do more.  And a stronger euro is not going to help the cause.

Speaking of inflation, I think it is worth mentioning the US situation, where for the second straight month, CPI data was much higher than expected.  While many analysts are convinced that the Fed’s rampant asset purchases and expansion of the money supply are unlikely to drive inflation going forward, I beg to differ.  The lesson we learned from the GFC and the Fed’s first gargantuan expansion of money supply and their balance sheet was that if all that money sits in excess reserves on commercial bank balance sheets, velocity of money declines and inflation is absent.  This time, however, the new funds are not simply sitting on the banks’ collective balance sheets but are rather being spent by the recipients of Federal government largesse.  This is driving velocity higher, and with it, inflation.  Now, whatever one may think of Chairman Powell and his Fed brethren, they are not stupid.  The Jackson Hole speech, I believe, served two purposes.  First, it was to help investors understand the Fed’s reaction function going forward, i.e. higher inflation does not mean higher interest rates.  But second, and something that has seen a lot less press, is that the Fed has just moved the goalposts ahead of what they see as a rising tide of inflation.  Now, if (when) inflation runs hot over the next 12-24 months, the Fed will have already explained that they do not need to respond as the average inflation rate has not yet achieved 2.0%.  It is this outcome that will eventually undermine the dollar’s value, higher inflation with no monetary response, but we are still many months away from that outcome.

Turning to today’s activity, after two weeks of broad dollar strength, as well as some equity market pyrotechnics, we are seeing a bit of a dollar sell-off today.  It would be hard to characterize the markets as risk-on given the fact that European bourses are essentially flat on the day (DAX -0.1%, CAC +0.1%) while Asian equity markets showed only modest strength at best (Nikkei, Hang Seng and Shanghai all +0.6%).  Yes, US futures are pointing higher by 1.0%, but that seems more to do with the two large M&A deals announced than anything else.

In the meantime, bond markets have shown no indication of risk being on, with 10-year Treasury yields essentially unchanged since Friday at 0.67%, and effectively unchanged since I last wrote on August 28!  The same is largely true across European government bond markets, with, if anything, a bias for risk-off as most of those have seen yields slide one to two basis points.

And finally, the dollar’s specifics show GBP (+0.6%) to be the top G10 performer, which given its recent performance, down more than 4% since I last wrote, seems to be a bit of a breather rather than anything positive per se.  In the UK, today sees the beginning of the Parliamentary debate regarding PM Johnson’s proposed rewrite of aspects of Brexit legislation, which many think, if passed, will insure a hard Brexit.  As to the rest of the bloc, gains are mostly in the 0.25% range, with the most common theme the uptick in economists’ collective forecasts for economic prospects compared with last month.

Interestingly, in the EMG bloc, movement is less pronounced, with MXN (+0.4%) the biggest gainer, while RUB (-0.4%) is the laggard.  Clearly, as both are oil related, oil is not the driver.  However, when EMG currencies move less than 0.5%, it is hard to get too excited overall.

On the data front this week, the big story is, of course, the FOMC meeting on Wednesday, but we have a bunch of things to absorb.

Tuesday Empire Manufacturing 6.0
IP 1.0%
Capacity Utilization 71.4%
Wednesday Retail Sales 1.0%
-ex autos 1.0%
Business Inventories 0.2%
FOMC Rate Decision 0.00%-0.25%
Thursday Initial Claims 850K
Continuing Claims 13.0M
Housing Starts 1480K
Building Permits 1520K
Friday Leading Indicators 1.3%
Michigan Sentiment 75.0

Source: Bloomberg

What we have seen lately is the lagging indicators showing that the bounce after the reopening of the economy was stronger than expected, but there is growing concern that it may not be sustainable.  At the same time, the only thing interesting about the FOMC meeting will be the new forecasts as well as the dot plot.  After all, Jay just told us what they are going to do for the foreseeable future (nothing) two weeks ago.

Good luck and stay safe
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Hard to Construe

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The Fed explained that in their view
The future was hard to construe
That’s why they decided
No guide be provided
Instead on the data they’ll chew
 
In what cannot be a surprise
The market did not think this wise
And so, it transpired
Investors desired
The Fed, its next moves, formalize

There is only one story in the markets today and it began yesterday afternoon with the release of the FOMC Minutes from the July meeting.  Expectations were running high that the Fed would not merely have discussed the formalization of forward guidance but would have come close to deciding to which factors they wanted to tie their future actions.  The mooted choices were the inflation rate, the unemployment rate, the level of the S&P 500 or the calendar.  (Yield Curve Control had already seemed to be a dead issue before that meeting occurred.)  Alas, they did none of the above.  Instead, the Minutes showed that while the discussion was had, no decisions had been made, and given their collective concern that the future path of economic growth could be hindered further by any resurgence in Covid-19, the best course of action was to leave all options on the table.  

Some would contend that this was, in fact, as dovish as the Fed could possibly be.  After all, they simply maintained that they will do whatever they deem necessary to support the economy and the smooth functioning of markets.  But apparently, that is the minority view.  What we saw instead was a clear indication that the investor community thought this was a hawkish outcome as evidenced by both the sell-off in equity markets and just as importantly, the rebound in the dollar.

At this point in time, one cannot read a financial website without seeing at least one article each day about the dollar’s incipient decline.  Futures markets show record short dollar positions and the fundamentalists continually point to the burgeoning twin deficits (budget and current account) as well as the Fed’s ultra-easy monetary policy as the reasons the dollar is soon to fall sharply.  Clearly, the dollar bears were counting on the Fed cementing even more policy ease into the mix, thus undermining the greenback further.

Surprise!  It turns out that the Fed’s unwillingness to commit was seen as hawkish instead.  The result was that the short dollar trade, which has been quite successful this summer (EUR +5.2%, GBP +5.0%, SEK +6.9% since July 1st) had also become increasingly crowded and the lack of commitment by the Fed served as either a signal or an excuse to lighten up positions.  Hence, the dollar, which in fairness had started to rebound yesterday morning, jumped even further and is now nearly 1% stronger than the lows seen yesterday.  It is entirely possible that this is simply a short-term correction in what is potentially a long-term trend of dollar weakness.  It is also possible that this may have marked the medium-term bottom for the dollar as investors reconsider where to deploy their assets.  Just like the Fed explained, the future is very uncertain, especially with the ongoing wildcard of Covid-19 and the potential for a second wave of infections having a significantly negative impact on the economy.  And ironically, if things get worse, especially if it leads to the jettisoning of risk by investors, the dollar is far more likely to rebound further than to decline.

With that in mind, let’s take a look at markets this morning.  The clear theme, following from yesterday’s price action, is that risk is under assault today.  Equity markets in Asia saw declines across the board (Nikkei -1.0%, Hang Seng -1.5%, Shanghai -1.3%) and Europe is a sea of red as well (DAX -0.9%, CAC -1.1%, FTSE 100 -1.15%).  US futures?  All are lower, but in fairness not by very much, less than 0.3% in all three indices.

But bond markets are also seeing risk-off behavior as Treasury yields continue to slide with the 10-year down another 2.5 basis points, to 0.65%, and most European government bond markets rallying as well.  

Commodity prices are little changed as both oil and gold consolidate recent moves.  One thing we can confirm these days is that commodity prices are living up to their historical reputation for excessive movement.  For example, this week alone, gold has rallied more than 3.5% and then reversed all that rally and then some and is now lower by 0.75% since Monday’s open.  That calculates to something on the order of 40% annualized volatility, levels which have not been seen in decades.

Finally, the dollar this morning is doing generally quite well, although it is off its early session highs.  Keeping with the risk-off theme, we have seen both CHF (+0.4%) and JPY (+0.2%) rally alongside the dollar in the G10 space.  Meanwhile, the commodity currencies and Skandies are suffering today with the euro simply unchanged.  In the EMG space, most CE4 currencies are holding their own, having rebounded from early session lows, but we saw pretty consistent weakness from Asian currencies (THB -0.7%, KRW -0.5%) and both TRY (-0.8%) and RUB (-0.7%) are feeling the strain right now.  The baht is suffering as investors have been liquidating equity investments there during an increase in protests over the government’s handling of the Covid pandemic.  The won is also suffering from Covid induced weakness as the number of cases continues to expand and further restrictions are considered by the government.  

Looking ahead to today’s session, we receive some hard data with the potential to alter views.  At 8:30 we get Initial Claims (exp 920K), Continuing Claims (15.0M) and Philly Fed (20.8).  Last week was the first since early March where the Initial Claims data printed below one million, but there continues to be concern that since the US government has not been able to agree on a new fiscal support package, we may see that number start to turn back higher.  That would be dire indeed.  In fact, if we have seen the nadir in the Claims data, we should expect the Fed to become far more active once again, arguably satisfying the investment community and perhaps pushing the dollar lower.  As to the Philly Fed Survey, expectations are for the rebound to continue, but the Empire Manufacturing data on Monday was quite disappointing.  Watch for weakness there as it, too, could result in calls for more Fed ease.

The dollar has fallen a pretty long way in less than two months.  Much of that movement has come from the reduction in overall economic fear.  While Tuesday’s housing data was quite strong, I think the employment situation remains far more important to the Fed and so any indication the recent positive trend is reversing is likely to bring a reaction.  That is likely to halt the dollar’s rebound in its tracks.  Otherwise, another percent or two higher would not be a surprise.

Good luck and stay safe

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A Tiny Tsunami

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Covid’s wrought havoc
Like a tiny tsunami
Can Japan rebound?

In what is starting off as a fairly quiet summer morning, there are a few noteworthy items to discuss. It cannot be surprising that Japan’s economy suffered greatly in Q2, given the damage to economic activity seen worldwide due to Covid-19. Thus, although the -7.8% Q2 result was slightly worse than forecast, it merely served to confirm the depths of the decline. But perhaps the more telling statistic is that, given Japan was in recession before Covid hit, the economy there has regressed to its size in 2011, right after the Tohoku earthquake and tsunami brought the nation to its knees.

Back then, the dollar had been trending lower vs. the yen for the best part of the previous four years, so the fact that it dropped sharply on the news of the earthquake was hardly surprising. In fact, it was eight more months before the dollar reached its nadir vs. the yen (75.35), which simply tells us that the trend was the driver and the singular event did not disrupt that trend. And to be clear, that trend was quite steep, averaging nearly 11% per year from its beginning in 2007. In comparison, the current trend in USDJPY, while lower, is much less dramatic. Since its recent peak in June 2015, the entire decline has been just 15.5% (~3.2% per annum). Granted, there have been a few spikes lower, most recently in March during the first days of the Covid panic, but neither the economic situation nor the price action really resembles those days immediately after Tohoku.

The point is, while the dollar is certainly on its back foot, and the yen retains haven status, the idea of a dollar collapse seems far-fetched. I’m confident that Japan’s Q3 data will show significant improvement compared to the Covid inspired depths just reported, but given the massive debt overhang, as well as the aging demographics and trend growth activity in the country, it is likely to be quite a few years before Japan’s economy is once again as large as it was just last year. Ironically, that probably means the yen will continue to trend slowly higher over time. But even getting to 100 will be a long road.

The other interesting story last night was from China, where the PBOC added substantially more liquidity to the markets than had been anticipated, RMB 700 billion in total via one-year injections. This more than made up for the RMB550 billion that is maturing over the next week and served as the catalyst for the Shanghai Exchange’s (+2.35%) outperformance overnight. This merely reinforces the idea that excess central bank liquidity injections serve a singular purpose, goosing stock market returns supporting economic activity.

There is something of an irony involved in watching the central banks of communist nations like China and Russia behave as their actions are essentially identical to the actions of central banks in democratic nations. Is there really any difference between the PBOC injecting $100 billion or the Fed buying $100 billion of Treasuries? In the end, given the combination of uncertainty and global ill will, virtually all that money finds its way into equity markets, with the only question being which nation’s markets will be favored on any given day. It is completely disingenuous for the Fed, or any central bank, to explain that their activities are not expanding the current bubble in markets; they clearly are doing just that.

But the one thing of which we can be certain is that they are not going to stop of their own accord. Either they will be forced to do so after changes in political leadership (unlikely) or the investment community will become more fearful of their actions than any possible inaction on their parts. It is only at that point when this bubble will burst (and it will) at which time central banks will find themselves powerless and out of ammunition to address the ensuing financial distress. As to when that will occur, nobody knows, but you can be certain it will occur.

And with that pleasant thought now past, a recap of the overnight activity shows that aside from Shanghai, the equity picture was mixed in Asia (Nikkei -0.8%, Hang Seng +0.6%) while European bourses are similarly mixed (DAX +0.2%, CAC 0.0%, Spain’s IBEX -0.75%). US futures are modestly higher at this point, but all well less than 1%. Bond markets are starting to find a bid, with 10-year Treasuries now down 1.5 basis points, although still suffering indigestion from last week’s record Treasury auctions. And in fact, Wednesday there is another huge Treasury auction, $25 billion of 20-year bonds, so it would not be surprising to see yields move higher from here. European bond markets are all modestly firmer, with yields mostly edging lower by less than 1bp. Commodity markets show oil prices virtually unchanged on the day while gold (and silver) are rebounding from last week’s profit-taking bout, with the shiny stuff up 0.5% (AG +2.1%).

Finally, the dollar is arguably slightly softer overall, but there have really been no large movements overnight. In G10 world, the biggest loser has been NZD (-0.3%) as the market voted no to the announcement that New Zealand would be postponing its election by 4 weeks due to the recently re-imposed lockdown in Auckland. On the plus side, JPY leads the way (+0.25%, with CAD and AUD (both +0.2%) close by on metals price strength. Otherwise, this space is virtually unchanged.

Emerging markets have had a bit more spice to them with RUB (-1.25%) the outlier in what appears to be some position unwinding of what had been growing RUB long positions in the speculative community. But away from that, HUF (-0.6%) is the only other mover of note, as investors grow nervous over the expansion of the current account deficit there.

This week’s data releases seem likely to be less impactful as they focus mostly on housing:

Today Empire Manufacturing 15.0
Tuesday Housing Starts 1240K
  Building Permits 1320K
Wednesday FOMC Minutes  
Thursday Initial Claims 915K
  Continuing Claims 15.0M
  Philly Fed 21.0
Friday Manufacturing PMI 51.8
  Services PMI 51.0
  Existing Home Sales5.40M  

Source: Bloomberg

Of course, the FOMC Minutes will be greatly anticipated as analysts all seek to glean the Fed’s intentions regarding the policy overhaul that has been in progress for the past year. Away from the Minutes, though, there are only two Fed speakers, Bostic and Daly. And let’s face it, pretty much every FOMC member is now on board with the idea that raising the cost of living inflation is imperative, and that if inflation runs hot for a while, there is no problem. Clearly, they don’t do their own food-shopping!

It is hard to get too excited about markets one way or the other today, but my broad view is that though the medium-term trend for the dollar may be lower, we continue to be in a consolidation phase for now.

Good luck and stay safe
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QE is Our Fate

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The Fed Chair, a banker named Jay
Will meet with his comrades today
Though no one expects
A change, it’s what’s next
That has traders set to make hay

Will guidance be tied to the rate
Of joblessness? Or will they state
Inflation is key
And ‘til there we see
Advances, QE is our fate

Today’s primary feature in the markets is the FOMC meeting where at 2:00 they will release their latest policy statement, and then at 2:30 Chairman Powell will hold a virtual press conference. As is often the case, market activity ahead of the meeting is muted as investors and traders are wary of taking on new positions ahead of a possible change in policy.

However, the punditry is nearly unanimous in its belief that there will be no policy changes today, and that the statement will be nearly identical to the previous version, with just some updates relating to the data that has been released since then. The big question is whether or not Chairman Powell will give an indication of what the next steps by the Fed are likely to be.

A quick review of the current policy shows that the Fed has a half dozen lending programs outstanding, which they extended to run through the end of 2020 in an announcement yesterday, and which are focused on corporate bonds, both IG and junk, municipal securities and small business loans. Of course, they continue to buy both Treasury and mortgage-backed securities as part of their more ordinary QE measures. And the Fed Funds rate remains at the zero bound. Consensus is that none of this will change.

The problem for the Fed is, short of simply writing everyone in the country a check (which is really fiscal policy) they are already buying all the debt securities that exist. While eventually, they may move on to purchasing equities, like the BOJ or SNB, at this point, that remains illegal. So, the thinking now goes that Forward Guidance is the most likely next step, essentially making a set of promises to the market about the future of policy and tying those promises to specific outcomes in the economic data. Given their mandate of full employment and stable prices, it is pretty clear they will tie rate movements to either the Unemployment Rate or the inflation rate. You may recall in the wake of the GFC, then Chairman Bernanke did just this, tying the eventual removal of policy accommodation to the Unemployment Rate. Alas, this did not work as well as the Fed had hoped. The first problem was that as the unemployment rate declined, it did not lead to the expected rise in inflation, so the Fed kept having to move its target lower. This did not inspire credibility in the central bank’s handling of the situation, nor its models. But the bigger problem is that the market became addicted to ZIRP and QE, and when Bernanke mentioned, off hand, in Congressional testimony, that some day the Fed would start to remove accommodation, he inspired what is now called the ‘Taper Tantrum’ where 10-year Treasury yields rose 1.3% in just over three months

You can be certain that Powell does not want to set up this type of situation, but, if anything, I would argue the market is more addicted to QE now than it was back then. At any rate, given the Fed’s need to show they are doing something, you can be sure that tied forward guidance is in our future. The question is, to what statistic will they tie policy? It is here where the pundits differ. There is a range of guesses as follows: policy will be unchanged until, 1) inflation is steadily trending to our 2.0% target, 2) inflation reaches out 2.0% target, or 3) inflation spends time above our 2% target in an effort to ‘catch up’ for previous low readings. This in order of most hawkish to least. Of course, they could focus on the Unemployment rate, and choose a level at which they believe full employment will be reached and thus start to pressure inflation higher.

The problem with the inflation target is that they have been trying to achieve their 2.0% target, based on core PCE, and have failed to do so consistently for the past 10 years. It is not clear why a claim they are going to continue to maintain easy money until they reach it now, let alone surpass that target, would have any credibility. On the Unemployment front, given what are certainly dramatic changes in the nature of the US economy in the wake of Covid-19, it beggars belief that there is any confidence in what the appropriate level of full employment is today. Again, it is hard to believe that their models have any semblance of accuracy in this area either.

And one other thing, most pundits don’t anticipate the announcement of new forward guidance until the September meeting, so this is all anticipation of something unlikely to occur for a while yet. But, as a pundit myself, we do need to have something to discuss on a day when markets remain uninteresting.

So, let’s take a quick look at today’s market activities. Equity markets remain mixed with both gainers (Shanghai +2.1%) and losers (Nikkei -1.2%) in Asia and in Europe (CAC +0.7%, DAX 0.0%, Italy -0.8%). US futures are edging higher, but not with any enthusiasm. Bond markets are all within a basis point of yesterday’s closing levels, although Treasuries did rally in the mild risk-off session we saw Tuesday with 10-year yields back below 0.60%. Yesterday, gold had a wild day, making new highs early in the overnight session and falling back 4% in NY before rebounding to close at $1960/oz. This morning it is little changed, but the trend remains higher.

Finally, the dollar is softer this morning, although yesterday saw a mixed session. The pound (+0.25%) has been a steady performer lately and is pressing toward 1.30 for the first time since early March, pre-Covid. While there was UK data on lending and money supply, this movement appears to be more technical in nature, with the added benefit that the dollar remains under pressure against all currencies. Elsewhere in the G10, oil’s strength this morning is helping NOK (+0.5%), while the rest of the bloc is just marginally firmer vs. the dollar.

In the emerging markets, the big winner today was THB (+0.8%) where the central bank is trying to make a change in the local gold market. Interestingly, gold traded in baht is a huge market, and one where the recent flows have resulted in excess baht strength. As such, the central bank is trying to change the market into a USD based gold market, which should remove upward pressure from the currency. But away from that, while the bulk of the bloc is firmer, the movement is 0.3% or less, hardly the stuff of dreams, and with no coherent message other than the dollar is soft.

And that’s really it for the day. There is no data of note to be released and so all eyes are on the FOMC. My money is on inflation based forward guidance, likely the most dovish type shooting for above target outcomes, but not to be put in place until September. And that means, the dollar’s recent downtrend is likely to continue to be the situation for the immediate future.

Good luck and stay safe
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Hardly a Sign

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The thing that I don’t understand
Is why people think it’s not planned
The dollar’s decline
Is hardly a sign
The FOMC’s lost command

Based on the breathless commentary over the weekend and this morning, one would have thought that the dollar is in freefall.  It’s not!  Yes, the dollar has been sliding for the past two months, but that is a blink of an eye compared to the fact that it has been trending higher since its nadir a bit more than twelve years ago.  In fact, if one uses the euro as a proxy, which many people do, at its current level, 1.1725 as I type, the single currency remains below the average rate over its entire life since January 1999.  The point is, the current situation is hardly unprecedented nor even significant historically, it is simply a time when the dollar is weakening.

It is, however, instructive to consider what is happening that has the punditry in such a tizzy.  Arguably, the key reason the dollar has been declining lately is because real US interest rates have been falling more rapidly than real rates elsewhere.  After all, the Eurozone has had negative nominal rates since 2014.  10-year German bunds went negative in May 2019 and have remained there ever since.  Given that inflation has been positive, albeit weak, there real rates have been negative for years so the world is quite familiar with negative rates in Europe.  The US story, however, is quite different.  While nominal rates have not yet crossed the rubicon, real rates have moved from positive to negative quite recently and done so rapidly.  So, what we are really witnessing is the FX market responding to this relative change in rates, at least for the most part.  Undoubtedly, there are dollar sellers who are bearish because of their concerns over the macro growth story in the US, the second wave of Covid infections in the South and West and because of the growth in US debt issuance.  But history has shown that the most enduring impacts on a currency’s value are driven by relative interest rates and their movement.  And that is what we are seeing, US rates are falling relative to others and so the dollar is falling alongside them.

In other words, the current price action is quite normal in the broad scheme of things, and not worthy of the delirium it seems to be inspiring.  As I mentioned Friday, this is also what is driving the precious metals complex, which has seen further strength this morning (XAU +$40 or 2.1%, XAG +$1.50 or 6.7%).  And it must be noted that gold is now at a new, all-time nominal high of $1943/oz.  But since we are focusing on the concept of real valuation, while the price is higher than we saw in 2011 on a nominal basis, when adjusted for inflation it still lags pretty substantially, by about 18%, and both current and 2011 levels are significantly below gold’s inflation adjusted price seen in 1980 right after the second oil crisis.

However, the fact that the current reporting of the situation appears somewhat overhyped does not mean that the dollar cannot fall further.  And in fact, I expect that to be the case for as long as the Fed continues to add liquidity, in any form, to the economy.  Markets move at the margin, and the current marginal change is the decline in US real interest rates, hence the dollar is likely to continue to fall if US rates do as well.

The current dollar weakness begs the question about overall risk attitude.  So, a quick look around equity markets globally today shows a mixed picture at best, certainly not a strong view in either direction.  For instance, last night saw the Nikkei edge lower by 0.2% (after having been closed since Wednesday) and the Hang Seng (-0.4%) also slide.  But Shanghai (+0.25%) managed to eke out small gains.  In Europe, the DAX (+0.3%) is pushing ahead after the IFO figures bounced back much further than expected, although the CAC and FTSE 100 (-0.2% each) have both suffered slightly.  A special mention needs to be made for Spain’s IBEX (-1.3%) as the sharp increase in Covid infections seen in Catalonia has resulted in several European nations, notably the UK and Sweden, reimposing a 14-day quarantine period on people returning from Spain on holiday.  Naturally, the result is holidays that had been booked are being quickly canceled.  As to US futures, they are currently in the green, with the NASDAQ up 1.0%, although the others are far less enthusiastic.

Bond markets continue to show declining yields, with Treasuries down another basis point plus and now yielding 0.57%.  Bunds, too, are seeing demand, with yields there down 3 bps, although both Spanish and Italian debt are being sold off with yields edging higher.  In other words, the bond market is not pointing to a risk-on session.

Finally, the dollar is weak across the board, against both G10 and EMG currencies.  In the latter bloc, ZAR is the leader, up 1.3% on the back of the huge rally in precious metals, but we are also seeing the CE4 currencies all keeping pace with the euro, which is higher by 0.6% this morning.  As a group, those four currencies are higher by about 0.65%.  Asian currencies also performed well, but not quite to the standards of the European set, but it is hard to find a currency that declined overnight.  In G10 space, the SEK is the leader, rising 1.0%, cementing its role as the highest beta G10 currency.  But we cannot forget about the yen, which has rallied 0.75% so far this morning, and is now back to its lowest level since the Covid spike, and before that, prices not seen since last August.  A longer-term look at the yen shows that 105 has generally been very strong support with only the extraordinary events of this past March driving it below that level for the first time in four years.  Keep on the lookout for a move toward those Covid inspired lows of 102, although much further seems hard to believe at this point.

On the data front, this week’s highlight is undoubtedly the FOMC meeting on Wednesday, but there is plenty to see.

Today Durable Goods 7.0%
  -ex Transport 3.6%
Tuesday Case Shiller Home Prices 4.10%
  Consumer Confidence 94.4
Wednesday FOMC Rate Decision 0.0% – 0.25%
Thursday GDP Q2 -35.0%
  Personal Consumption -34.5%
  Initial Claims 1.445M
  Continuing Claims 16.3M
Friday Personal Income -0.5%
  Personal Spending 5.4%
  Core PCE 0.2% (1.0% Y/Y)
  Chicago PMI 43.9
  Michigan Sentiment 72.8

Source: Bloomberg

Of course, the GDP data on Thursday will be eye opening, as a print anywhere near forecasts will be the largest quarterly decline in history.  However, that is backward looking.  Of more importance, after the Fed of course, will be the Initial Claims data, which last week stopped trending lower.  Another tick higher there and the V-shaped recovery narrative is likely to be mortally wounded.  As to the Fed, while we will discuss it at length later this week, it seems unlikely they will do or say anything that is going to change the current market sentiment.  And that sentiment continues to be to sell dollars.

Good luck and stay safe

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Unless Lowered Instead

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

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

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

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

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

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

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

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

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

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

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

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

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

Good luck and stay safe
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Buy With More Zeal

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The stimulus story is clear
Expect more throughout the whole year
C bankers are scared
And war they’ve declared
On bears, who now all live in fear

Thus, Wednesday the Fed will reveal
They’ll not stop til they hear the squeal
Of covering shorts
While Powell exhorts
Investors to buy with more zeal!

The market is biding its time as traders and investors await Wednesday’s FOMC statement and the press conference from Chairman Powell that follows. Patterns that we have seen over the past week are continuing, albeit on a more modest path. This means that the dollar is softer, but certainly not collapsing; treasury yields are higher, and those bonds almost seem like they are collapsing; commodity prices continue to mostly move higher; and equity markets are mixed, with pockets of strength and weakness. This is all part and parcel of the V-shaped recovery story which has completely dominated the narrative, at least in financial markets.

Friday’s payroll report was truly surprising as the NFP number was more than 10 million jobs higher than estimated. This led to a surprisingly better than expected, although still awful, Unemployment Rate of 13.3%. However, this report sowed its own controversy when the Labor Department happened to mention, at the bottom of the release, that there was a little problem with the count whereby 4.9 million respondents were misclassified as still working and temporarily absent rather than unemployed. Had these people been accounted for properly, the results would have been an NFP outcome of -2.4 million while the Unemployment rate would have been about 3% higher. Of course, this immediately raised questions about the propriety of all government statistics and whether the administration is trying to cook the books. However, Occam’s Razor would point you in another direction, that it is simply really difficult to collect accurate data during the current pan(dem)ic.

What is, perhaps, more interesting is that the financial press has largely ignored the story. It seems the press is far more interested in fostering the bullish case and this number was a perfect rebuttal to all the bears who continue to highlight things like the coming wave of bankruptcies that are almost certain to crest as soon as the Fed (and other central banks) stop adding money to the pot every day. Of course, perhaps the central banking community will never stop adding money to the pot thus permanently supporting higher equity valuations. Alas, that is the precise recipe for fiat currency devaluation, perhaps not against every other fiat currency, but against real stuff, like gold, real estate, and even food. So, while FX rates may all stay bounded, inflation would become a much greater problem for us all.

At this point, the universal central bank view is that deflation remains the primary concern, and inflation is easily tamed if it should appear. But ask yourself this, if central banks have spent trillions of dollars to drive rates lower to support the economy, how much appetite will they have to raise rates to fight inflation at the risk of slowing the economy? Exactly.

So, let’s take a look at today’s markets. After Friday’s blowout performance by US equities, which helped drive the dollar lower and Treasury yields higher, Asia was actually very quiet with only the Nikkei (+1.4%) showing any life at all. And that came after a surprisingly good Q1 GDP report showing Japan shrank only 2.2% in Q1, not the -3.4% originally reported. This also represents a data controversy as Capex data appeared far more robust than originally estimated. However, this too, seems to be a case of the government having a difficult time getting accurate data with most economists expecting the GDP result to be revised lower. But the rest of Asia was basically flat in equity space.

Meanwhile, European bourses are mixed with the DAX (-0.4%) and CAC (-0.5%) leading the way lower although we continue to see strength in Spain (+0.7%) and Italy (+0.2%). The ongoing belief that the largest portion of ECB stimulus will be used to support the latter two nations remains a powerful incentive for investors to keep buying into their markets.

On the bond front, Treasury yields, after having risen 25bps last week, in the 10-year, are higher by a further 2bps this morning. 30-year yields are rising even faster, up 3.5bps so far today. This, too, is all part of the same narrative; the V-shaped recovery means that lower rates will no longer be the norm going forward. This is setting up quite the confrontation with the Fed and is seen as a key reason that yield-curve control (YCC) is on the horizon. The last thing the Fed wants is for the market to undermine all their efforts at economic recovery by anticipating their success and driving yields higher. Thus, YCC could be the perfect means for the Fed to stop that price action in its tracks.

As to the dollar, it is having a more mixed performance today as opposed to the broad-based weakness we saw last week. In the G10, SEK and NOK (+0.4% each) are the best performers although we are seeing modest 0.15%-0.2% gains across the Commonwealth currencies as well as the yen. NOK is clearly following oil prices higher, while SEK continues to benefit from the fact that its rising yields are attracting more investment after reporting positive Q1 growth last week. On the downside, the pound is the leading decliner, -0.25%, although the euro is weakening by 0.15% as well. While the pound started the session firmer on the back of easing lockdown restrictions, it has since turned tail amid concerns that this dollar decline is reaching its limits.

In the EMG bloc, RUB (+0.65%) is the clear leader today, also on oil’s ongoing rally, although there are a number of currencies that have seen very modest gains as well. On the downside, TRY and PHP (-0.25% each) are the leading decliners, but here, too, there is a list of currencies that have small losses. As I said, overall, there is no real trend here.

While this week brings us the FOMC meeting, there is actually very little other data to note:

Tuesday NFIB Small Biz Sentiment 92.2
  JPLT’s Job Openings 5.75M
Wednesday CPI 0.0% (0.3% Y/Y)
  -ex food & energy 0.0% (1.3% Y/Y)
  FOMC Rate Decision  0.25%
Thursday Initial Claims 1.55M
  Continuing Claims 20.6M
  PPI 0.1% (-1.3% Y/Y)
  -ex food & energy -0.1% (0.5% Y/Y)
Friday Michigan Sentiment 75.0

Source: Bloomberg

While we can be pretty sure the Fed will not feel compelled to change policy at this meeting, you can expect that there will be many questions in the press conference regarding the future, whether about forward guidance or YCC. As they continue to reduce their daily QE injections, down to just $4 billion/day, I fear the equity market may start to feel a bit overdone up here, and a short-term reversal seems quite realistic. For now, risk is still on, but don’t be surprised if it stumbles for a while going forward. And that means the dollar is likely to show some strength.

Good luck and stay safe
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Riven By Obstinacy

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Said Jay, in this challenging time
Our toolkit is truly sublime
It is our desire
More bonds to acquire
And alter the Fed’s paradigm

In contrast, the poor ECB
Is riven by obstinacy
Of Germans and Dutch
Who both won’t do much
To help save Spain or Italy

Is anybody else confused by the current market activity? Every day reveals yet another data point in the economic devastation wrought by government efforts to control the spread of Covid-19, and every day sees equity prices rally further as though the future is bright. In fairness, the future is bright, just not the immediate future. Equity markets have traditionally been described as looking forward between six months and one year. Based on anything I can see; it is going to take far more than one year to get global economies back to any semblance of what they were like prior to the spread of the virus. And yet, the S&P is only down 9% this year and less than 13% from its all-time highs set in mid-February. As has been said elsewhere, the economy is more than 13% screwed up!

Chairman Powell seems to have a pretty good understanding that this is going to be a long, slow road to recovery, especially given that we have not yet taken our first steps in that direction. This was evidenced by the following comment in the FOMC Statement, “The ongoing public health crisis will weigh heavily on economic activity, employment and inflation in the near term, and poses considerable risks to the economic outlook over the medium term.” (My emphasis.) And yet, we continue to see equity investors scrambling to buy stocks amid a great wave of FOMO. History has shown that bear markets do not end in one month’s time and I see no reason to believe that this time will be different. I don’t envy Powell or the Fed the tasks they have ahead of them.

So, let’s look at some of the early data as to just how devastating the response to Covid-19 has been around the world. By now, you are all aware that US GDP fell at a 4.8% annualized rate in Q1, its sharpest decline since Q4 2008, the beginning of the GFC. But in truth, compared to the European data released this morning, that was a fantastic performance. French Q1 GDP fell 5.8%, which if annualized like the US reports the data, was -21.0%. Spanish Q1 GDP was -5.2% (-19.0% annualized), while Italy seemed to have the best performance of the lot, falling only 4.8% (-17% annualized) in Q1. German data is not released until the middle of May, but the Eurozone, as a whole, printed at -3.8% Q1 GDP. Meanwhile, German Unemployment spiked by 373K, far more than forecast and the highest print in the history of the series back to 1990. While these were the highlights (lowlights?), the story is uniformly awful throughout the continent.

With this in mind, the ECB meets today and is trying to determine what to do. Last month they created the PEPP, a €750 billion QE program, to support the Eurozone economy by keeping member interest rates in check. But that is not nearly large enough. After all, the Fed and BOJ are at unlimited QE while the BOE has explicitly agreed to monetize £200 billion of debt. In contrast, the ECB’s actions have been wholly unsatisfactory. Perhaps the best news for Madame Lagarde is the German employment report, as Herr Weidmann and Frau Merkel may finally recognize that the situation is really much worse than they expected and that more needs to be done to support the economy. Remember, too, that Germany has been the euro’s biggest beneficiary by virtue of the currency clearly being weaker than the Deutschemark would have been on its own and giving their export industries an important boost. (I am not the first to notice that the euro’s demise could well come from Germany, Austria and the Netherlands deciding to exit in order to shed all responsibility for the fiscal problems of the PIGS. But that is a discussion for another day.)

The consensus is that the ECB will not make any changes today, despite a desperate need to do more. One of the things holding them back is an expected ruling by the German Constitutional Court regarding the legality of the ECB’s QE programs. This has been a bone of contention since Signor Draghi rammed them through in 2012, and it is not something the Germans have ever forgiven. With debt mutualization off the table as the Teutonic trio won’t even consider it, QE is all they have left. Arguably, the ECB should increase the PEPP by €1 trillion or more in order to have a truly positive impact. But thus far, Madame Lagarde has not proven up to the task of forcing convincing her colleagues of the necessity of bold action. We shall see what today brings.

Leading up to the ECB announcement and the ensuing press briefing, Asian equity markets followed yesterday’s US rally higher, although early gains from Europe have faded since the release of the sobering GDP data. US futures have also given back early gains and remain marginally higher at best. Bond markets are generally edging higher, with yields across the board (save Italy) sliding a few bps, and oil prices continue their recent rebound, although despite some impressive percentage moves lately, WTI is trading only at $17.60/bbl, still miles from where it was at the beginning of March.

The dollar, in the meantime, remains under pressure overall with most G10 counterparts somewhat firmer this morning. The leaders are NOK (+0.45%) on the strength of oil’s rally, and SEK (+0.4%) which seems to simply be continuing its recent rebound from the dog days of March. Both Aussie and Kiwi are modestly softer this morning, but both of those have put in stellar performances the past few days, so this, too, looks like position adjustments.

In the EMG bloc, IDR was the overnight star, rallying 2.8% alongside a powerful equity rally there, as investors who had been quick to dump their holdings are back to hunting for yield and appreciation opportunities. As markets worldwide continue to demonstrate a willingness to look past the virus’s impact, there are many emerging markets that could well see strength in both their currencies and stock markets. The next best performers were MYR (+1.0%) and INR (+0.75%), both of which also responded to a more robust risk appetite. As LATAM has not yet opened, a quick look at yesterday’s price action shows BRL having continued its impressive rebound, higher by 3.0%, but strength too in CLP (+2.9%), COP (+1.2%) and MXN (2.5%).

We get more US data this morning, led by Initial Claims (exp 3.5M), Continuing Claims (19.476M), Personal Income (-1.5%), Personal Spending (-5.0%) and Core PCE (1.6%) all at 8:30. Then, at 9:45 Chicago PMI (37.7) is due to print. As can be seen, there is no sign that things are doing anything but descending yet. I think Chairman Powell is correct, and there is still a long way to go before things get better. While holding risk seems comfortable today, look for this to turn around in the next few weeks.

Good luck and stay safe
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How Far Did It Sink?

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This morning the data we’ll see
Is highlighted by GDP
How far did it sink?
And is there a link
Twixt that and the FOMC?

Which later today will convene
And talk about Covid-19
What more can they do
To help us all through
The havoc that we all have seen

Market activity has been somewhat mixed amid light volumes as we await the next two important pieces of information to add to the puzzle. Starting us off this morning will be the first look at Q1 GDP in the US. Remember, the virus really didn’t have an impact on the US economy until the first week of March, although the speed of its impact, both on markets and the broad economy were unprecedented. A few weeks ago, I mentioned that I created a very rough model to forecast Q1 GDP and came up with a number of -13.6% +/- 2%. This was based on the idea that economic activity was cut in half for the last three weeks of the month and had been reduced by 25% during the first week. My model was extremely rough, did not take into account any specific factors and was entirely based on anecdotal evidence. After all, sheltering in home, it is exceedingly difficult to survey actual activity. As it turns out, my ‘forecast’ is much more bearish than the professional chattering classes which, according to the Bloomberg survey, shows the median expectation is for a reading of -4.0%, with forecasts ranging from 0.0% to -10.0%. Ultimately, a range of forecasts this wide tells us that nobody has any real idea what this number is going to look like.

Too, remember that while things have gotten worse throughout April, as much of the nation has been locked down, the latest headlines highlight how many places will be easing restrictions in the coming days and weeks. So, it appears that the worst of the impact will straddle March and April, an inconvenient time for quarterly reporting. In the end, the issue for markets is just how much devastation is already reflected in prices and perhaps more importantly, how quick of a recovery is now embedded in the price. It is this last point which gives me pause as to the current levels in equity markets, as well as the overall risk framework. The evidence points to a strong investor belief that the trillions of dollars of support by central banks and governments around the world is going to ensure that V-shaped rebound. If that does not materialize (and I, for one, am extremely skeptical it will), then a repricing of risk is sure to follow.

The other key feature today is the FOMC meeting, with the normal schedule of a 2:00 statement release and a 2:30 press conference. There are no updated forecasts due to be released, and the general consensus is that the Fed is unlikely to add any new programs to the remarkable array of programs already initiated. Arguably, the biggest question for today’s meeting is will they try to clarify their forward guidance regarding the future path of rates and policy or is it still too early to change the view that policy will remain accommodative until the economy weather’s the storm.

While hard money advocates bash the Fed and many complain that their array of actions has actually crossed into illegality, Chairman Powell and his crew are simply trying to alleviate the greatest disruption any economy has ever seen while staying within a loose interpretation of the previous guidelines. Powell did not create the virus, nor did he spend a decade as Fed chair allowing significant financial excesses to be built up. For all the grief he takes, he is simply trying to clean up a major mess that he inherited. But market pundits make their living on being ‘smarter’ than the officials about whom they write, so don’t expect the commentary to change any time soon.

With that as prelude, a survey of this morning’s activity shows that equity markets in Europe are generally slightly higher, although a few, France and Switzerland, are in the red. Interestingly, Italy’s FTSE MIB is higher by 0.4% despite the surprise move by Fitch to cut Italy’s credit rating to BBB-, the lowest investment grade rating and now the same as Moody’s rating. S&P seems to have succumbed to political pressure last week and left their rating one notch higher at BBB although with a negative outlook. Though Italian stocks are holding in, BTP’s (Italian government bonds) have fallen this morning with yields rising 4bps. In fact, a conundrum this morning is the fact that the bond market is clearly in risk-off mode, with Treasury and bund yields lower (2bp and 3bp respectively) while PIGS yields are all higher. Meanwhile, European equities are performing fairly well, US equity futures are all higher by between 0.5%-1.0%, and the dollar is softer virtually across the board. These latter signal a more risk-on scenario.

Speaking of the dollar, it is lower vs. all its G10 counterparts except the pound this morning although earlier gains of as much as 1.0% by AUD and NZD have been cut by more than half as NY walks in. This currency strength is despite weaker than expected Confidence data from the Eurozone, although with an ECB meeting tomorrow, market participants are beginning to bet on Madame Lagarde adding to the ECB’s PEPP. Meanwhile, CAD and NOK seem to be benefitting from a small rebound in the price of oil, although that seems tenuous at best given the fear of holding the front contract after last week’s dip into negative territory on the previous front contract.

EMG currencies are also uniformly stronger this morning, led by IDR (+1.0%) after a well-received government bond issuance increased confidence the country will be able to get through the worst of the virus’ impact. We are also seeing ZAR (+0.9%) firmer on the modestly increased risk appetite, and MXN (+0.7%) follow yesterday’s rally of nearly 1.7% as the worst fears over a collapse in LATAM activity dissipate. Yesterday also saw Brazil’s real rebound 2.75%, which is largely due to aggressive intervention by the central bank. The background story in the country continues to focus on the political situation with the resignation of Justice Minister Moro and yesterday’s Supreme Court ruling that an investigation into President Bolsonaro could continue regarding his firing of the police chief. However, BRL had fallen nearly 14% in the previous two weeks, so some rebound should not be surprising. In fact, on a technical basis, a move back to 5.40 seems quite viable. However, in the event the global risk appetite begins to wane again, look for BRL to once again underperform.

Overall, this mixed session seems to be more likely to evolve toward a bit of risk aversion than risk embrasure unless the Fed brings us something new and unexpected. Remember, any positive sign from the GDP data just means that Q2 will be that much worse, not that things are better overall.

Good luck and stay safe
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