Tag Archives: #Italy

Still Feeling Stressed

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The overnight data expressed
That China is still feeling stressed
But Europe’s reports
Showed growth of some sorts
Might finally be manifest

The dollar is on its heels this morning after data from Europe showed surprising strength almost across the board. Arguably the most important data point was Eurozone GDP printing at 0.4% in Q1, a tick higher than expected and significantly higher than Q4’s 0.2%. The drivers of this data were Italy, where Q1 GDP rose 0.2%, taking the nation out of recession and beating expectations. At the same time Spain grew at 0.7%, also better than expectations while France maintained its recent pace with a 0.3% print. Interestingly, Germany doesn’t report this data until the middle of May. However, we did see German GfK Consumer Confidence print at 10.4, remaining unchanged on the month rather than falling as expected. Adding to the growth scenario were inflation readings that were generally a tick firmer than expected in Italy, Spain and France. While these numbers remain well below the ECB target of “close to but just below” 2.0%, it has served to ease some concerns about Europe’s future. In the end, the euro has rallied 0.25% while European government bond yields are all higher by 2-5bps. However, European equity markets did not get the memo and remain little changed on the day.

Prior to these releases we learned that China’s PMI data was softer than expected, with the National number printing lower at 50.1, while the Caixin number printed at 50.2. Even though both remain above the 50.0 level indicating future growth, there is an increasing concern that China’s Q1 GDP data was more the result of a distorted comparison to last year’s data due to changed timing of the Lunar New Year. Remember, that holiday has a large impact on the Chinese economy with manufacturing shutdowns amid widescale holiday making, and so the timing of those events each year are not easily stabilized with seasonal adjustments to the data. As such, it is starting to look like Q1’s 6.4% GDP growth may have been somewhat overstated. Of course, China remains opaque in many ways, so we may need to wait until next month’s PMI data to get a better handle on things. One other clue, though, has been the ongoing decline in the price of copper, a key industrial metal and one which China represents approximately 50% of global demand. Arguably, a falling copper price implies less demand from China, which implies slowing growth there. Ultimately, while it is no surprise that the renminbi is little changed on the day, Chinese equities edged higher on the theory that the PBOC is more likely to add stimulus if the economic slowdown persists.

Of course, the other China story is that the trade talks are resuming in Beijing today and market participants will be watching closely for word that things are continuing to move in the right direction. You may recall the President Xi Jinping gave a speech last week where he highlighted the changes he anticipated in Chinese policy, all of which included accession to US demands in the trade talks. At this point, it seems the negotiators need to “simply” hash out the details, which of course is not simple at all. But if the direction from the top is broadly set, a deal seems quite likely. However, as I have pointed out in the past, the market appears to have already priced in the successful conclusion of a deal, and so when (if) one is announced, I would expect equity markets to fall on a ‘sell the news’ response.

Turning to the US, yesterday’s data showed that PCE inflation (1.5%, core 1.6%) continues to lag expectations as well as remain below the Fed’s 2.0% target. With the FOMC meeting starting this morning, although we won’t hear the outcome until tomorrow afternoon, the punditry is trying to determine what they will say. The universal expectation is for no policy changes to be enacted, and little change in the policy statement. However, to me, there has been a further shift in the tone of the most recent Fed speakers. While I believe that Loretta Mester and Esther George remain monetary hawks, I think the rest of the board has morphed into a more dovish contingent, one that will respond quite quickly to falling inflation numbers. With that in mind, yesterday’s readings have to be concerning, and if we see another set of soft inflation data next month, it is entirely possible that the doves carry the day at the June meeting and force an end to the balance sheet roll-off immediately as a signal that they will not let inflation fall further. I think the mistake we are all making is that we keep looking for policy normalization. The new normal is low rates and growing balance sheets and we are already there.

As Powell and friends get together
The question is when, it’s not whether
More policy easing
Will seem less displeasing
So prices can rise like a feather

Looking at this morning’s releases, the Employment Cost Index (exp 0.7%) starts us off with Case-Shiller home prices (3.2%) and then Chicago PMI (59.0) following later in the morning. However, with the Fed meeting ongoing, it seems unlikely that any of these numbers will move the needle. In fact, tomorrow’s ADP number would need to be extraordinary (either high or low) to move things ahead of the FOMC announcement. All this points to continued low volatility in markets as players of all stripes try to figure out what the next big thing will be. My sense is we are going to see central banks continue to lean toward easier policy, as the global focus on inflation, or the lack thereof, will continue to drive policy, as well as asset bubbles.

Good luck
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Fleeing the Scene

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The latest news from the UK
Is that they have sought a delay
Til midsummer’s eve
When, they now believe,
They’ll duly have something to say

But Europe seems not quite so keen
To grant that stay when they convene
It should be a year
Unless it’s quite clear
The UK is fleeing the scene

Despite the fact it is payroll day here in the US, there are still two stories that continue to garner the bulk of the attention, Brexit and trade with China. In the former, this morning PM May sent a letter to the EU requesting a delay until June 30, which seems to ignore all the points that have been made about a delay up until now. With European elections due May 23, the EU wants the UK out by then, or in for a much longer time, as the idea that the UK will vote in EU elections then leave a month later is anathema. But May seems to believe that now that she is in discussions with opposition leader Jeremy Corbyn, a solution will soon be found and the Parliament will pass her much reviled deal with tweaks to the political codicil about the future. The other idea is a one-year delay that will give the UK time to hold another referendum and get it right this time determine if it is still the people’s will to follow through with Brexit given what is now generally believed about the economic consequences. The PM is due to present a plan of some sort on Wednesday to an emergency meeting of the EU, after which time the EU will vote on whether to grant a delay, and how long it will be. More uncertainty has left markets in the same place they have been for the past several months, stuck between the terror of a hard Brexit and the euphoria of no Brexit. It should be no surprise the pound is little changed today at 1.3065. Until it becomes clear as to the outcome, it is hard to see a reason for the pound to move more than 1% in either direction.

Regarding the trade story, what I read as mixed messages from the White House and Beijing has naturally been construed positively by the market. Both sides claim that progress is being made, but the key sticking points remain IP integrity, timing on the removal of tariffs by the US, and the ability of unilateral retaliation by the US in the event that China doesn’t live up to the terms of the deal. The latest thought is it will take another four to six weeks to come to terms on a deal. We shall see. The one thing we have learned is that the equity markets continue to see this as crucial to future economic growth, and rally on every piece of ‘good’ news. It seems to me that at some point, a successful deal will be fully priced in, which means that we are clearly setting up a ‘buy the rumor, sell the news’ type of dynamic going forward. In other words, look for a positive announcement to result in a short pop higher in equity prices, and then a lot of profit taking and a pretty good decline. The thing is, since we have no real idea on the timing, nor where the market will be when things are announced, it doesn’t help much right now in asset allocation.

As a side note, I did read a commentary that made an interesting point about these negotiations. If you consider communism’s tenets, a key one is that there is no such thing as private property. So, the idea that China will agree to the protection of private property when it contradicts the Chinese fundamental ruling dicta may be a bit of a stretch. Maybe they will, but that could be quite a hurdle to overcome there. Food for thought.

Now, on to payrolls. Here are the latest consensus forecasts:

Nonfarm Payrolls 180K
Private Payrolls 170K
Manufacturing Payrolls 10K
Unemployment Rate 3.8%
Average Hourly Earnings 0.3% (3.4% Y/Y)
Average Weekly Hours 34.5

A little worryingly, the ADP number on Wednesday was weaker than expected, but the month-by-month relationship between the two is not as close as you might think. Based on what we have heard from Fed speakers just yesterday (Harker, Mester and Williams), the FOMC believes that their current stance of waiting and watching continues to be appropriate. They are looking for a data trend that either informs coming weakness or coming strength and will respond accordingly. To a wo(man), however, these three all believe that the economy will have a solid performance this year, with GDP at or slightly above 2.0%, and that it is very premature to consider rate cuts, despite what the market is pricing.

Meanwhile, the data story from elsewhere continues to drift in a negative direction with Industrial Production falling throughout Europe, UK House Prices declining and UK productivity turning negative. In fact, the Italian government is revising its forecast for GDP growth in 2019 to be 0.1% all year and all eyes are on the IMF’s updated projections due next week, which are touted to fall even further.

In the end, the big picture remains largely unchanged. Uncertainty over Brexit and trade continue to weigh on business decisions and growth data continues to suffer. The one truism is that central bankers are watching this and the only difference in views is regarding how quickly they may need to ease policy further, except for the Fed, which remains convinced that the status quo is proper policy. As I continuously point out, this dichotomy remains in the dollar’s favor, and until it changes, my views will remain that the dollar should benefit going forward.

Good luck
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Expansion is Done

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The planet that’s third from the sun
Is learning expansion is done
At least with respect
To growth that’s subject
To what politicians have done

It ought not be much of a surprise that the dollar is regaining its footing this morning and has been doing so for the past several sessions. This is due to the fact that the economic data continue to point to the US as the last bastion of hope for global growth. Yesterday’s data showed that there is still life in the US economy as both Non-Manufacturing ISM (59.7) and New Home Sales (621K) handily beat expectations. At the same time, the data elsewhere around the world continues to show slowing growth.

For example, Australian GDP growth in Q4 printed at a lower than expected 0.2%, with the annual number falling to 2.3%. While RBA Governor Lowe continues to cling to the idea that falling unemployment (a lagging indicator) is going to save the day, the fact remains that the housing bubble there is deflating and the slowdown in China’s economy is having a direct negative impact on Australian growth. In the wake of the report, analysts throughout Asia adjusted their interest rate forecasts to two rate cuts this year even though the RBA has tried to maintain a neutral policy with an eventual expectation to raise rates. Aussie fell sharply, down 0.75% this morning and >2.5% in the past week. It is once again approaching the 0.70 level which has thus far proven to be formidable support, and below which it has not traded in three years. Look for it to crack this time.

But it is not just problems Down Under. In fact, the much bigger issues are in Europe, where the OECD has just released its latest forecasts for GDP growth with much lower numbers on the table. Germany is forecast to grow just 0.7% this year, the UK just 0.8% and of course, Italy which is currently suffering through a recession, is slated to grow just 0.2% this year! Tomorrow Signor Draghi and his ECB colleagues meet again and there is a growing belief that a decision on rolling over the TLTRO bank financing will be made. I have been pounding the table on this for several months and there has certainly been nothing lately to change my view. At this point, the market is now pricing in the possibility of the first ECB rate hike only in mid 2020 and my view is it will be later than that, if ever. The combination of slowing growth throughout the Eurozone, slowing growth in China and still absent inflation will prevent any rate hikes for a very long time to come. In fact, Europe is beginning to resemble Japan in this vein, where slowing growth and an aging population are the prerequisites for NIRP forever. Plus, the longer growth remains subpar, the more call for fiscal policy ease which will require additional borrowing at the government level. As government debt continues to grow, and it is growing all around the world, the ability of central banks to guide rates higher will be increasingly throttled. When you consider these issues it become very difficult to be bullish on the euro, especially in the long-term. But even in the short run, the euro is likely to feel pressure. While the euro has barely edged lower this morning, that is after a 0.35% decline yesterday which means it is down just over 1.0% in the past week.

In the UK, meanwhile, the Brexit debate continues but hope is fading that the PM will get her bill through Parliament this time. Thus far, the EU has been unwilling to make any concessions on the language of the Irish backstop, and despite a herculean effort by May, it is not clear she can find the votes. The vote is scheduled for next Tuesday, after which, if it fails, Parliament will look to pass some bills preventing a no-deal Brexit and seeking a delay. However, even those don’t look certain to pass. Just this morning, Governor Carney said that a no-deal Brexit would not, in fact, be the catastrophe that had been earlier forecast as many companies have made appropriate plans to handle it. While the underlying thesis in the market continues to be that there will be a deal of some sort, it feels like the probability of a hard Brexit is growing somewhat. Certainly, the pound’s recent performance would indicate that is the case. This morning it is down a further 0.3% which takes the move to -1.75% in the past week.

One last central bank story is that of Canada, where the economy is also slowing much more rapidly than the central bank had believed just a few weeks ago. Last week we learned that inflation is lower than expected, just 1.4%, and that GDP grew only 0.1% in Q4, actually falling -0.1% in December. This is not a data set that inspires optimism for the central bank to continue raising rates. Rather, it should become clear that the BOC will remain on hold, and more importantly likely change its hawkish slant to neutral at least, if not actually dovish. As to the Loonie, it is lower by 0.3% this morning and 2.0% since the GDP release on Friday.

Add it all up and you have a story that explains global growth is slowing down further. It is quite possible that monetary policy has been pushed to its effective limit with any marginal additional ease likely to have a very limited impact on the economy. If this is the case, it portends far more difficulty in markets ahead, with one of the most likely outcomes a significant increase in volatility. If the global economy is now immune to the effects of monetary policy anesthesia, be prepared for a few more fireworks. It remains to be seen if this is the case, but there are certainly some indications things are playing out that way. And if central banks do lose control, I would not want to have a significant equity market position as markets around the world are certain to suffer. Food for thought.

This morning we get one piece of data, Trade Balance (exp -$57.9B) and we hear from two more Fed speakers, Williams and Mester. Then at 2:00 the Fed’s Beige Book is released. It seems unlikely that either speaker will lean hawkish, even Mester who is perhaps the most hawkish on the FOMC. Comments earlier this week from other speakers, Rosengren and Kaplan, highlighted the idea of patience in their policy judgements as well as potential concern over things like the extraordinary expansion of corporate debt in this cycle, and how in the event the economy slows, many more companies are likely to be vulnerable. While fear is not rampant, equity markets have been unable to rally the past several sessions which, perhaps, indicates that fear is beginning to grow. And when fear is in vogue, the dollar (and the yen) are the currencies to hold.

Good luck
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Quite Sublime

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The markets are biding their time
Awaiting a new paradigm
On trade and on growth
While hoping that both
Instill attitudes quite sublime

The dollar has rebounded this morning as most of the news from elsewhere in the world continues to point to worsening economic activity. For example, the German ZEW survey printed at -13.4, which while marginally better than the expected -13.6, remains some 35 points below its long-term average of +22. So, while things could always be worse, there is limited indication that the German economy is rebounding from its stagnation in H2 2018. Meanwhile, Italian Industrial Orders fell to -1.8%, well below the +0.5% expectation, and highlighting the overall slowing tenor of growth in the Eurozone. As I have mentioned over the past several days, we continue to hear a stream of ECB members talking about adding stimulus as they slowly recognize that their previous views of growth had been overestimated. With all this in mind, it should be no surprise the euro is lower by 0.25% this morning, giving back all of yesterday’s gains.

At the same time, Swedish inflation data showed a clear decrease in the headline rate, from 2.2%, down to the Riksbank’s 2.0% target. This is a blow to the Riksbank as they had been laying the groundwork to raise rates later this year in an effort to end ZIRP. Alas, slowing growth and inflation have put paid to that idea for now, and the currency suffered accordingly with the krone falling 1.5% on the release, and remaining there since then. Despite very real intentions by European central bankers to normalize policy, all the indications are that the economy there is not yet ready to cooperate by demonstrating solid growth.

The last data point of note overnight was UK employment, where the Unemployment rate remained at a 40 year low of 4.0% and the number of workers grew by 167K, a better than expected outcome. In addition, average earnings continue to climb at a 3.4% pace, which remains the highest pace since 2008. Absent the Brexit debate, and based on previous comments, it is clear that the BOE would feel the need to raise rates in this situation. But the Brexit debate is ongoing and uncertainty reigns which means there will be no rate hikes anytime soon. The latest news is that Honda is closing a factory in Swindon, although they say the driving impulse is not Brexit per se, but weaker overall demand. Nonetheless, the 4500 jobs lost will be a blow to that city and to the UK overall. Meanwhile, the internal politics remain just as jumbled as ever, and the political infighting on both sides of the aisle there may just result in the hard Brexit that nobody seems to want. Basically, every MP is far more concerned about their own political future than about the good of the nation. And that short-sightedness is exactly how mistakes are made. As it happens, the strong UK data has supported the pound relative to other currencies, although it is unchanged vs. the dollar this morning.

Pivoting to the EMG bloc, the dollar is generally, but not universally higher. Part of that is because much of the dollar’s strength has been in the wake of European data well after Asian markets were closed. And part of that is because today’s stories are not really dollar focused, but rather currency specific. Where the dollar has outperformed, the movement has been modest (INR +0.2%, KRW +0.2%, ZAR +0.4%), but it has fallen against others as well (BRL -0.2%, PHP -0.2%). In the end, there is little of note ongoing here.

Turning to the news cycle, US-China trade talks are resuming in Washington this week, but the unbridled optimism that seemed to surround them last week has dissipated somewhat. This can be seen in equity markets which are flat to lower today, with US futures pointing to a -0.2% decline on the opening while European stocks are weaker by between -0.4% and -0.6% at this point in the morning. On top of that, Treasury yields are creeping down, with the 10-year now at 2.66% and 10-year Bunds at 0.10%, as there is the feeling of a modest risk-off sentiment developing.

At this point, the key market drivers seem to be on hold, and until we receive new information, I expect limited activity. So, tomorrow’s FOMC Minutes and Thursday’s ECB Minutes will both be parsed carefully to try to determine the level of concern regarding growth in the US and Europe. And of course, any news on either trade or Brexit will have an impact, although neither seems very likely today. With all that in mind, today is shaping up to be a dull affair in the FX markets, with limited reason for the dollar to extend its early morning gains, nor to give them back. There is no US data and just one speaker, Cleveland’s Loretta Mester, who while generally hawkish has backed off her aggressive stance from late last year. Given that she speaks at 9:00 this morning, it may be the highlight of the session.

Good luck
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Compromised

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The punditry seemed quite surprised
That trade talks have been compromised
If President’s Xi
And Trump can’t agree
To meet, forecasts need be revised

What then, ought the future might hold?
It’s likely that stocks will be sold
And Treasuries bought
As safety is sought
Plus rallies in dollars and gold

Risk appetites have definitely diminished this morning as evidenced by yesterday’s US equity decline alongside a very weak showing in Asia overnight. The proximate cause is the news that President’s Trump and Xi are not likely to meet ahead of the March 1 deadline regarding increased tariffs on Chinese goods. And while trade talks are ongoing, with Mnuchin and Lighthizer heading to Beijing next week, it seems pretty clear that the market was counting on a breakthrough between the presidents in a face-to-face meeting. However, not unlike the intractable Irish border situation in the Brexit discussions, the question of state subsidies and IP theft forced technology transfer are fundamental to the Chinese economy and therefore essentially intractable for Xi. I have consistently maintained that the market was far too sanguine about a positive outcome in the near-term for these talks, and yesterday’s news seems to support that view.

Of course, eventually a deal will be found, it is just not clear to me how long it will take and how much pain both sides can stand. Whether or not Fed Chair Powell believes he capitulated to Trump regarding interest rates, it is clear Trump sees it in that light. Similarly, it appears the president believes he has the upper hand in this negotiation as well and expects Xi to blink. That could make for a much rockier path forward for financial markets desperate to see some stability in global politics.

The trade news was clearly the key catalyst driving equities lower, but we continue to see weakening data as well, which calls into question just how strong global growth is going to be during 2019. The latest data points of concern are Italian IP (-0.8%, exp +0.4%) and the German trade surplus falling to €13.9B from €20.4B in November. Remember, Germany is the most export intensive nation in the EU, reliant on running a significant trade surplus as part of its macroeconomic policy structure. If that starts to shrink, it bodes ill for the future of the German economy, and by extension for the Eurozone as a whole. While it cannot be too surprising that the Italian data continues to weaken, it simply highlights that the recession there is not likely to end soon. In fact, it appears likely that the entire Eurozone will be mired in a recession before long. Despite the ongoing flow of weak data, the euro, this morning, is little changed. After a steady 1.25% decline during the past week, it appears to have found a little stability this morning and is unchanged on the day.

In fact, lack of movement is the defining feature of the currency markets this morning as the pound, yen, Loonie, kiwi, yuan, rupee and Mexican peso are all trading within a few bps of yesterday’s levels. The only currency to have moved at all has been Aussie, which has fallen 0.25% on continued concerns over the growth prospects both at home and in China, as well as the ongoing softness in many commodity prices.

The other noteworthy items from yesterday were comments from St Louis Fed president Bullard that he thought rates ought to remain on hold for the foreseeable future. Granted, he has been one of the two most dovish Fed members (Kashkari being the other) for a long time, but he was clearly gratified that the rest of the committee appears to have come around to his point of view. And finally, the Initial Claims data printed at a higher than expected 234K. While in the broad scheme of things, that is still a low number, it is higher than the recent four-week average, and when looking at a chart of claims, it looks more and more like the bottom for this number is likely behind us.

A great deal has been written recently about the reliability of the change in the Unemployment rate as a signal for a pending recession. History shows that once the Unemployment rate rises 0.4% from its trough, a recession has followed more than 80% of the time. Thus far, that rate has risen 0.3% from its nadir, and if claims data continues to rise, which given recent numbers seems quite possible, the implication is a recession is in our future. The one thing we know about recessions is that the Fed has never been able to forecast their onset. Given the fact that this recovery is quite long in the tooth, at 115 months of age, it cannot be surprising that a recession is on the horizon. My concern is that the horizon is beneath our feet, not in the distance.

There is no US data to be released today although next week brings both inflation and manufacturing data. But for now, all eyes are on the deteriorating view of the trade situation, which is likely to keep pressure on equity markets (futures are currently pointing lower by 0.5%) while helping support the dollar as risk is continuously reduced.

Good luck and good weekend
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Really Quite Splendid

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For traders, the month that just ended
Turned out to be really quite splendid
The stock market soared
As risks were ignored
Just like Chairman Powell intended

The problem is data last night
Showed growth’s in a terrible plight
Both Europe and China
Can lead to angina
If policymakers sit tight

Now that all is right with the world regarding the Fed, which has clearly capitulated in its efforts to normalize policy, the question is what will be the driving forces going forward. Will economic data matter again? Possibly, assuming it weakens further, as that could quickly prompt actual policy ease rather than simply remaining on hold. But reading between the lines of Powell’s comments, it appears that stronger than expected data will result in virtually zero impetus to consider reinstating policy tightening. We have seen the top in Fed funds for many years to come. Remember, you read it here first. So, we are now faced with an asymmetric reaction function: strong data = do nothing; weak data = ease.

Let’s, then, recap the most recent data. Last night the Caixin Manufacturing PMI data from China was released at a lower than expected 48.3, its lowest point in three years. That is simply further evidence that the Chinese economy remains under significant pressure and that President Xi is incented to agree to a trade deal with the US. Interestingly, the Chinee yuan fell 0.6% on the news, perhaps the first time in months that the currency responded in what would be considered an appropriate manner to the data. That said, the yuan remains nearly 2% stronger than it began the year. We also saw PMI data from Europe with Germany (49.7) and Italy (47.8) both underperforming expectations, as well as the 50.0 level deemed so crucial, while France (51.2) rebounded and Spain (52.4) continued to perform well. Overall, the Eurozone data slid to 50.5, down a full point and drifting dangerously close to contraction. And yet, Signor Draghi contends that this is all just temporary. He will soon be forced to change his tune, count on it. The euro, however, has held its own despite the data, edging higher by 0.2% so far this morning. Remember, though, with the Fed having changed its tune, for now, I expect the default movement in the dollar to be weakness.

In the UK, the PMI data fell to 52.8, well below expectations, as concerns over the Brexit situation continue to weigh on the economy there. The pound has fallen on the back of the news, down 0.3%, but remains within its recent trading range as there is far more attention being paid to each item of the Brexit saga than on the monthly data. Speaking of which, the latest story is that PM May is courting a number of Labour MP’s to see if they will break from the party direction and support the deal as written. It is quite clear that we have two more months of this process and stories, although I would estimate that the broad expectation is of a short delay in the process beyond March and then an acceptance of the deal. I think the Europeans are starting to realize that despite all their tough talk, they really don’t want a hard Brexit either, so look for some movement on the nature of the backstop before this is all done.

Finally, the trade talks wrapped up in Washington yesterday amid positive signs that progress was made, although no deal is imminent. Apparently, President’s Trump and Xi will be meeting sometime later this month to see if they can get to finality. However, it still seems the most likely outcome is a delay to raising tariffs as both sides continue the talks. The key issues of IP theft, forced technology transfer and ongoing state subsidies have been important pillars of Chinese growth over the past two decades and will not be easily changed. However, as long as there appears to be goodwill on both sides, then there are likely to be few negative market impacts.

Turning to this morning’s data, it is payroll day with the following expectations:

Nonfarm Payrolls 165K
Private Payrolls 170K
Manufacturing Payrolls 17K
Unemployment Rate 3.9%
Average Hourly Earnings 0.3% (3.2% Y/Y)
Average Weekly Hours 34.5
ISM Manufacturing 54.2
Michigan Sentiment 90.8

Clearly, the payroll data will dominate, especially after last month’s huge upside surprise (312K). Many analysts are looking for a reversion to the mean with much lower calls around 100K. Also, yesterday’s Initial Claims data was a surprisingly high 253K, well above expectations, although given seasonalities and the potential impacts from the Federal government shutdown, it is hard to make too big a deal over it. But as I highlighted in the beginning, the new bias is for easier monetary policy regardless of the data, so strong data will simply underpin a stock market rally, while weak data will underpin a stock market rally on the basis of easier money coming back. In either case, the dollar will remain under pressure.

Good luck and good weekend
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As Patient As Needed

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More rate hikes? The Fed said, ‘no way!’
With growth slowing elsewhere we’ll stay
As patient as needed
Since now we’ve conceded
Our hawkishness led us astray

If you needed proof that central bankers are highly political rather than strictly focused on the economics and financial issues, how about this:

Dateline January 24, 2019. ECB President Mario Draghi characterizes the Eurozone economy as slowing more than expected yet continues to support the idea that interest rates will be rising later this year as policy tightening needs to continue.

Dateline January 30, 2019. Federal Reserve Chairman Jay Powell characterizes the US economy as solid with strong employment yet explains that there is no need to consider raising rates further at this time, and that the ongoing balance sheet reduction program, which had been on “autopilot” is to be reevaluated and could well slow or end sooner than previously expected.

These are certainly confusing actions when compared to the comments attached. Why would Draghi insist that policy tightening is still in the cards if the Eurozone economy is clearly slowing? Ongoing pressure from the monetary hawks of northern Europe, notably Germany’s Bundesbank, continues to force Draghi to hew a more hawkish line than the data might indicate. As to the Fed, it is quite clear that despite the Fed’s description of a strong economy, Powell has succumbed to the pressure to support the equity market, with most of that pressure coming from the President. And yet central bankers consistently try to maintain that they are above politics and cherish their independence. There hasn’t been an independent central banker since Paul Volcker was Fed Chair from 1979-1987.

Nonetheless, this is where we are. The Fed’s dovishness was applauded by the markets with equities rallying briskly in the US (1.5%-2.2% across the indices) and following in Asia (Nikkei and Hang Seng both +1.1%) although Europe has shown less pluck. But Europe has, as described above, a slowing growth problem. This is best characterized by Italy, whose Q4 GDP release this morning (-0.2%) has shown the nation to be back in recession, their third in the past five years! It should be no surprise that Italy’s stock market is lower (-0.6%) nor that it is weighing on all the European indices.

Not surprisingly, government bond yields around the world are largely lower as well. This reaction is in a piece with market behavior in 2017 through the first three quarters of 2018, where both stocks and bonds rallied consistently on the back of monetary policy actions. I guess if easy money is coming back, and as long as there is no sign of inflation, there is no reason not to own them both. Certainly, the idea that 10-year Treasury yields are going to start to break higher seems to be fading into the background. The rally to 3.25% seen last November may well mark a long term high.

And what about the dollar? Well, if this is the new normal, then my views on the dollar are going to need to change as well. Consider this, given that the Fed has tightened more than any other central bank, the dollar has benefitted the most. We saw that last year as the dollar rallied some 7%-8% across the board. But now, the Fed has the most room to ease policy in comparison to every other G10 central bank, and so if the next direction is easy money, the dollar is certain to suffer the most. Certainly, that was the story yesterday afternoon in NY, where the dollar gave up ground across the board after the FOMC statement. Against the euro, the initial move saw the dollar sink 0.75% in minutes. Since then, it has traded back and forth but is little changed on the day, today, with the euro higher by just an additional 0.1%. We saw a similar move in the yen, rallying 0.7% immediately, although it has continued to strengthen and is higher by another 0.35% this morning. Even the pound, which continues to suffer from Brexit anxiety, rallied on the Fed news and has continued higher this morning as well, up another 0.2%. The point is, if the Fed is done tightening, the dollar is likely done rallying for now.

Other stories have not disappeared though, with the Brexit saga ongoing as it appears more and more likely to come down to a game of brinksmanship in late March. The EU is adamant they won’t budge, and the UK insists they must. I have a feeling that nothing is going to change until late March, just ahead of the deadline, as this game of chicken is going to play out until the end.

And what of the trade talks between the US and China? Well, so far there is no word of a breakthrough, and the only hints have been that the two sides remain far apart on some key issues. Do not be surprised to see another round of talks announced before the March 2 tariff deadline, or an agreement to postpone the raising of tariffs at that time as long as talks continue. Meanwhile, Chinese data released overnight showed Manufacturing PMI a better than expected (though still weak) 49.5 while Non-Manufacturing PMI actually rose to 54.7, its best reading since September, although still seeming to trend lower. However, the market there applauded, and the renminbi continues to perform well, maintaining its gains from the last week where it has rallied ~1.5%.

The US data picture continues to be confused from the government shutdown, but this morning we are due to receive Initial Claims (exp 215K and look for a revision higher from last week’s suspect 199K) as well as New Home Sales (569K). Yesterday’s ADP Employment number was much better than expected at 213K, and of course, tomorrow, we get the payroll report. Given the Fed’s hyper focus on data now, that could be scrutinized more closely than usual for guesstimates of how the Fed might react to a surprise.

In the end, the market tone has changed to mirror the Fed with a more dovish nature, and given that, the prospects for the dollar seem to have diminished. For now, it seems it has further to fall.

Good luck
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A Year So Dreary

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(With apologies to Edgar Allen Poe)

‘Eighteen was a year so dreary, traders studied hara-kiri
As they pondered every theory, algorithm and z-score.
Interest rates were slowly rising, growth no longer synchronizing,
Brexit’s failures mesmerizing, plus we got a real trade war
Italy, meanwhile explained that budget limits were a bore
Europe looked aghast and swore.

Thus instead of markets booming, (which most pundits were assuming)
What we got was all consuming angst too great to just ignore
Equities reduced to rubble, high-yield bonds saw their spreads double
As the Fed inspired bubble sprung a leak through the back door
Balance sheet adjustment proved to be more harsh than heretofore
Stock investors cussed and swore.

But the New Year’s now commencing, with the markets’, trouble, sensing
Thus predictions I’m dispensing might not be what you wished for
Life’s not likely to get better, ‘specially for the leveraged debtor
Who ought write an open letter to Chair Powell and implore
Him to stop his raising rates so assets grow just like before
Would that he would raise no more.

Pundits far and wide all wonder if Chair Powell’s made a blunder
Or if he will knuckle under to entreaties from offshore
Sadly for mainstream investors, lest our growth decays and festers
Powell will ignore protestors though they’ll raise a great uproar
Thus far he has made it clear that neutral’s what he’s shooting for
Jay, I fear, sees two hikes more.

At the same time Signor Draghi, who’s EU is weak and groggy
Using words in no way foggy, told us QE’s dead, he swore!
Plus he strongly recommended that when summer, this year, ended
Raising rates would be just splendid for those nations at the core
Even though the PIGS keep struggling, this he’s willing to ignore
Higher rates might be in store.

Lately, though, are growing rumors, that six billion world consumers
Are no longer in good humors, thus are buying less, not more
This result should be concerning for those bankers who are yearning
Rates to tighten, overturning years when rates were on the floor
Could it be what we will see is QE4 as an encore?
Maybe low rates are called for.

What about the budget shortfall, in the States that’s sure to snowball
If our growth rate has a pratfall like it’s done ten times before?
While this would be problematic, growth elsewhere would crash to static
Thus it would be quite pragmatic to assume the buck will soar
Don’t believe those euro bulls that think rate hikes there are in store
Christmas next we’re One-Oh-Four.

Now to Britain where the story of its Brexit’s been so gory
Leaving Labour and the Tories in an all out civic war
Though the deal that’s on the table, has its flaws, it would help cable
But when PM May’s unable to find votes here’s what’s in store
Look for cable to go tumbling well below its lows of yore
Next December, One-One-Four.

Time to focus on the East, where China’s growth just might have ceased
Or slowed quite sharply at the least, from damage due to Trump’s trade war
Xi, however’s not fainthearted, and more ease he has imparted
Trying to get growth restarted, which is really quite a chore
But with leverage so extended, how much more can they pay for?
Not as much as days of yore.

With growth there now clearly slowing, public cash is freely flowing,
Banks are told, be easygoing, toward the Chinese firms onshore
But the outcome’s not conclusive, and the only thing conducive
To success for Xi is use of weakness in the yuan offshore
I expect a steady drift much lower to Seven point Four
Only this and nothing more.

Now it’s time for analyzing, ten-year yields, so tantalizing
With inflation hawks advising that those yields will jump once more
But inflation doves are banking that commodities keep tanking
Helping bonds and Bunds when ranking outcomes, if you’re keeping score
Here the doves have better guidance and the price of bonds will soar
At what yields will they sell for?

Slowing growth and growing fear will help them both throughout the year
And so it’s not too cavalier to look for lower yields in store
Treasuries will keep on rising, and for now what I’m surmising
Is a yield of Two point Five is likely come Aught Twenty’s door
Bunds will see their yields retreat to Zero, that’s right, to the floor
Lower ten-year yields, look for.

In a world where growth is slowing, earnings data won’t be glowing
Red ink will, for sure, be flowing which investors can’t ignore
P/E ratios will suffer, and most firms will lack a buffer
Which means things will just get tougher for investors than before
What of central banks? Won’t they be able, prices, to restore?
Not this time, not like before.

In the States what I foresee is that the large cap S&P
Can fall to Seventeen Fifty by year end next, if not before
Europe’s like to see the same, the Stoxx 600 getting maimed
Two Fifty is where I proclaim that index will next year explore
Large percentage falls in both are what investors all abhor
But its what I see in store.

Oil’s price of late’s been tumbling, which for drillers has been humbling
OPEC meanwhile keeps on fumbling, each chance to, its strength, restore
But with global growth now slowing, storage tanks are overflowing
Meanwhile tankers, oceangoing, keep on pumping ship to shore
And more drilling in the States means lower prices are in store
Forty bucks I now call for.

One more thing I ought consider, Bitcoin, which had folks on Twitter
Posting many Tweets quite bitter as it tumbled ever more
Does this coin have true potential? Will it become influential?
In debates quite consequential ‘bout where assets you may store?
While the blockchain is important, Hodlers better learn the score
Bitcoin… folks won’t pay much for

So instead come winter next, Bitcoin Hodlers will be vexed
As it suffers from effects of slowing growth they can’t ignore
While it might be worth Two Grand, the end result is that demand
For Bitcoin will not soon expand, instead its like to shrink some more
Don’t be fooled in thinking you’ll soon use it at the grocery store
Bitcoin… folks won’t pay much for

Fin’lly here’s an admonition, if these views do reach fruition
Every single politician will blame someone else for sure
I’m not hoping for this outcome, I just fear the depths we might plumb
Will result in falling income and recession we’ll explore
So if risk you’re managing, more hedging now is what’s called for
Fear and risk are what will soar!

For you folks who’ve reached the end, please know I seek not to offend
But rather try to comprehend the state of markets and some more
If you read my thoughts last year, I tried to make it very clear
That economic trouble’s near, and so that caution is called for
Mostly though I hope the time invested has not made you sore
For you, my readers, I adore!

Have a very happy, healthy and prosperous New Year
Adf

 

Still Great Disorder

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While PM May fought off defeat
The Brexit debate’s incomplete
There’s still great disorder
O’er the Irish border
And angst for the man in the street

Was it much ado about nothing? In the end, PM May won the no-confidence vote, but in a singularly unimpressive manner with more than one-third of the Conservative MP’s voting against her. The upshot is that while she cannot be challenged again for another year, it clarified the strength of the opposition to her handling of the Brexit negotiations. At the same time, the EU has reiterated that the deal, as negotiated, represents all they are willing to offer. May’s strategy now seems to be to delay any vote until such time that the choice is clearly binary; accept the deal or exit with no deal. Despite the increasingly dire warnings that have come from the BOE and some private forecasters, I have lost my faith in the idea that a deal would be agreed. If this is the case, the impact on the pound is going to be quite negative for some time. Over the past two days, the pound has rallied 1.3% although it remains quite close to its post vote lows. However, in the event of a hard Brexit, look for the pound to test its historic lows from 1985, when it traded at approximately 1.05.

As to the rest of the market, it is central bank day in Europe with the Norgebank leaving rates on hold but promising to raise them in Q1; the Swiss National Bank leaving rates on hold and describing the necessity of maintaining a negative interest rate spread vs. the euro as the Swiss economy slows and inflation along with it; and, finally, the market awaits the ECB decision, where Signor Draghi is universally expected to confirm the end of QE this month. One of the interesting things about Draghi’s actions is that he is set to end QE despite his own internal forecasts, which, according to ‘sources’ are going to be reduced for both growth and inflation in 2019. How, you may ask, can a central banker remove policy accommodation despite weakening data? Arguably the answer is that the ECB fears the consequences of going back on its word more than the consequences of implementing the wrong policy. In any event, look for Draghi to speak of transient and temporary causes to the reduced forecasts, but express optimism that going forward, Eurozone growth is strong and will be maintained as inflation edges toward their target of just below 2.0%.

Of greater consequence for the euro this morning, which has rallied a modest 0.1%, is the news from Italy that they have adjusted their budget forecasts to expect a very precise 2.04% deficit in 2019, down from the previous budget deficit forecast of 2.4%. Personally I question the changes other than the actual decimal place on the forecast, but the market has accepted them at face value and we have seen Italian assets rally, notably 10-year BTP’s where yields have fallen 10bps and the spread with German bunds has fallen a similar amount. While the situation in France does not seem to have improved very much, the market is clearly of the view that things in Europe are better than they were last week. However, caution is required in accepting that all the issues have been adequately addressed. They have not.

In the end, though, despite these important issues, risk sentiment continues to be broadly driven by the trade situation between the US and China. Helping that sentiment this morning has been the news that China just purchased several million tons of US soybeans for the first time since the trade tussle began. That has encouraged investors to believe that a truce is coming, and with it, a resumption of the previous regime of steadily increasing global growth. Caution is required here, as well, given the still nascent level of discussions and the fact that the US negotiators, LIghthizer and Navarro, are known trade hawks. While it would certainly be better for all involved if an agreement is reached, it is far from certain that will be the case.

Recapping, the dollar has been under pressure this morning on the basis of a broad view of a better risk environment across markets. These include PM May’s retaining her seat, movement on the Italian budget issue and positive signs from the US-China trade conflict. And yet the dollar is only softer by some 0.1% or so, on average. Nothing has changed my view that the underlying fundamentals continue to favor the greenback.

Pivoting to the emerging markets, INR has performed well again, rallying 0.3% overnight which makes more than 1% this week while nearly erasing the losses over the past month. It appears that investors have taken a new view on the necessity of an independent central bank. Recall that the RBI governor stepped down on Monday as he was at odds with the government about the path of future policy, with ex-governor Patel seeking to maintain tighter money and address excess leverage and non-performing loans, while the government wanted easy money and fast growth in order to be reelected. The replacement is a government hack that will clearly do PM Modi’s bidding and likely cut rates next. Yet, market participants are rewarding this action as evidenced not only by the rupee’s rally, but also by the performance of the Indian stock market, which has led APAC markets higher lately. To this observer, it appears that this short term gain will be overwhelmed by longer term losses in both equities and the currency, if monetary policy falls under the government’s thumb. But right now, that is not the case, and I wouldn’t be surprised to see movement in this direction elsewhere as governments try to maintain economic growth at all costs. This is a dangerous precedent, but one that is ongoing nonetheless.

Yesterday’s CPI data was right in line with expectations at 2.2% for both headline and core, and the market had limited response. This morning brings only Initial Claims (exp 225K) and then the monthly Budget Figures are released this afternoon (exp -$188B). In other words, there is limited new information due once we hear from Signor Draghi. As long as there is a broad risk-on consensus, which appears to be the case, look for the dollar to remain under pressure. But I continue to see this as a short-term phenomenon. At some point, the market will recognize that the rest of the world is going to halt any efforts at tightening policy as global growth slows, and that will help support the dollar.

Good luck
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Sans Reason or Rhyme

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In England, the Minister Prime
Is serving, now, on borrowed time
No confidence reigns
As Brexit remains
The issue sans reason or rhyme

The biggest headline early this morning was the collection of a sufficient number of letters of no-confidence in PM May to force a vote in Parliament on the issue. Thus, later today, that vote will be held as the UK holds its breath. If she wins, it will likely strengthen her standing there, and potentially help her push through the Brexit deal that is currently on the table, despite its many flaws. If she loses, a leadership contest will begin and though she will remain PM, it will be only in an acting capacity without any power to move the agenda forward. One potential consequence of the latter outcome is that the probability of the UK leaving the EU with no deal will grow substantially.

With that in mind, the two best indicators of the likely outcome of the vote are the bookie market in the UK and the price of the pound. According to Ladbrokes, one of the largest betting shops in the UK, she is a 2:7 favorite to win the vote after starring at even money. In the FX market, the pound, after having fallen below 1.25 yesterday afternoon has rebounded by 0.4% thus far this morning. In other words, market sentiment is in her favor. Of course, if you recall, market sentiment was clearly of the opinion that Brexit would never occur, or that President Trump would never be president, so these measures are hardly perfect. At any rate, the vote is due to be completed by 3:00pm in NY, and results released shortly thereafter, so we won’t have long to wait. If she wins, look for the pound to continue this morning’s rally, with another 1% well within reason. However, a May victory in no way guaranties that the Brexit deal gets through Parliament. If she loses the vote, however, I expect that the pound will sell off pretty sharply, and that 1.20 could well be in the cards before the end of the year. It will be seen as a decided negative.

Away from the UK, the other big market news is the renewed enthusiasm over prospects for a US-China trade deal being achieved. Equity markets continue to rally on the back of a single phone call between the two nations that ostensibly discussed China purchasing more US soybeans and cutting tariffs on US made cars from 40% to 15%. While both of those are obviously good outcomes, neither addresses the issues of IP theft and Chinese subsidies to SOE’s. It feels a little premature to be celebrating an end to the trade conflict after the first phone call, but nobody ever claimed markets were rational. (Or perhaps they did, Professor Fama, and were just mistaken!) At any rate, after a volatile session yesterday, equities in Asia and Europe have all rallied on the trade news and US futures are pointing higher as well.

Meanwhile, the litany of other global concerns continues to exist. For example, there has been no resolution of the Italian budget issue, which has become even more fraught now that French President Macron has decided to expand the deficit in France in order to try to buy off the gilets jaunes protesters. This begs the question as to why it is acceptable for the French to break the budget guidelines, but not for the Italians to do so. Methinks there is plenty more drama left in this particular issue, and likely not to the euro’s benefit. However, the broad risk-on sentiment generated by the trade discussion has lifted the euro by 0.2% this morning, although it remains much closer to recent lows than highs. It would be hard to describe the market as having enthusiasm over the euro’s near-term prospects. And don’t forget that tomorrow the ECB will meet and ostensibly end QE. There is much discussion about how this will play out and what they will do going forward, but we will cover that tomorrow.

In India, the new RBI governor is a long-time Treasury bureaucrat, Shaktikanta Das, which calls into question the independence of that institution going forward. After all, the reason that the former head, Urjit Patel, quit was because he was coming under significant government pressure to act in a manner he thought unwise for the nation, but beneficial to the government’s electoral prospects. It is hardly comforting that a long time government minister is now in the seat. That said, the rupee continued yesterday’s modest rally and is higher by a further 0.4% this morning.

And those are really the big FX market stories for the day. Overall, the dollar’s performance today could be characterized as mixed. While modestly weaker vs. the euro and pound, it is stronger vs. NZD and SEK, with the latter down by 0.7%. As to the rest of the G10, they are little changed. In the EMG space, the dollar is modestly softer vs. LATAM names, but vs. APAC, aside from INR, it has shown modest strength. In other words, there is little uniform direction evident today as I believe traders are awaiting the big news events. So the UK vote and the ECB tomorrow are set to have more significant impacts.

On the data front, this morning brings CPI (exp 2.2% for headline and core), where a miss in either direction could have a market impact. At this time, Fed funds futures are pricing a ~78% chance that the Fed raises rates 25bps next week, but there is less than one rate hike priced in for 2019. My take continues to be that the market is overestimating the amount of tightening we will see from the ECB going forward, and as that becomes clearer, the euro will start its next leg lower. But for the rest of the day, I expect limited movement at least until the UK vote results are announced this afternoon.

Good luck
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