Tag Archives: #FOMC

Still Inchoate

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The Fed is the talk of the town
Are dots set to move up, or down?
At this point it seems
Those with dovish dreams
Will finish the day with a frown

The other discussion of note
Is balance sheet size and its bloat
Will QT soon end?
Or will it extend?
It seems this idea’s still inchoate

Yesterday I offered my view that the most important potential changes in today’s FOMC statement and releases was the Longer Run median interest rate estimate.  Any change there will imply that the framework in which the Fed has been working is changing.  And one thing we know about changes in frameworks is they bring volatility.  But there is another issue I did not discuss yesterday, QT.  Currently, the Fed is allowing up to $60 billion/month of Treasury securities to mature from their balance sheet without being replaced and up to $35 billion in mortgage-backed securities.  This process has seen their balance sheet decline in size from a shade under $9 trillion in March 2022 to a shade over $7.5 trillion as of last week.

Doing the math, if the balance sheet had declined in size each month by their capped amounts, the current size would have been ~$6.7 trillion, so they have not kept up their desired pace.  The reason is that their mortgage portfolio is not rolling off very quickly since mortgages are not being prepaid at anywhere near the previous rates.  This is due to the impact of the Fed’s actions on the housing market.  Mortgage-backed securities get prepaid when the mortgages underlying are paid off.  That happens in one of two situations, either the house is sold or the homeowner refinances.  With so many homeowners having refinanced when rates were much lower, they have no incentive to do so now, so that channel has been essentially closed.  At the same time, given the dramatic slowdown in the sales of existing homes, that channel is moving at a much slower pace as well.

Prior to the quiet period, Governor Chris Waller gave a speech where he discussed the idea that he would like to see all the mortgages off the Fed’s balance sheet, and the balance sheet hold a far larger percentage of T-bills rather than the current construction of mostly longer-dated coupons.  If this is the consensus view at the FOMC, that means they have a lot of work left to do.  As well, many have questioned whether they can continue to shrink the balance sheet at the same time they are cutting interest rates.  When any FOMC member has been asked that question, they maintain the two issues are separate.  However, I would contend if they do operate in that manner, the results may not be what they want.  It would be a classic pressing on the accelerator and the brake at the same time type of situation.  Another framework change and the chance for more volatility.

It is not clear if the Fed will even discuss the end of QT in their statement although I suspect Powell will have to address the question in the press conference regardless.  But as I look at today’s potential outcomes, the thing that jumps out at me is the chance for several of their decisions to lead to more volatile markets going forward.  And that is across asset classes, so stocks, bonds and the dollar.  It is for times like these that hedging policies are important.  Properly constructed hedges can be very effective at reducing market driven volatility of results, whether corporate or trading profits.

Ok, let’s turn to the overnight session to see how things are shaping up heading into the meeting today.  Equity markets in Asia were generally positive with the Nikkei (+0.65%) recapturing the 40K level.  Chinese markets were ever so slightly firmer despite the fact that the PBOC left the Loan Prime Rate unchanged.  There seemed to be a lot more hope for a change than evidence the PBOC would act.  Europe, on the other hand is having a little more trouble this morning with most markets softer led by the CAC (-0.6%). The outlier here is the DAX (+0.2%) which seems to be responding to a larger than expected decline in German PPI to -4.1% Y/Y.  The implication is German corporate margins may improve.  As to the US, at this hour (7:15), futures are edging higher by about 0.1% across the board after another solid session yesterday.

In the bond market, Treasury yields have edged down 1bp in the 10yr with similar movement across the curve.  In Europe, yields have fallen a bit more, between 3bps and 5bps with UK Gilts (-5bps) leading the way after CPI data this morning printed at a softer than expected 3.4% headline, 4.5% core.  With the BOE on tap tomorrow, investors believe this improves the odds of a more dovish outcome, although no rate cuts are likely at all.

As to the continent, Madame Lagarde regaled us this morning with the following: “Our decisions will have to remain data dependent and meeting-by-meeting, responding to new information as it comes in. This implies that, even after the first rate cut, we cannot pre-commit to a particular rate path.”  In other words, she continues to sing from the same hymnal that all the G10 central bankers are using.  Once again, I don’t understand why anyone would believe that the central banks will be able to pivot on a timely basis if/when recession is coming.  By maintaining their data dependence, they are assured that they will be reactive, not proactive, since all data is backward looking.  And one more thing, JGB yields have been unchanged since the BOJ policy change.  Tighter policy is not in the cards here either.

In the commodity market, everything is under a bit of pressure this morning with oil (-0.8%) slipping back a bit on what seems more like a trading response than a fundamental change in anything.  EIA data later today can certainly have an impact if the recent drawdown in inventories continues because production does not appear to be increasing anywhere.  In the metals markets, gold is a hair softer, although remains within spitting distance of its recently traded all-time highs while copper (-1.0%) has been slipping the past several sessions and is basically right back at $4.00/lb.  This market remains beholden to the growth story overall, and China’s lack of activity last night is probably weighing on the red metal here.

Finally, the dollar is still kicking butt and taking names with the DXY back above 104 this morning.  The yen has not found its footing yet, trading to 151.65, down another -0.5%, and really getting hammered on the crosses vs. the euro and the pound, at all-time lows there.  But really, this remains a dollar strength story as hopes continue to recede for the Fed to start easing policy very soon.  On a relative basis, the US economy continues to be the best performing major economy (7% budget deficits will do that for you), but the reality is reasons for the Fed to start cutting rates remain scarce.  Until those change, the dollar should continue to perform well.  And remember, when that does change, we are likely to see every G10 nation cutting rates aggressively, so the dollar should still hold up well.

And that is it.  There is no data ahead of the Fed so I imagine we will all collectively hold our breath until the statement at 2:00 and Powell’s presser at 2:30. Until then, I foresee little in the way of movement.  After that, it all depends on what he does and says.

Good luck
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Just a Memory

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The doves are in flight
Alongside Dollar / Yen. NIRP
Just a memory

 

As many had been forecasting, notably the Nikkei News who as I mentioned yesterday have a perfect forecasting record, the BOJ ended NIRP by raising their overnight call rate to a range of 0.00% – 0.10%.  Thus ends one of the longest policy experiments in history.  I continue to believe when future historians look back at this time they will ask, what were they thinking?  At any rate, here is what they offered up to the world:

Summarizing the key changes, there is now a range for the short-term rate, like the Fed’s range, which is a new feature, although they maintain they will seek to keep the rate close to the ceiling.  As well, YCC is gone for good with no targets of any sort.  However, they committed to continuing to purchase JGBs in roughly the current amounts and retain the flexibility to increase that amount at any time as they see fit.  Regarding equities, REITs, and corporate bonds, they have officially declared those programs to be over, although in practice that has been the case for the past several months.

The market response was a classic ‘sell the news’.  The yen has fallen 0.9% and is firmly back above 150 this morning while JGB yields edged lower yet again, down 3bps and trading at 0.73%.  In the press conference, Ueda-san explained, “We judged that achieving the goal of sustainable 2% inflation has come within view. The large-scale monetary easing policy served its purpose.”  However, he was clear that this was not the beginning of a massive tightening of policy a la the Fed or other G10 central banks.  At the same time, PM Kishida said, “[The government] believes it is appropriate that the accommodative financial environment will be maintained from the perspective of taking a new step forward in light of the current situation and further ensuring positive economic developments.”

Summing everything up I would say that while this policy is marginally tighter than previous policy, there is no evidence that the BOJ is hawkish in any sense of the word.  They will still be buying JGBs regularly, ergo monetizing government debt, and they will respond ‘nimbly’ as they see fit if something changes.  My take on the impact is that the yen will be beholden to the Fed now and if the recent more hawkish narrative continues to evolve, look for USDJPY to continue to rise.  JGB yields are likely to drift higher alongside yields elsewhere is the world while the Nikkei has room to run.

It’s time now to turn to the Fed
With pundits now starting to dread
The idea rate cuts
Are now seeming nuts
An idea to which they were wed
 
So, while we know rates will remain
Unchanged, we’ve got dots on the brain
Are three cuts in store?
Or fewer called for?
That outcome is what’s most germane

 

Interestingly, given how much has been written by analysts and pundits, as well as this poet, already on the topic of the FOMC meeting that starts at 9:00 this morning and culminates in their statement at 2:00pm tomorrow, I feel like all that is necessary here is a recap.

As I type this morning, the Fed funds futures market is now pricing just 72bps of rate cuts for all of 2024 and 139bps of cuts through September of 2025.  While I had started discussing the concept of the dot plot pointing to a median of only two cuts this year several weeks ago, before the quiet period began and we started hearing more hawkish language from several FOMC members, that has become a mainstream discussion now.  In fact, I suspect that is the default setting for most analysts, although the dovish acolytes will still be arguing for at least three cuts.  Perhaps of more interest will be where the longer-term dots are printed.  

Remember, the dot plot shows each members forecasts for the next three years individually as well as the ‘Longer Run’.  In December, the Longer Run had a median of 2.50% and that has been the case for a very long time.  The implication is that the Fed’s broad view of their policy is that the infamous r*, or neutral interest rate, is 2.5% which consists of a 2% inflation target and a 0.5% real interest rate.  However, there has been a significant increase in the discussion amongst the analyst community about how that might change.  If we consider that the nature of the economy post-pandemic, has changed in two key areas, the size of the workforce has shrunk and the efforts at reshoring or nearshoring productive capacity has expanded greatly, both of those things would lead one to expect a higher level of inflation and correspondingly higher interest rates.  So, while a change in the Fed’s target rate is not likely anytime soon, a change in the Fed’s thinking of the appropriate r* is very possible.  

Do not be surprised to see that median rise to 2.75% as members increasingly accept that the current state no longer resembles the previous, pre-pandemic, state.  And that, I believe, is where there is more potential for market reaction than anywhere else.  A rise in the longer run median forecast implies that Treasury yields, and in fact, the entire yield curve, should be permanently higher.  While there has been some discussion of this idea, I would contend that is nowhere near the consensus view, and certainly not the current market narrative.  But that would imply a pretty sharp sell-off in bonds with a corresponding rise in yields.  Initially, I do not believe that would be a net positive for risk assets, although ultimately, I believe equity markets will absorb the news as companies adjust to the change.  But it could get messy during that adjustment.  This is where my eyes will be tomorrow.

Ok, let’s recap the overnight session.  After a solid day in the States yesterday to start the week, the Nikkei (+0.65%) managed to recapture the 40K level amid a weaker yen and the new understanding that policy is not going to ratchet much tighter.  China, on the other hand saw equity weakness in both Hong Kong (-1.25%) and on the mainland (-0.7%) as traders await the news tonight as to whether the PBOC is going to reduce the Loan Prime Rate again as they did last month.  Clearly, there is not much hope right now!  In Europe, markets are mostly a touch higher, but movement is very modest, +/-0.2% basically, as all eyes there are also on the FOMC tomorrow.  As to US futures, they are modestly weaker this morning at this hour (7:30), down -0.4% on average.

In the bond market, Treasury yields are unchanged this morning after having drifted another 2bps higher yesterday.  In Europe, it is a mixed picture with UK Gilt yields sliding 3bps, while the continent is seeing either no movement or a 1bp rise.  The only data of note was German ZEW sentiment which rose significantly, to 31.7, back to its highest level in two years.  We also continue to hear from ECB speakers that they are not yet ready to cut rates and remain data, not Fed, dependent!

Oil (+0.1%) continues to power higher on the back of softer supply data, increased success by Ukraine in attacking Russian refineries and a new situation, Iraq promising to abide by the OPEC+ production cuts.  WTI is firmly above the $80/bbl level and looks like it wants to try for a move toward $90/bbl, at least on a technical basis.  That cannot be helping central bank efforts at reducing inflation.  As to the metals markets, they are softer this morning with gold (-0.2%) still holding up quite well given the dollar’s rebound, and copper (-1.1%) also under pressure today, but also holding the bulk of its recent gains.

Finally, the dollar is in the ascendancy today as not only is the yen under pressure, but too, the Aussie dollar (-0.6%) and its little brother NZD (-0.5%) after the RBA left rates on hold last night, as universally anticipated, but adopted modestly more dovish language in their statement and Governor Bullock was unable to convince the market in her press conference that they could still raise rates if inflation reappeared.  But the dollar is higher vs. essentially all its counterparts, both G10 and EMG, with the CHF (0.0%) the best performer of the bunch.  There is no need to seek other idiosyncratic stories for this move.

As to the data today, Housing Starts (exp 1.425M) and Building Permits (1.495M) are all we’ve got.  Keep an eye on Canadian CPI (exp 3.1%) as that would represent an uptick from last month akin to what we are seeing elsewhere in the G10.  Inflation is not dead my friends.

And that’s really it for today.  It is hard to see the data having a substantive impact and that means that traders will spend the day adjusting their positions to prepare for tomorrow afternoon’s excitement.  I imagine we could see the dollar drift off a bit today given how far it’s come, but nothing of note seems likely.

Good luck

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Some Regrets

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Six central bank meetings this week
Will give us a new inside peak
At their dedication
To wipe out inflation
And just how much havoc they’ll wreak
 
Investors have made all their bets
And so far, today, risk assets
Show green on the screen
Ere any convene
Methinks, though, there’ll be some regrets

 

It is central bank week as we hear from more than half of the G10 between tomorrow and Thursday.  The BOJ kicks things off followed by the RBA, FOMC, Norgesbank, the SNB and finally the BOE.  A great deal of stock has been put into these meetings by both traders and investors as everyone is seeking clues for the future. Alas, looking for central banks, whose crystal balls are cloudier than most, to give solid clues is probably not the best idea.  But let’s take a quick look at each meeting and expectations:

BOJ – next to the Fed, this is the meeting that has gotten the most press both because Japan is the largest of the other economies, but also because there is much talk that they are going to raise their base rate for the first time in 17 years!  At this point, despite the most recent dovish comments from Ueda-san two weeks’ ago, the best indicator seems to be Nikkei News, which has had several articles (courtesy of Weston Nakamura’s Across the Spread substack) declaring that rate hike is coming.  Apparently, they have a perfect record in these forecasts, so it looks a done deal.

Arguably, the question is will they do anything else beyond moving from NIRP to ZIRP?  There are several analysts who believe they will adjust YCC as well, either eliminating it completely, or changing the terms to buy a fixed amount each period rather than responding to market conditions.  As well, they continue to buy equity ETFs and REITs so it is quite possible they end those programs.

The funny thing is so many believed that when the BOJ finally started their tightening cycle that would be the signal for selling JGBs and buying yen.  Well, if that has been your strategy going into the meeting, it has not worked out that well.  JGB yields (-3bps) have been consolidating around the 0.75% level virtually all year while the yen, which did have a little pop higher at the beginning of the month, is now back close to 150 again.  Regarding the yen, the driver in the currency continues to be US interest rates and the incremental adjustment by the BOJ is just not enough to move the needle absent a firm commitment by Ueda-san to hike regularly going forward.  And there is no evidence of that.  As to JGB yields, a slow grind higher seems possible, but a run up above 1.0% seems highly unlikely, especially given the economic cycle has just turned down with two consecutive quarters of negative real GDP activity.

RBA – there is no policy movement anticipated here for this meeting as both growth and inflation remain above targets but have not been relatively stable.  In fact, there is a minority looking for a cut, but that seems unlikely right now simply based on the inflation data.  Generically, I find it extremely difficult to believe that any central bank will be able to cut their rates with inflation running well above the target and, in most places, looking like it has found a bottom.  I realize there is a significant desire to cut rates by virtually all central bankers, but given the current economic situation, if they want to salvage whatever credibility they may have left, it is a hard case to make to cut right now.  

One other thing to remember is that Australia is more dependent on China than any other G10 nation and China last night published better than expected economic data with IP jumping to 7.0%, far better than expected and its fastest pace in two years.  If China is starting to pick up again, that will be a net benefit for Australia and put upward pressure on commodity prices and prices in general Down Under.  I think they remain on hold for a while yet.

FOMC – suffice to say no change in rate policy but we will discuss the other features tomorrow regarding the dot plot and potential guidance.

SNB – The Swiss may be the other central bank to move this time as inflation there has fallen to 1.2%, well below the ceiling of their 0% – 2% target range.  While the market consensus remains no change and the franc has softened nearly 4% vs. the euro so far this year, we cannot forget that it remains far stronger than its historic levels and the opportunity to weaken the currency a bit to help its export industries while inflation remains quiescent is something that may appeal to SNB President Jordan.  Keep an eye out here.

Norgesbank – No change here as inflation remains far too firm, ~5%, while oil’s recent rebound has helped the currency rebound.  I don’t think there is anything to be learned from this outcome.

BOE – Here, too, no change is expected and there is no press conference.  As such, the most interesting question will be the vote split.  Last time, the split was 1-6-2 for a cut, hold and hike respectively.  (Talk about not seeing things the same way!  How is it possible that two committee members can look at the same data and believe opposite conclusions?  Seems there is some ideology in play there.). At any rate, a change in the vote count will be a signal.  Recent data has shown that wages are still hot, but slowing down, while inflation is similarly hot but slowing.  The latest CPI data will be released on Wednesday so the BOE will have that to account for as well as everything else.  At this point, I’m in the no move camp with the same split of votes the outcome.

With that recap, let’s look at the overnight session briefly.  As mentioned above, equities are green everywhere with the Nikkei (+2.7%) leading the way around the world and pushing back close to the key 40K level.  But there was strength in every market in Asia.  Europe, too, is all green, albeit less impressively, with gains on the order of 0.25% while US futures are looking good at this hour (7:45) with the NASDAQ leading the way, up 1.0%.  (Here, many are counting on more amazing news from Nvidia as they have a weeklong conference starting today.)

After last week’s rush higher in yields on the strength of the hotter inflation prints from the US, this morning is seeing very little movement overall ahead of the central bank meetings this week.  Basically, every market is within 1bp of Friday’s closing levels, with a few higher and others lower.  One other thing I failed to mention was the PBOC will be revealing their 5-year Loan Prime Rate on Tuesday night, and while no change is forecast, it was last month when they cut this to help the property market that kicked off the idea more stimulus was coming.

Oil prices continue to perform well on the back of several different factors.  First, we have seen inventory draws much greater than expected in the US.  At the same time, Ukraine has damaged several Russian refineries thus reducing the supply of products and we still have OPEC+ maintaining their production restrictions.  Add to this China’s apparent rebounding growth supporting demand and that is a recipe for higher prices.  As to the metals markets, despite the dollar’s recent rebound, gold continues to hold its own and copper is still rising consistently.  In fact, the red metal is higher by 5% in the past week, a potential harbinger of better global growth.

Finally, the dollar is a touch softer this morning, but only a touch.  The biggest mover is ZAR (-0.6%) which is opposite the broader trend of very slight dollar weakness.  While South African equities have been drifting lower of late, today’s move feels more like an order in the market than a fundamental change.  Away from that, though, no currency of note has moved more than 0.2% on the day as traders await the onslaught of central bank news.

Speaking of news, we have other things beyond the central banks as follows:

TuesdayHousing Starts1.43M
 Building Permits1.50M
ThursdayInitial Claims216K
 Continuing Claims1815K
 Philly Fed-2.5
 Current Account-$209.5B
 Existing Home Sales3.95M
 Flash PMI Manufacturing51.7
 Flash PMI Services52.0
Source: tradingeconomics.com

In addition, starting Thursday, the first Fed speakers will be back on the tape to reinforce whatever message Chair Powell articulates on Wednesday.

From my vantage point, it appears that the BOJ’s rate hike has been accepted and priced in already, while the biggest surprise could be Switzerland.  However, the fate of the dollar lies in the hands of Powell, and that is an open question we will discuss tomorrow.  For today, don’t look for too much of anything in any market.

Good luck

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Whispers in the Wind

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Whispers in the wind
Imply rates may be rising
Sooner than we thought

In the wake of Friday’s noncommittal payroll data, which I will discuss below, the topic garnering the most interest this morning is the BOJ and whether they will be adjusting monetary policy one week from today rather than in April.  There have been several articles published on the topic which is usually a sign that the BOJ is floating trial balloons.  At this point, the market is pricing about a 2/3 probability of a move next week based on current Japanese OIS swap data.  That is a significant increase compared to the pricing just two weeks ago.  In addition, we have seen a number of analysts from the major Japanese banks move their call to March from April previously

You may recall that a key discussion point on this subject has been the Spring wage negotiations and whether the new round will embed higher wages into the economy.  Last week I mentioned that Rengo, one of the labor associations, was seeking a 5.85% increase, which would be the largest such move in more than 30 years.  As it happens, the results will be released this coming Friday, so if the outcome is high enough, arguably Ueda-san and the BOJ would have enough information for a move.

One other interesting tidbit was the fact that last night, the BOJ remained out of the equity market despite the fact that the TOPIX (Japan’s other major index) fell more than 2% in the morning session.  Ever since Covid and the market panics then, on every occasion when the morning session saw the index decline that much, the BOJ was a buyer in the afternoon.  While this was not an official policy per se, it was the reality.  The upshot is that the BOJ is the largest holder of Japanese stocks in the world, owning something on the order of 8% of the market.  The fact that despite that decline, they changed their response could well be a tell that other changes are coming.

In the end, I would argue it matters less whether the first adjustment happens in March or April and more about just how far they are going to adjust policy.  I remain unconvinced that this is the beginning of a true normalization of monetary policy, or perhaps more accurately, that the BOJ is going to raise rates to bring them in line with the rest of the G10.  Rather, my sense is we will get to 0.0% at the first move, and that over the ensuing years, a move to even 0.3% in the overnight market will be difficult to achieve absent a major explosion of economic growth alongside rapidly rising inflation.  And frankly, I just don’t see that happening at all.

Keep this in mind, 2-year JGB yields, which have been edging higher steadily for the past two months, are still at only 0.2%.  That is not a sign that the market is expecting a dramatic increase in Japanese policy rates anytime soon.  Since the beginning of the month, the yen has rallied about 2.65% on this story.  Can it go much further?  Certainly, there is room for further strength given its performance over the past several years.  However, I would argue that will rely on the Fed cutting rates, and doing so aggressively, to truly narrow the yield differential.  And right now, I just don’t see that happening.

On Friday, the payroll report
In some ways, came up rather short
While headlines were strong
Revisions felt wrong
For rate hikes, more folks, to exhort

By now, you are aware that despite a much stronger than forecast headline NFP print of 275K, (exp 200K), the revisions to the prior two months were -167K, which took the luster off the headline and reverted the revision story back to negative from the surprising positive result last month.  In addition, the Unemployment Rate rose 2 ticks to 3.9% and Average Hourly Earnings only rose 0.1% on the month.  The market response here was interesting, to say the least.  While Treasury yields continued their recent slide, perhaps anticipating Fed action sooner rather than later, the equity market sold off as well, although that easily could have been simple profit taking after a huge run higher.  Of more interest is the fact that NY Fed President Williams, the last Fed speaker before the quiet period started, sounded just a touch more dovish than a number of the speakers we heard last week.

At this point, market participants are focused on a couple of things I think, with the next big thing tomorrow’s CPI print.  Thursday brings Retail Sales and then, of course, the FOMC statement and Powell presser is the following Wednesday.  June remains the odds-on favorite for the first Fed cut but that is subject to change based on tomorrow’s data.  If CPI indicates that the January number was not an aberration, and that inflation is actually stickier than many (want to) believe, I would not be surprised to see the median dot plot expectations rise to only 2 rate cuts in 2024. That is substantially fewer than the current estimate of 4+.  That will have a significant impact on markets if that is the case.  Alternatively, a very soft number tomorrow could easily bring May back onto the table for the first rate cut and may alter the dot plot in the other direction.  We shall see,

As the market awaits all the upcoming news, here’s what happened overnight.  Along with the slide in Japanese shares, most Asian markets sold off, all in the wake of Friday’s weak US equity performance.  The one exception was China, where both the Hang Seng (+1.4%) and CSI 300 (+1.25%) rallied at the end of the Chinese National People’s Congress as hopes for more stimulus remain high. In Europe, bourses are all in the red, although the declines have not been excessive, just -0.25% to -0.5%.  And at this hour (7:45), US futures are pointing slightly lower, -0.2% across the board.

In the bond market, yields are generally little changed in both treasury and European sovereign markets with all eyes on tomorrow’s data.  Last week’s ECB meeting didn’t really add too much to the conversation although it appears that expectations are cementing around a June rate cut, regardless of the Fed’s actions.  Overnight, JGB yields edged another 2bp higher, which given the increased scrutiny on a March rate hike is not that surprising.

In the commodity markets, oil (-0.5%) is sliding a bit and generally remaining right in the middle of its $75-$80 trading range for the past month.  Meanwhile, gold, while little changed this morning, is holding onto its recent gains and showing no signs of slipping back soon.  As to the base metals, copper (+0.3%) is edging higher while aluminum is unchanged on the day.  These metals markets are looking toward China to get a sense of the chances for fresh new demand.

It can be no surprise that the dollar is largely unchanged this morning with very modest gains and losses across both the G10 and EMG blocs.  In the G10, JPY (+0.3%) is the biggest mover with the rest of the bloc +/-0.1% on the day and giving no signal.  In the EMG bloc, KRW (+0.5%) is the largest mover, although it is not clear what would have driven the move as equities there fell pretty sharply overnight.  Also, CNY (+0.15%) is rallying after CPI data released over the weekend showed a monthly rise of 1.0% and that brought the Y/Y number back into positive territory at +0.7%.

On the data front, there is some other interesting data aside from CPI as follows:

TuesdayCPI0.3% (3.1% Y/Y)
 -ex food & energy0.4% (3.7% Y/Y)
ThursdayInitial Claims218K
 Continuing Claims1911K
 Retail Sales0.7%
 -ex autos0.4%
 PPI0.3% (1.2% Y/Y)
 -ex food & energy0.2% (2.0% Y/Y)
 Business Inventories0.2%
FridayEmpire State Manufacturing-7.5
 IP0.0%
 Capacity Utilization78.4%
 Michigan Sentiment76.6

Source tradingeconomics.com

However, while there is a bunch of stuff coming out, I suspect that after CPI, it will all be anticlimactic.  As we are in the Fed quiet period, there will be no commentary, although in the wake of the CPI report, look for anything in the WSJ from the current Fed whisperer, Nick Timiraos.  This is especially so if the numbers are far from expectations.

In the end, today ought to be very quiet overall, with all eyes on tomorrow.  From there we shall see.

Good luck

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Who Do You Trust?

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At this point, it’s who do you trust?
‘Bout ‘flation, ‘cause as I’ve discussed
To some it seems hot
For others, it’s not
And so far, no one’s got it sussed

The thing is this PCE story
Is more than just mere allegory
Chair Jay and his team
Still harp on the theme
That higher for longer brings glory

I read far too much economic analysis each day as I try to glean interesting ideas from very smart people who are happy to offer them up.  Hopefully, my doing this allows you to spend your time doing more important things while still keeping abreast of the macroeconomic situation.  But, boy, I cannot remember a time when there was such vehement disagreement on a single statistic.  There have been many times where economic bulls look at all the data and see great things while the bears see death warmed over.  But that is generally based on a collection of items.  However, right now, literally every other piece that I read, all published by very reputable analysts and economists tells the opposite story.  One piece will explain that yesterday’s 0.4% rise in core PCE was just an aberration and that it is destined to reverse lower going forward largely because housing inflation is going to decline.  The next piece will point to yesterday’s release and explain that the recent three-month or six-month trend has turned higher in the critical core services component, and that there is no sign it is going to reverse.

The greatest (or worst) thing about economics is since it is not a hard science, everybody can have a view, typically back it up with some piece of data or another and make their case.  While ultimately, the proof is in the pudding, when economists are wrong, they will typically fall back on they missed the timing, not the actual direction of travel.

By this time, if you have been following my writings, you are aware I am in the ‘inflation is sticky’ camp, and I have not been surprised by the fact that it has stopped declining.  For 2 years we have been hearing that housing inflation is due to fall because of a massive supply of new apartments coming on the market soon, and yet I believe it is now 28 consecutive months where the housing component of CPI has risen at least 0.4% on the month.  I think one of the problems with the oversupply analysis is that it doesn’t account for the fact that a large proportion of those apartments are luxury apartments with very pricey rents.  As such, it is difficult for average or median rental prices to decline.  At the same time, the Case-Shiller Home price index rose 6.1% last month, which is not indicating any decline in single family home prices.  Given the proportion of housing in the inflation indices, whether CPI or PCE, if shelter costs are rising, you can bet that inflation will be rising.  And that’s where we stand.

The next question is, what does this mean for the Fed and their reaction function and then, how will it impact financial markets?  Well, we heard from four more Fed speakers yesterday and they remained consistent with their recent comments, i.e., there’s no need to rush as the economy remains strong and inflation isn’t declining as quickly as we hoped, but we remain confident that the time for rate cuts will come as the year progresses.  As of this morning, the market is pricing about an 80% chance of a June rate cut and is still pricing 3 ½ cuts for the year.  Meanwhile, Treasury yields have edged lower by 2bps, but remain well above the levels seen just one month ago, more than 40bps higher.  And lastly on this subject, equity markets are basically ignoring the data completely and focusing on internal factors like flows.  As such, my thought yesterday that they might stumble a bit, even with a lower PCE print, turned out to be completely wrong.  The party is still raging there.

As we look ahead, I would contend that the big picture remains exactly the same.  On the price front, yesterday’s data did nothing to dissuade me from my sticky inflation thesis.  At the same time, yesterday’s other data showed that manufacturing remains in a recession (Chicago PMI fell to 44.0), but the labor market is holding up (Initial Claims edged higher to 215K, although Continuing Claims were substantially higher at 1905K).  For much of last year I was far more focused on the NFP number as being the most important based on the idea that the Fed could not withstand a significant uptick in Unemployment for political reasons.  I have a sense that dynamic is going to reassert itself going forward.  If last month’s number was the aberration that many claim, and we see weakness next Friday, I believe that will really impact the narrative and we will see May come back on the table for the first rate cut.  But if it remains strong, the bar for cutting rates will remain quite high.

With that in mind, let’s look at the overnight session.  Asia was on fire with the Nikkei (+1.9%) leading the way after Ueda-san pushed back on the message from Takata we discussed yesterday.  He cautioned patience was necessary and until they saw and digested the wage outcomes later this month, there was no reason to do anything, especially given the recent weakness in GDP growth.  That caused the yen to give back yesterday’s gains and a weaker yen tends to help Japanese stocks.  But there was strength in China, albeit not as much, with the indices there and in Hong Kong rising by 0.5% or so.  We did see Chinese PMI data which printed as expected (Manufacturing 49.1, Non-Manufacturing 51.4, Caixin 50.9), which implies nothing has changed on the mainland regarding the economy.  Next week’s plenary sessions are still the China bulls’ hope for more stimulus.

European shares are generally firmer, with only the CAC (0.0%) the laggard as the rest are higher by 0.5% or more.  PMI data here was also largely in line with the Flash data last week and is being spun as the beginning of a turn higher.  However, ECB speakers continue to push back on the need for rate cuts soon which is not supporting equities on the continent.  As to the US futures market, after another rally to all-time highs yesterday, this morning sees very little movement ahead of the ISM data.

While Treasury yields have edged lower, all of Europe have seen their sovereign yields rise by between 3bps and 6bps, arguably on the idea that the worst of the economic story has passed.  I’m not sure I agree with that, but that is all I can get from the data.  Overnight, JGB yields edged 1bp higher, but are still sitting right at 0.70%, the level at which they have been trading for the past 5 weeks give or take a nickel.

Oil prices (+1.2%) are continuing their recent rise with WTI pushing back toward $80/bbl, as traders continue to expect OPEC+ to maintain their production cuts.  As well, from a market internal perspective, the backwardation in the curve is steepening.  Briefly, this means that front month prices are higher than prices further out the curve, which in the futures market is a signal that there is excess demand for physical.  That demand is the bullish signal.  As to the metals markets, gold (+0.5%) is breaking above its recent range high at $2050/oz, as the dollar, after a strong day yesterday, is ceding some of those gains.  However, base metals can’t get going with both copper and aluminum sliding by about -0.25% this morning.

Finally, as mentioned, the dollar is sagging a little with only the yen performing worse.  But its losses are generally quite modest, on the order of 0.1% or 0.2% for both G10 and EMG currencies.  And while it is under pressure today, the trend so far in 2024 is still very clearly for dollar strength.  Given the continued hawkish tone from the Fed, I see no reason for that to change anytime soon.

On the data front, both ISM Manufacturing (exp 49.5) and Michigan Sentiment (79.6) are due at 10:00 this morning and then we hear from five different Fed speakers as the day progresses, including Governor Waller, maybe the second most influential voice on the FOMC.  It is hard for me to believe that they are going to change their tune, especially given that yesterday’s PCE data gave no hint that their 2.0% target was right around the corner.

Summing up, consider the fact that the US continues to benefit from a massive fiscal impulse, relatively cheap and abundant energy prices and the tightest monetary policy in the G10.  With that in mind, we continue to see international capital flow into the country (look at the stock market!) and I suspect those things need to change for the dollar’s trend to change.  That is not going to happen today.

Good luck and good weekend
Adf

Bears’ Great Dismay

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Their confidence clearly was lacking
So, now on rate cuts they’re backtracking
As well, they’re concerned
Some banks have not learned
To manage their risk and need smacking
 
But really the news of the day
Is AI remains the key play
NVIDIA beat
And all of Wall Street
Is buying to bears’ great dismay
 
Starting with the FOMC Minutes, the two things that stood out to me were these two lines, “The staff provided an update on its assessment of the stability of the U.S. financial system and, on balance, characterized the system’s financial vulnerabilities as notable. The staff judged that asset valuation pressures remained notable, as valuations across a range of markets appeared high relative to fundamentals.”  Arguably, this was why the Fed removed the line from the statement about “The U.S. banking system is sound and resilient,” which had been included since the Silicon Valley Bank debacle.  Perhaps they see something amiss.  As well, there was discussion regarding the timing of the end of QT with July seeming to be the latest thinking for its initial reduction.  But otherwise, as evidenced by the fact that virtually every Fed speaker has indicated they lack confidence inflation is dead, and that while policy is currently restrictive, it is still too soon to think about cutting rates, was clearly the broad theme of the meeting.  Next week we see the PCE data so perhaps that can change some opinions, but right now, given what we have just seen from CPI/PPI, they cannot have gained confidence it is time to cut.
 
As to NVIDIA, huge results, beating expectations and the word from the CEO is that demand will outstrip supply at least through the end of the year.  The market response here has been as one would expect; a big rally in stocks, especially tech.  ‘Nuff said.
 
Nikkei all-time high
Thirty-four years in waiting
Has finally come

Under the heading a picture is worth 1000 words, behold the relationship between NVIDIA and Nikkei 225 (chart from Weston Nakamura’s Across the Spread substack):

Pretty tight correlation, no?  Arguably, the question is which is driving which?  Does a stronger Nikkei drive NVIDIA’s performance or the other way around?  The first thing to note is that breaking down the Nikkei’s performance, similar to the NASDAQ, there are a handful of AI related stocks that have been the drivers of the move.  If you read Nakamura-san’s take, he believes that it is the Nikkei which is driving things, but I would argue while the Nikkei’s move happens earlier in the global day, the reality is that everything is an echo of the current AI craze which NVIDIA started.  

The next question is, just how long can this continue?  Remember two things here; first, trees don’t grow to the sky, and neither will NVIDIA’s stock; and second, new technologies take MUCH longer to assimilate than the initial hype would have you believe.  We are already seeing issues with Google’s Gemini AI with respect to drawing remotely accurate historical images of US presidents, as an example.  We are still in the very early innings of the AI phenomenon and there will be more hiccups along the way.  One last thing regarding AI is its power consumption, which is off the charts high.  If the world is going to be run by AI, we need a lot more electricity than is currently being produced and that alone will slow its incorporation into things.

Ok, on to more macro views, last night and this morning saw the release of the Flash PMI data all around the world.  Of the seven major releases thus far, only India is in expansion with it continuing to motor along in the low 60’s.  Otherwise, everything else (Australia, Japan, Germany, France, the Eurozone and the UK) are all in contraction in manufacturing.  Services is more mixed with several slightly above the 50 boom/bust line, but overall, while things might be seen as slightly improving, they are still pointing to recessions in Europe, Japan and the UK.

Despite this weakening data, virtually every one of these nations’ currencies is stronger vs. the dollar this morning.  In fact, the dollar is having a pretty rough session, down between 0.3% and 0.5% against most G10 counterparts with a slightly smaller decline vs. its EMG counterparts.  One of the odd things about this is that US yields have not really fallen much (Treasuries -1bp) which is right in line with the price action in European sovereigns and what we saw overnight in Asia across the board.

Add to the bond story the message from the Fed of higher for longer and it doesn’t appear that interest rates are today’s driver of the markets.  We already have seen that equity markets are rocking with the Nikkei (+2.2%), Hang Seng (+1.5%), CSI 300 (+0.9%), and most of Europe higher by 0.9% or more.  US futures, of course, are really flying with the NASDAQ (+2.2%) leading the way, but everything in the green.  I grant that a typical risk-on reaction is a weaker dollar but given the amount of funds that are flowing into the US equity markets, it is very hard to understand why the dollar is under pressure.  Something seems amiss.

If we look at the commodity markets, energy is softer across the board with oil (-0.2%) edging lower and basically unchanged on the week, while NatGas (-2.7%) is suffering as well.  As to the metals markets, gold (+0.2%) is edging higher on the back of the weaker dollar but both copper and aluminum are little changed on the day, less than 0.1% different from yesterday’s closing levels.  

Perhaps this is the new risk-on look, strong equity markets, a weak dollar and nobody cares about bonds.  But bonds have been far too important a driver of market activity to suddenly be ignored.  Now, yesterday, the Treasury auctioned some 20-year bonds and it did not go well, with a tail of 3.3bps, implying demand for the long-end remains tepid.  Given my personal view on inflation, that makes perfect sense, but arguably, the longest duration assets around are tech stocks and the divergence between bonds and those stocks is hard to reconcile.  I guess we will learn more as time progresses, but for now, I would be at least a little wary.  Absent a change in the inflation narrative back to the Fed has won, it does feel like there is still some risk to be seen.

On the data front, this morning brings the Chicago Fed National Activity Index (exp -0.15) which is a comprehensive view of financial conditions around the country and closely followed by the Fed.  As well we get Initial (218K) and Continuing (1885K) Claims and the Flash PMI’s (50.5 Manufacturing, 52.0 Services).  We close with Existing Home Sales (3.97M) and the oil inventory data and throughout the day we hear from four different Fed speakers, Jefferson, Harker, Cook and Kashkari.  Will any of this data matter?  I doubt it.  Can we expect anything new from the Fed speakers?  I kind of doubt that as well as there has been exactly zero evidence that the economy is slowing and dragging inflation lower since last week’s CPI and PPI data.   So, look for that lack of confidence in the demise of inflation to be widespread.

As to the dollar, something doesn’t smell right today.  I feel like it should be better bid and expect that by the end of the day, it will see that type of movement.

Good luck

Adf

The NASDAQ in Tatters

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The only thing that really matters
Is whether NVIDIA shatters
It’s forecasted earnings
And market bulls’ yearnings
Else watch for the NASDAQ in tatters
 
Of lesser importance we see
The thoughts from the FOMC
Since last they all met
Stock bulls have beset
The rate hawks with obvious glee

 

While I know this is a macro focused discussion, and that is what this poet understands best, unquestionably, the biggest market news for the day, for all markets, is the NVIDIA earnings release after the close this afternoon.  There has been more press about this particular number, and more commentary on Fintwit (FinX?) than any other single stock earnings number I can remember.  And let me be clear, I have no idea what is forecast, let alone what the whisper number is, nor do I really care.  But I am definitely in the minority.  My take is that there are many analysts who will consider adjusting their big picture view of the economy and markets based on one company’s earnings.  This might be a sign that things are somewhat unhinged in markets.  

Before then, absent any hard statistical data, we will see the FOMC Minutes from the January 31st meeting.  You may remember that as the one where Chairman Powell flopped back to hawkish after he flipped to a dovish pivot in December.  Since then, there has been a pretty steady drumbeat from all the FOMC members that they are still not confident they have beaten inflation and so want to wait further before they cut rates.  And it’s a good thing they have had that view as last week we all saw that inflation was not cooling quite like the doves had expected.  In fact, they look pretty smart right now because of their reluctance to join the rate cutting mania.

A review of the Fed funds futures this morning shows that the probability for a March cut has fallen to just 6.5% while May is down to a 37.3% probability.  As a demonstration of just how much things have changed in the past month, in the middle of January, March was priced for a 46% probability and May for an 85% probability of the first cut in the cycle.  As well, we have seen the number of cuts priced for the full year fall from 6 down to just under 4, not far from the dot plot guidance we received back in December.  So far, the Fed has been successful in getting its message across despite a great deal of wailing and gnashing of teeth that if they didn’t cut soon, the world would end.

This begs the question, why is everybody so keen to see the Fed cut rates at all?  Consider the issue from the perspective of the saver and retiree.  Things are much better when one’s money market account yields 5% than 0% so I expect that most retirees are pretty happy at the current state of affairs.  From the equity market’s perspective, the very fact that we have set 11 new S&P 500 all-time highs so far in 2024 indicates that the current level of interest rates is not that big a problem broadly speaking.  Yes, there are segments of the market that have underperformed but that is always the case.  

On the flipside, of course, Janet Yellen would like to see rates decline as it would cut her interest rate bill, and certainly all those commercial property holders with mortgages coming due this year, a number that has grown to ~$960 billion I understand, are desperate for lower rates, but that is a pretty small subset of the country.  All I’m saying is that if the current rate structure is benefitting savers and also putting downward pressure on the rate of inflation, it’s just not clear why so many are desperate for a change.  And what if, just for argument’s sake, PCE is hot as is the February CPI print which comes ahead of the next FOMC meeting?  Rate hikes are going to start to get discussed a lot more frequently.

One other thing to keep in mind is that the US economy is currently the only major one that is showing any real life.  Europe, the UK and Japan are all in recession and China’s growth is effectively stagnating.  Other nations are desperate to cut interest rates to help support their economies but are unwilling to do so for fear that their currencies will fall further and invite even more inflation (China excluded) onto their shores.  So, they really want the Fed to cut so they can follow along without the concomitant problem of a falling currency.  But is the Fed responsible for the problems in Europe or Japan?  I think not.

At any rate, we will not solve this dilemma today, and all we can do is observe how things play out over the coming weeks and months.  FWIW, which is probably not a huge amount, I have seen precious little evidence that inflation is going to collapse, and rather expect it to stay here or edge higher.  In that case, I think the Fed may maintain their current rates for far longer than even June.  Absent a banking crisis, perhaps started by more trouble in the commercial real estate sector, my view remains, at most, one token cut this year.  Of course, if we do see that banking crisis, then 300bps will be the minimum.

Ok, overnight, most markets remain in thrall to the NVIDIA earnings story with one exception, China, where the regulators there tightened things even further instituting a new rule that there can be no net selling by institutional accounts in the first 30 minutes of trading or the last 30 minutes of trading.  This was in response to an algorithmic hedge fund selling a huge chunk of shares Tuesday ($350mm) in just a one-minute window and pressuring the whole market lower.  Apparently, they have been fined and prevented from trading for the rest of the week.  The idea behind the rule seems to be that if there can be no net selling in the last 30 minutes, the Chinese plunge protection team can work its magic unimpeded and push things higher on command.  I continue to wonder why the Chinese Communist Party is so keen to support the very essence of capitalism, but there you have it.  

With this in mind, you will not be surprised to know that the CSI 300 rallied 1.4% and the Hang Seng 1.6% overnight.  But the rest of Asia was less positive with most markets following the US lead lower.  Europe, though, except for the UK’s -0.85% performance, is higher on the day despite an absence of any major data or news.  The scuttlebutt is that there is a positive vibe for NVIDIA earnings.  Seriously!  As to the US futures, at this hour (7:45), they are continuing yesterday’s decline with the NASDAQ leading the way lower by -0.65%.

In the bond market, Treasury yields are softer by 1bp this morning while most European yields are higher by 1bp, so in other words, not much movement overall.  Asia saw a similar lack of movement as traders are awaiting the Minutes, NVIDIA and the uptick in Fedspeak tomorrow.

Oil prices (-0.4%) are a bit lower this morning but are just giving up yesterday’s small gains.  In fact, they are essentially unchanged so far in February as concerns over weakening global growth have been offset by concerns over an uptick in the middle east anxiety.  Speaking of energy, what I haven’t mentioned is NatGas, which while higher today by 10%, given it has fallen to $1.75/MMBtu, the move is not that impressive.  Warmer than expected weather has really undermined the price action lately.  In the metals markets, gold (+0.3%) continues to creep higher and today copper (+0.3%) is following suit.  As to aluminum, it is much higher, +2.4%, as concerns over fresh US sanctions on Russian aluminum have raised the risk of overall market disruption.

Finally, the dollar is little changed against most of its counterparts, G10 and EMG.  The biggest mover I see is ZAR (+0.4%) after core CPI ticked higher than expected and raised thoughts of tighter monetary policy there.  In the G10, NZD (+0.25%) is also responding to a higher-than-expected PPI print bringing a rate hike more sharply into focus there.  Otherwise, nada.

Aside from the Minutes, there is nothing else of note on the data calendar.  We do hear from Atlanta’s Raphael Bostic and Governor Michelle Bowman today, but I don’t expect either to waver from the current lack of confidence story.  It feels like it is going to be a quiet session overall, with the real fireworks reserved for 4:15 or so when NVIDIA reports.

Good luck

Adf

Led to Dismay

Posted on by

The first thing we saw yesterday
Was ADP led to dismay
But Treasury news
Adjusted some views
And stocks started trading okay
 
However, t’were two things we learned
First NYCB stock was spurned
Now, you may recall
That their greatest haul
Was Signature Bank, which was burned
 
And lastly Chair Powell, at two
Explained what he’s likely to do
They’re not cutting rates
As both their mandates
Remain far ahead in their view
 
Just when you thought it was safe to go back in the water…
 
I am old enough to remember when there was a growing certainty that not only was the Fed virtually guaranteed to cut rates by the May meeting, but the March meeting was very much on the table.  After all, inflation was below their 2.0% target (if you look at the recent 6-month run rate anyway) and therefore they just had to cut rates or stock prices might fall!  Or something like that.  But somehow, Jay and the FOMC missed that memo.  Instead, what they told us was [my emphasis];
 
“The Committee seeks to achieve maximum employment and inflation at the rate of 2 percent over the longer run. The Committee judges that the risks to achieving its employment and inflation goals are moving into better balance. The economic outlook is uncertain, and the Committee remains highly attentive to inflation risks.
In support of its goals, the Committee decided to maintain the target range for the federal funds rate at 5-1/4 to 5-1/2 percent. In considering any adjustments to the target range for the federal funds rate, the Committee will carefully assess incoming data, the evolving outlook, and the balance of risks. The Committee does not expect it will be appropriate to reduce the target range until it has gained greater confidence that inflation is moving sustainably toward 2 percent. In addition, the Committee will continue reducing its holdings of Treasury securities and agency debt and agency mortgage-backed securities, as described in its previously announced plans. The Committee is strongly committed to returning inflation to its 2 percent objective.”
 
In other words, while it is highly unlikely that they will need to hike rates further, unlike the markets or the punditry, Powell has little confidence that they have won the inflation battle and rate cuts remain merely a distant prospect.  Certainly, there was no obvious concern that interest rates are “too” high at this time.  In other words, this was a much more hawkish statement, and Powell’s answers in the press conference were in exactly the same vein.  Memories of the dovish December meeting have faded from view.    And this was the denouement to quite a day, one which gave us so much new information.
 
Things started with a weaker than expected ADP Employment result, just 107K, although that data point’s correlation to NFP has been diminishing of late.  Regardless, it was the type of softness that got people primed for a dovish Fed.  Then, the QRA indicated that the Treasury will be issuing what appears to be about $45-$50 billion in new coupons this quarter to fund a $400 billion or $500 billion budget deficit.  The balance of that will be via T-bills which means that while the ratio is not as aggressively leaning toward T-bills as last quarter, it is still miles above the historical rate of 20% ish.  Those two stories got bond bulls hyped, although equity markets struggled on some weak earnings numbers. 
 
And then we heard from New York Community Bank (NYCB), which you may recall, was the lucky recipient of the Signature Bank assets last March.  Well, it turns out they made a hash of things, losing a bunch of money with some pretty bad loan impairments added on to increased capital requirements because they grew to a new, larger risk-weighting tier after the acquisition.  At this time, there is no indication they are about to go bust, but the question has been asked a lot as the stock cratered and investors ran into Treasury debt just to be safe.  As it happens, the stock, which had basically doubled over the past year after buying Signature, has reverted to its pre-acquisition price and that added jitters to everyone’s views.  PS, those loan impairments were CRE based which naturally leads to the question of what is going on with other regional banks.
 
Finally, during the press conference, Chairman Powell was clear that a March rate cut was highly unlikely and that was the final nail in the equity market’s coffin.  So, the NASDAQ led the way lower, falling -2.2% while the S&P 500 tumbled -1.6%.  At the same time, 10-year yields dropped like a stone, down 12bps to 3.91%.
 
Looking ahead, I wonder how all those folks who were certain the Fed HAD to cut because policy was just TOO TIGHT for their liking will reframe their narrative.  To my eye, yesterday’s equity declines are a blip and will not even register at the Eccles Building.  There is a bit of irony in that the doves need now eat so much crow.
 
Ok, on to this morning, where the overnight price action saw another mixed picture in Asia, but this time with Japan (Nikkei -0.75%) sliding while Chinese shares (Hang Seng +0.5%, CSI +0.1%) edging higher.  There was yet another announcement of a bit of further fiscal support from the Chinese government, but Xi remains reluctant to bring out the bazookas.  European shares are also mixed with gains in the UK and Spain and losses in France and Germany.  PMI data showed that the Flash numbers were pretty much spot on and all of Europe remains well below 50.0 except Norway (50.7) which benefits from its oil industry.  It remains very difficult to get excited about the Eurozone’s economic prospects these days which should ultimately weigh on the ECB to cut rates sooner and the euro to suffer in that case.  As to US futures, after a wipeout yesterday, this morning they are firmer by about 0.5% at this hour (6:45).
 
In the bond market, after yesterday’s Treasury yield collapse, 10-year yields are higher by 3bps this morning and European sovereigns have risen about 4bps on average.  This movement is more a response to the large move yesterday rather than a result of new information.  Overnight, JGB yields slipped 4bps, clearly following in the footsteps of Treasury yields. 
 
As to commodities, oil (+1.0%) has bounced after a weak session yesterday that was driven by demand worries.  But tensions in the Middle East seem to be reasserting themselves with several stories in the press this morning regarding the danger to the world from a potential collapse in shipping capabilities.  The ongoing Houthi attacks in the Red Sea are starting to really take their toll on supply chain situations.  This is not only bad for inflation readings but could well impair the ultimate delivery of critical things like oil, thus driving its price even higher.  As to the metals markets, they are all under pressure this morning with gold holding on best given its haven status but all the industrial metals lower by 1% or more.
 
Finally, the dollar is coming up roses this morning.  While in the early going yesterday, before the FOMC meeting, the dollar broadly sold off on the softer ADP and dovish QRA, Powell changed everything, and the dollar reversed course in the middle of the day and rallied back nicely.  This is true against virtually all its G10 and EMG counterparts.  The weakest members are AUD (-0.7%) after weak housing data Down Under added to thoughts of a rate cut coming soon.  As well, we see GBP (-0.4%) just ahead of the BOE meeting where expectations are for a more dovish statement although no policy change.  But we are seeing weakness in CLP (-1.3%) on the back of that weak copper price and weakness in ZAR (-0.4%) on the weak metals complex as well.  Given the hawkish tilt from Powell yesterday, unless there is a concerted effort by the Fed speakers that will be flooding the tape over the coming weeks to reverse that course, I suspect the dollar will benefit in the near-term.
 
On the data front, this morning brings Initial (exp 212K) and Continuing (1840K) Claims, Nonfarm Productivity (2.5%), Unit Labor Costs (1.6%) and ISM Manufacturing (47.0).  With NFP tomorrow, I expect that the productivity and ULC data should be of the most interest as they will play most deeply into the Fed’s thinking.  Improved productivity implies that there is less reason to cut interest rates as the “neutral rate” should be higher than previously thought.  In fact, that dynamic would be very positive for the dollar, and interestingly, for the equity market as well as it would be a clear boost to earnings potential.  We shall see how it turns out.
 
Good luck
Adf
 
 
 
 
 

Nary a Doubt

Posted on by

The two things we’re watching today
Are Jay and the new QRA
The pundits are out
With nary a doubt
That easing is coming our way

But what if this faith is misplaced
And Jay, at the presser, bald-faced
Says policy ease
Is not what we please
And we’ll not get there in great haste

Reading the Fed Whisperer, Nick Timiraos of the WSJ, this morning was enlightening only to the extent that everybody he interviewed demonstrated they have no idea what will happen, and merely described what they would like to see.  Now, in fairness, I don’t think Powell himself really knows how things are going to play out as we continue to see mixed pictures on the economy.  For every strong datapoint (e.g., GDP, JOLTS, Case Shiller) indicating that there are many potential inflationary pressures extant, we see some softer data points (e.g., PCE, Empire Manufacturing, Dallas Fed) that indicate policy is excessively restrictive.  While it is very clear that the Fed will not adjust policy today, a look at Fed funds futures shows that the market is pricing in a 45% chance of a cut in March.  A month ago, that was over 70%, so Powell must be a bit happier, but 6 weeks is such a long time in this context, anything can happen between now and then.  And, oh yeah, the market is still pricing in 6 cuts this year.

Of course, long before the FOMC statement and Powell presser this afternoon, the Treasury will release its QRA and the market will learn if Secretary Yellen is going to continue down her recent path of leaning toward more T-bills and less coupons.  Based on her continuous comments that the soft landing has been achieved and inflation is no longer a problem, it seems quite clear that she wants to see the Fed cut rates soon.  After all, lower interest rates take pressure off the budget deficit, which is entirely her baby at this point.  Interestingly, she could essentially force Powell’s hand in this situation as follows:

1.     Issuing a high percentage of T-bills will lead to
2.     Reducing the RRP balances and bank reserves which will
3.     Force the Fed to respond by slowing/ending QT to prevent any systemic problems like seen in September 2019

Remember, we have already heard from Powell, as well as Dallas Fed President Lorie Logan, whose previous role was at the NY Fed overseeing the Fed’s reserve portfolio, that the time to discuss slowing or ending QT was fast arriving.  By itself, that is a policy ease, but it would also be a signal that further changes were on their way.  In fact, a continued heavy reliance on T-bill issuance would have two vectors to support the bond market; ending QT reduces the amount of bonds the market needs to absorb and reducing new supply by itself will do exactly the same thing.  At least for as long as inflation remains quiescent.  And in the end, that remains the biggest unknown, inflation.  All these plans and ideas revolve around the premise that the Fed has won its inflation fight.  But I ask you, what if they haven’t?

Too much digital ink has been spilled already on the inflation question and the two camps remain at distinct odds.  Forgetting all the conspiracy theorists who claim inflation is really 10% or more, and looking only at serious economists and analysts, while all agree that the rate of inflation has fallen from its peak levels in the summer of 2022, there is still a pretty even split between the two sides.  While I fall on the side of stickier inflation than the market is pricing, I can understand the other side of the story.  But the point is, there are two very real sides to the story and the outcome remains unwritten.  However, if inflation does remain stickier than the doves believe, it will destroy their entire thesis of why the Fed should be easing policy.  Given the stock market is making new highs regularly, I suspect investors and traders have largely bought into the ‘inflation is over’ view.  Just be careful if it’s not.

Ok, as we await today’s activities, let’s look at what happened overnight.  Following a mixed session in the US yesterday, Asian markets turned back the clock a few weeks with the Nikkei (+0.6%) continuing its longer-term rally while both the Hang Seng (-1.4%) and CSI 300 (-0.9%) revert to their losing ways.  It seems that investors simply do not believe that President Xi has either the ability or willingness to do anything to support the stock market there, at least, if not the economy.  I believe it would be a mistake to believe he is not willing, which calls into question exactly what they are going to do to prevent things from starting to impact the economy more negatively.  And perhaps we have seen the first steps.  The other noteworthy story in the WSJ this morning was about how Chinese authorities are “discouraging” negative takes on the economy from being published and instead telling news outlets to publish stories about the bright prospects there.

Moving on to Europe, the main indices have moved very little thus far today after a mixture of data showing inflation in Germany and France continue to decline but Retail Sales in Germany (-1.6%) and Switzerland (-0.8%) and Industrial Sales in Italy (-1.0%) all falling sharply in December.  Given the weak GDP data yesterday on the continent, none of this can be surprising.  Finally, US futures are mostly lower this morning, led by the NASDAQ (-1.0%) despite (because of?) what seemed to be solid earnings from Microsoft and Alphabet.  In the end, though, I sense that investors are far more focused on the QRA and FOMC right now.

Treasury yields are unchanged this morning but that is after a 4bp decline yesterday and we have seen European sovereign yields slide this morning as well, between 1bp and 3bps, which seems to be a catch up move to the Treasuries.  I must mention Australian government bonds, which saw yields tumble 13bps overnight on the back of a much softer than expected CPI reading which has the market talking rate cuts there again.  Finally, JGB yields edged 2bps higher, despite weaker than expected Retail Sales and IP data.

Oil prices (-1.1%) are backing off this morning after another positive day yesterday and a very strong month of January, where WTI rose > 9%.  (My take is that will not help the CPI data when it comes out in a few weeks’ time.)  Meanwhile, metals prices are trading near unchanged on the day as traders here are also awaiting the new information.

It should be no surprise that the dollar is, net, little changed this morning on the same premise of waiting for Godot Powell.  Looking at my screen, I don’t see any currency that has moved more than 0.3% in either direction so really no information yet today.

In addition to the QRA and FOMC meeting, we see the ADP Employment Report (exp 145K), the Employment cost Index (1.0%) and Chicago PMI (48.0).  Careful attention should be paid to the ECI as the Fed focuses on that metric for wage inflation data.  As an indication, prior to the pandemic, that index averaged around 0.6%, but since then, it is more like 1.0% on a quarterly basis.  That annualizes to more than 4% and will maintain upward pressure on inflation if it stays there.  Just something else to keep in mind.

If pressed, I believe that the QRA will show reduced coupon issuance and Powell will be more dovish than not.  While we know the Treasury is political, by definition, and will do everything in its power to stay in power and get re-elected, my take is the Fed is in that camp as well.  I would not be surprised to see a more dovish take this afternoon after the QRA this morning.  And initially, at least, that tells me the dollar will trade back toward its recent lows ceteris paribus.

Good luck
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There’ll Be No Crash

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Said Janet, I know we’ve been spending
Too much, but you’re not comprehending
I’ve plenty of cash
So, there’ll be no crash
Instead, stocks will keep on ascending

Til Wednesday, we’ll keep the suspense
But really, it’s just common sense
Chair Powell and I
Will help the Big Guy
And policy ease will commence

Well, the first shoe dropped yesterday afternoon as the Treasury explained that they would “only” be borrowing $760 billion in Q1, a solid $56 billion less than had been expected by the market as of yesterday morning.  With that significant reduction in potential Treasury issuance, the bulls went nuts and both stocks (+0.75%) and bonds (-7bps) rallied.  A cynic might believe that Secretary Yellen was trying to manipulate the stock market higher, but we all know that could never be the case.  At any rate, this sets us up for Wednesday when first thing in the morning we will see the Quarterly Refunding Announcement (QRA), where Yellen will describe the ratio of short-dated T-bills to long-dated coupon issuance, and then at 2:00, the FOMC Statement will be released with Chairman Powell speaking at the press conference 30 minutes later.

Given the excitement over yesterday’s events, I suspect that at least one of the two events tomorrow will be dovish rates/bullish equities but have no idea which way it will play out.  In the end, though, it doesn’t really matter.  Ultimately what we have learned is that Yellen is running the show, and all Powell can do is respond.  The one thing I have to wonder is, what if the government spends more than the $760 billion in Q1?  Where will that money come from, and what will the impact be on the markets?  (Obviously, they will simply borrow more, but it will not be an issue as there is no limit these days, nor for an entire year going forward.)  However, for now, that is just a concern for grumpy old men like me.

In China, though they have announced
More stimulus and stocks first bounced
It seems traders feel
Xi ain’t got that zeal
So, sellers once more have all pounced

You may recall last week when the Chinese stock market rallied sharply after a series of announcements regarding government support.  First there was the story of CNY 2 trillion of cash that would be coming home and invested in equities and then the PBOC cut the RRR by 50 basis points, freeing up another CNY 1 trillion.  These moves were supposed to demonstrate that Xi was going to fix things.  And he did…for a week.  But now, equity markets in both Hong Kong (-2.7%) and on the mainland (-1.8%) are falling again as it seems market participants have come to believe that there are too many problems for a mere CNY 3 trillion to fix.  And they could well be correct.

After all, China has been inflating their economy for decades and the property bubble they have blown is not nearly popped yet.  While this could be a modest correction in the beginning of a trend higher, I have a feeling that the fundamentals have a long way to go before they make sense for international investors.  With the European economy having stagnated for the past 5 quarters and the US moving an increasing amount of business to Mexico from China, it will be tough sledding in China, I fear.  Ultimately, I continue to believe the renminbi will suffer as it will be the most likely outlet valve.  But for now, I guess they can stand the pain.

And those are today’s stories as the market braces itself for tomorrow’s QRA and FOMC, Thursday’s BOE and Friday’s NFP data.  In the meantime, let’s recap the rest of the overnight action.

Despite the robust performance in the US yesterday, only Japan and Australia managed to show any signs of life in Asia overnight as China dragged down all the other regional markets.  This cannot be too surprising given the importance of the Chinese economy there, and if it is lagging other nations are going to struggle as well.  Europe, however, is having a much better go of it, with gains across the board, led by Spain’s IBEX (+1.25%) after both real and nominal GDP rose more than expected with inflation ticking higher alongside economic activity.  That may not bode well for the inflation story in Europe, but for now, everyone’s happy and the ECB comments have all pointed to rate cuts by the middle of the year.  As to US futures, at this hour (7:45) they are just barely on the red side of unchanged, with no market even -0.1%.

You will not be surprised that European yields slipped yesterday after the US bond rally as the combination of a prospect of lower yields in the US alongside the slightly more dovish talk from the ECB speakers was plenty of catalyst for a bond rally there.  While yields have edged back higher by 2bps or 3 bps this morning, they remain below yesterday morning’s levels.  In the US, Treasury yields have continued their decline, down another 1bp overnight while JGB yields have edged down another 1bp as well.  One other market to note, China, saw yields slip 3bps overnight and they are now at their lowest level since the early 2000’s as the market anticipated further policy ease from the government and PBOC.

Oil prices (-0.65%) are off a bit this morning as they continue to consolidate last week’s gains.  Clearly there is still concern regarding the US response to the attacks on its base in Jordan over the weekend as the intensity of that response is still completely unknown.  Weakness in China is not helping the oil market and European GDP data has also worked against the demand story, so uncertainty remains the watchword.  As to gold, it is continuing to creep higher but remains in its recent 2020/2060 trading range.  Lastly, the base metals are a touch softer this morning, but only a touch.

Finally, the dollar is a bit softer this morning after a benign day yesterday.  In a way, this is surprising as I would have expected the greenback to slide alongside Treasury yields, but I guess given the broader dovishness from ECB and other central bankers, on a relative basis not much changed.  As well, traders are reluctant to take large positions ahead of tomorrow’s big QRA and FOMC announcements.  As such, I suspect that we are going to see a very quiet session here across the board, just like we had overnight.

On the data front, while not as exciting as tomorrow, we do see Case Shiller Home Prices (exp 5.8%), JOLTS Job Openings (8.75M) and Consumer Confidence (115.0) this morning.  I keep listening to all the people who are telling me that falling housing prices are going to drive inflation lower, and the only reason the CPI and PCE calculations aren’t already lower is because they both have them at a lag.  Then I look at Case Shiller and say, what falling housing prices?  Anecdotally, in my neighborhood, we continue to see bidding wars and homes selling above asking.  If rates are really going to come down further, I suspect that will only drive that process even further.  The deflation story just makes no sense to me.  But anyway, probably not much today and all eyes are on tomorrow.

Good luck
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