Tag Archives: #JPY

Is Past Prologue?

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The Japanese tale
Now sees brighter times ahead
Yen buyers rejoice

 

While its movement has been somewhat choppy, for the past month, the yen has been the best performing currency in the G10, gaining more than 3.0% during that time.  This strength seems to have been built on several different themes including a more hawkish BOJ, better growth prospects based on PMI data, rising wages, and some underlying risk aversion.  A quick look at the chart shows that the trend is clearly lower and there have been far more down days for the dollar than up days during this period.

Source: tradingeconomics.com 

Of course, as I regularly remind myself, and you my good readers, perspective is an important thing to keep in mind, especially when making statements about longer term prospects of a currency.  When looking at USDJPY over a longer term, say the past 5 years where long-term trends have been entrenched based on broad macroeconomic issues as well as the day-to-day vagaries of trading, the picture looks quite different.  In fact, as you can see from the below chart, the past month’s movement barely registers.

Source: tradingeconomics.com

My point is that we must be careful regarding the relative importance of information and news and keep in mind that short-term movements may very well be just that, short-term, rather than major changes in long-term trends.  The latter require very significant macro changes regarding interest rate policy and economic activity, at least when it comes to currencies, not simply a single central bank policy move.

So, the question at hand is, are we at the beginning of a major set of policy shifts that will change the long-term trajectory of the yen?  Or is the yen’s recent strength merely normal noise?

While almost everybody has their own opinion on how the Fed is going to proceed going forward, I think it is instructive to look at the Fed funds futures market and the pricing for future rate activity.  For instance, a look at the current market, especially when compared where these probabilities were one month ago tells us that expectations for Fed rate cuts have diminished pretty substantially, arguably implying that there is more reason to hold dollars.

Source: CME.org

You can see in the lower right-hand corner of the chart that the probability of a rate cut has fallen from nearly 44% to just 16.5% over the past month.  However, during that same period, the BOJ has not only raised interest rates by 25bps, but they have made clear that further rate hikes are coming based on wage settlements and sticky inflationary readings.  One potential way to incorporate this relative movement is to look at the change in forecast interest rates, which in the US have risen by ~7bps (27% *25bps) while Japanese interest rates have risen by 25bps with expectations for another 25bps coming soon.  That is a powerful incentive to be long yen or at least less short yen, than previous positioning.  And we have seen that play out as the yen has strengthened as per the above.

The real question is, can we expect this to continue?  Or have we seen the bulk of the movement?   Here, much will depend on the future of the Fed’s actions as the market is seeing a bifurcation between those who believe rates are destined to fall further once inflation starts to ease again, vs. those, like this poet, who believe that inflation is showing no signs of easing, and therefore the Fed will be hard-pressed to justify further rate cuts.  While I am not the last word on the BOJ, from every source I see, expecting their base rate to be raised above 1.00% anytime in the next several years is aggressive.  Just look at the below chart showing the history of the BOJ base rate.  The last time the rate was above 0.50%, its current level, was September 1995.  That is not to say they cannot raise it, just that as you can see, several times in the intervening years they tried to do so and were forced to reverse course as the economy fell back into the doldrums with inflation quickly falling as well.  

Source: tradingeconomics.com

Is past prologue?  Personally, my take is above 1.0% is highly unlikely any time in the next several years.  Meanwhile, if inflation remains the problem it is in the US, Fed cuts will be much harder to justify.  This is not to say that the yen cannot strengthen somewhat further, but I am not of the opinion we have had a sea change in the long-term trend.

Ok, after spending way too much time on the yen, given that there hasn’t even been any tariff discussion on Japanese products, let’s look elsewhere to see how things moved overnight.

Yesterday saw further relief by equity investors that tariffs are a key Trump negotiating tactic rather than an effort to raise revenue and US markets all gained, especially the NASDAQ.  However, the movement in Asia was more muted with the Nikkei (+0.1%) barely higher while both Hong Kong (-0.9%) and China (-0.6%) fell amid the Chinese tariffs remaining in place.  As to the regional markets, there were some notably gainers (Korea and Taiwan), but away from those two a more mixed picture with less absolute movement was the order of the day.  In Europe, Spain’s IBEX (+1.0%) is the standout performer after the PMI data showed only a modest slowing, and a much better result than the rest of the continent.  Perhaps this explains why the rest of the continent is +/- 0.2% on the session.  As to US futures, they are lower at this hour (7:30) on the back of weaker earnings data from Google after the close last night.

In the bond market, yields have fallen across the board (except in Japan where JGB yields made a run at 1.30%) with Treasury yields lower by 4bps this morning and 12bps from the highs seen yesterday morning.  European sovereign yields are all lower as well, between -4bps and -7bps, as the weaker PMI data has traders convinced that the ECB is going to respond to weakening growth rather than sticky inflation and are now pricing in 100bps of cuts this year with the first 25bps coming tomorrow.

In the commodity space, gold (+1.0%) is the god of commodities right now, rallying more than $100/oz over the past five sessions.  There continue to be questions as to whether this is a major short squeeze as COMEX contracts come up for delivery, but it is not hard to write a narrative that there is increased uncertainty in the world and gold is still seen as the ultimate safe haven.  This gold rally continues to pull other metals higher (Ag +0.8%, Cu +0.2%) although I have to believe this is going to come to a halt soon.  Meanwhile, energy prices have fallen again (oil -1.0%, NatGas -1.5%) as fears over supply issues have dissipated completely.

Finally, the dollar is under pressure overall, certainly one of the reasons the yen (+1.0%) has performed so well overnight, but elsewhere in the G10, we are seeing the euro, pound and Aussie all gain 0.4% or so.  In the EMG bloc, CLP (+1.0%) is gaining on that renewed copper strength while ZAR (+0.5%) is shaking off the Trump threats regarding recent legislative changes and benefitting from gold’s massive rally.  The one outlier is MXN (-0.4%) which seems to be caught between the benefits of stronger silver prices (Mexico is a major exporter of silver) and weaker oil prices.

On the data front today, we start with ADP Employment (exp 150K) then the Trade Balance (-$96.6B) and get ISM Services (54.3) at 10:00.  We also see the EIA oil inventory data with a modest build anticipated across all products.  Four more Fed speakers are on the docket but as we continue to hear from more and more of the FOMC, the word of the moment is caution, as in, the Fed needs to move with caution regarding any further rate cuts.

I don’t blame the Fed for being cautious as President Trump has the ability to completely change perspectives with a single announcement.  While yesterday was focused on Gaza, not really a financial market concern, who knows what today will bring?  It is for this reason that I repeatedly remind one and all, hedging is the best way to moderate changes in cash flows and earnings, and consistent programs, regardless of the situation on a particular day, are very valuable.

Good luck

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Will It Matter?

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

 

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

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

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

Source: tradingeconomics.com

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

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

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

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

Source: tradingeconomics.com

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

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

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

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

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

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

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

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

Good luck

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Falling Further

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Like a stone toward earth
The yen keeps falling further
Beware Kato-san

 

While we have not discussed the yen much lately, its recent weakness, in concert with the dollar’s broad strength, has begun to cause some discomfort in Japan.  Last night, Japanese FinMin Katsunobu Kato explained, “We will take appropriate action if there are excessive movements in the currency market.”  He went on that he is “deeply concerned” by the recent weakness, especially moves driven by those evil pesky speculators.

The problem, of course, is that all those expectations that the BOJ would be tightening policy to fight domestic inflation while the Fed would continue to ease policy since they “beat” inflation, with the result being the yen would regain its footing, have proven to be false hope.  Instead, as you can see from the below chart, since the Fed first cut rates back in September, the yen has tumbled nearly 13% and very much looks like it is going to test the previous four-decade highs seen last summer.

Source: tradingeconomics.com

Last year, the MOF/BOJ spent about $100 billion in their efforts to stem the yen’s weakness.  They still have ample FX reserves to continue with that process, but ultimately, history has shown that maintaining a cap on a currency that is weakening for fundamental reasons is nigh on impossible.  If a weak yen is truly seen as existential in Tokyo, then Ueda-san needs to be far more aggressive in tightening monetary policy.  This is especially so given the Fed continues to back away from earlier expectations that it would be aggressively loosening policy.  Now, while JGB yields have moved higher over the past several sessions, trading now at 1.18%, which is their highest level since April 2011, that is not going to be enough to stem this tide.  From what I read, inflation is an issue, but not the same as it was in the US in 2022, so Ueda-san is not getting the same pressure to address it as Powell did back then.  My read is the BOJ remains on hold this month and hikes rates in March while the yen continues its decline.  Look for another bout of intervention when we test the 162 level, but that will not stop the rot.  Nothing has changed my view of 170 or higher in USDJPY by year end.

Though Treasury yields have been rising
Most credit spreads have been downsizing
So, corporate supply
Is ever so high
An outcome that’s somewhat surprising

In the bond market, government bond yields continue to rise around the world (China excepted) as investors increase their demands in order to hold the never-ending supply of new bonds.  Ironically, despite this ongoing rout in government bonds across the board, corporate debt issuance looks as though it will set new records this month.  One thing to remember here is that corporates have a lot of debt coming due over the next two years as all that issuance during the ZIRP period needs to be rolled over.  But the other thing to recognize is that corporate credit spreads, the amount of yield investors require to own risky corporate bonds vis-à-vis “safe” government bonds, has fallen to its lowest levels in years, and as can be seen in the chart below, the extra yield available for high-yield investors is shrinking faster than for investment grades.

Potentially, one reason for this is the dramatic increase in the amount of Private Credit, the latest investment fad where weaker credits go directly to funds designed to lend money rather than to their banks, and investors ostensibly remove one of the middlemen from the process.  As such, there is less of this debt around than there otherwise might be, hence increasing demand and reducing that credit spread.  But the other reason is that there continues to be a significant amount of investable assets looking for a home, and with global yields near the highest they have been in a decade or more, and with the equity market dividend yield down to just 1.27% or so, a record low, there are lots of investors who are comfortable with clipping 5% or 5.5% coupons on BBB corporate bonds.

The question I would ask is, if government bond yields continue to climb, and I see no reason for that to stop given the trend in inflation and necessary issuance, at what point are investors going to get scared?  We are likely still a long way from that point, but beware if the new Treasury Secretary, Scott Bessent, follows through with his hinted views of reducing T-bill issuance and increasing coupon issuance, yields could go much higher absent the Fed implementing QE.  That would cause some serious market ructions!

Ok, let’s see how things look around markets this morning after yesterday’s sell-off in the US equity markets.  It seems Japanese stocks were caught between the weaker yen (generally a stock positive) and the tech sell-off (generally a stock negative) with the Nikkei closing lower by -0.25% on the session.  Meanwhile, the Hang Seng (-0.9%) suffered a bit more on the tech move, although Mainland shares (-0.2%) were not as badly affected.  An interesting story here is that the chief economist at state-owned SDIC Securities made comments at an international forum run by the Peterson Institute that really pissed off President Xi.  Gao Shanwen said the quiet part out loud when he claimed that actual GDP growth in China for the past several years has likely been much closer to 2% than the 5% published.  That story has been widespread in the West, although has never been given official credence.  And for Xi, 2% growth is not going to get it done, what with the property bubble still imploding and consumption declining despite promises of more stimulus.  Stay tuned to this story to see if we start to see more Western analysts reduce their expectations.  Elsewhere in Asia, the picture was mixed with gainers (Korea, Australia, Singapore) and laggards (Taiwan, Malaysia, Philippines).

In Europe, red is today’s color, led by the CAC (-1.0%) although we are seeing losses across the board. Eurozone data showed declining Consumer Confidence, Economic Sentiment and Industrial Sentiment all while inflation expectations remain stubbornly high.  That stagflationary hint is typically not an equity market benefit so these declines should be expected.  The story on the continent is not a positive one and I maintain that the ECB is going to have to cut rates more aggressively than their inflation mandate would suggest.  That might support equities a bit, but it will be hell on the euro!  Finally, US futures are a touch softer (-0.2%) at this hour (7:05) although they were higher most of the overnight session before this.

As mentioned above, bond yields are higher with Gilts (+9bps) leading the way as not only is the economy suffering from some very poor policy decisions by the Starmer government, but it seems that the ongoing political crisis regarding grooming gangs has investors shying away.  But yields continue to rise across the board with continental yields up between 3bps and 6bps, Treasury yields higher by another 1bp this morning after a 10bp rise in the previous two sessions, and JGB yields, as mentioned, higher by 5bps.  This trend is very clear!

In the commodity markets, oil (+0.5%) keeps on keeping on, as API data showed a greater than 4mm barrel draw on inventories, far more than expected and indicating a reduced supply around.  Cold temperatures are keeping NatGas (+5.0%) firm as well.  In the metals markets, both precious and base are under a touch of pressure this morning, down less than -0.2%, largely in response to the dollar’s rebound.

Speaking of the dollar, it is higher against all its counterparts this morning with the pound (-1.2%) the G10 laggard although weakness on the order of 0.5% is pretty common this morning.  In the EMG bloc, ZAR (-1.5%) is the worst performer, after weaker than expected PMI data called into question the economic path forward.  But here, too, we are seeing weakness like MXN (-0.9%), CLP (-0.8%), PLN (-0.8%) and KRW (-0.5%).  I would be remiss to ignore CNY (-0.25%), which is trading below (dollar above) 7.3600 in the offshore market, and is now 2.4% weaker than last night’s fixing rate.  This is also the weakest the renminbi has been since it touched this level back in September and then November 2007 prior to that.  Those Chinese problems are coming home to roost for President Xi.

On the data front, ADP Employment (exp 140K) leads the day followed by Initial (218K) and Continuing (1870K) Claims.  These are being released this morning because of tomorrow’s quasi holiday regarding the late President Carter, when US markets will be closed.  This afternoon, the FOMC Minutes arrive and will be scrutinized closely to see just how hawkish they have become.  We also hear from Governor Waller this morning with caution being the watchword from virtually every Fed speaker of late.

It is all playing out like I anticipated, with the ISM data showing strength yesterday, not just in the headline number, but also in the Prices Paid number.  The Fed will have no chance to cut rates again, and I look for the dollar to continue to rise.

Good luck

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A New Denouement

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The story is that the Chinese
Will speed up their policy ease
Creating for Yuan
A new denouement
Of currency weakness disease
 
Their problem is that in the past
That weakness could happen too fast
So, how far will Xi
Be willing to see
Renminbi decline at long last?

 

As we await the US CPI data this morning, the story du jour in markets revolves around the Chinese renminbi and whether President Xi will allow, or encourage, the PBOC to weaken the currency.  Strategically, Xi has made a big deal to the rest of the world that the Chinese currency will remain strong and stable as he seeks other nations to increase their use of the renminbi in commercial transactions as well as a store of value.  I believe part of this is a legitimate goal but that there is also a significant fear underlying these actions as history has shown the Chinese people will flee the currency if it starts to weaken too quickly.  It is the latter issue that has been the primary driver of the PBOC’s efforts to continuously fix the renminbi at stronger than market levels.
 
This process worked well enough for the past four years as the Biden administration, while certainly not friendly to China, was not aggressively attacking the nation’s efforts to expand its influence.  However, that situation is about to change with the Trump administration and as Mr Trump has already threatened numerous new tariffs on various parts of China’s production economy, Xi’s calculus must change.  This puts Xi in a difficult situation; allow the currency to weaken more aggressively to offset the impact of any tariffs and suffer through capital flight or maintain the renminbi’s value and see exports decline along with overall economic activity.  It is easy to see in the chart below when the story about allowing a weaker currency hit the tape.  However, there is not nearly enough information to take a longer-term view on the subject.

 

Source: tradingeconomics.com

One other thing to remember is that Chinese interest rates are continuing to decline with 10-year yields trading to yet another new low last night at 1.88%.  As the spread between US and Chinese yields continues to widen, by itself that will put pressure on the renminbi to decline.  The problem for Xi is that no matter the control the PBOC has over the FX markets in China, now that there is an offshore market, if the Chinese people become concerned over the value of the renminbi, it has the ability to decline far more quickly than the government would want to allow.

For those of you with Chinese assets on your balance sheet or Chinese denominated revenues, I would be looking to maximize my hedges for now.  As an aside, there were a number of forecast changes by major banks overnight with many calls for USDCNY to reach 7.50 or higher by the end of next year now.

The market’s convinced
A rate hike is on the way
Why won’t the yen rise?

The other story overnight focused on Japan, or more precisely the BOJ meeting to be held in one week’s time.  It seems that there is a lot of dissent amongst the analyst community regarding whether or not the BOJ will hike rates.  As an example of how thin all the analyst gruel really is, one of the key rationales for the belief in a rate hike was that last week, Toyoaki Nakamura, perceived as the most dovish BOJ board member, indicated he didn’t object to a rate hike, although wanted to see more data before declaring one was appropriate for December.  However, just last night the BOJ added a speech and press briefing to their calendar for Deputy Governor Ryozo Himino right before the January meeting.  This has the punditry now expecting the BOJ to wait until then rather than move next week.  The below chart shows the change in the market’s expectations for a rate hike over the past week.

As I said, the tea leaves that the punditry are reading really don’t say very much at all.  Perhaps we can look at the economic data to get a sense.  Over the past month, we have seen CPI for both the nation and Tokyo print higher than forecast and continue to slowly climb.  As well, PPI printed higher and GDP continues to grow, albeit at a modest pace.  Of greater concern is that earnings data is lagging the CPI data.  

A look at the FX market would indicate that traders are losing their taste for a rate hike next week, at least as evidenced by the yen’s recent weakness.  As you can see in the past week, it has slipped nearly 2%, hardly a sign that higher Japanese rates are expected.  But something that is not getting much press is the potential Trump impact, where the incoming president would like to see the yen, specifically, strengthen as it is truly historically undervalued.  FWIW, which is probably not that much, I am in the rate hike camp for next week and expect the yen will find some support soon.

Source: tradingeconomics.com

Ok, enough Asian currency talk.  Let’s see how everything else behaved ahead of this morning’s data.  Yesterday’s modest US equity declines were followed by virtually no movement in Japanese shares although most of the rest of Asia followed the US lower.  Hong Kong (-0.8%) and Taiwan (-1.0%) were the worst performers and the one outlier the other way was Korea (+1.0%) as the KOSPI continues to recoup the losses made after the martial law fiasco.  European bourses are mostly little changed on the day with Spain’s IBEX (-1.1%) the lone exception which has been negatively impacted by Q3 results from Inditex (the parent company of Zara).  As to US futures, at this hour (7:25) they are little changed.

In the bond market, yields continue to edge higher in Treasuries (+2bps) and European sovereigns with gains on the order of 1bp to 2bps across the board.  While there is some discussion regarding fiscal questions in Europe, ultimately, nothing has broken the connection between US and European yields, and I would contend they are all awaiting this morning’s CPI.

In the commodity markets, oil (+1.4%) is rebounding although remains below $70/bbl, which seems to be a trading pivot for now.  The China stimulus story remains the key in the market with a growing belief that if China does successfully stimulate, oil demand will increase.  Meanwhile in the metals markets, gold is unchanged this morning after another nice rally yesterday while both silver and copper are under modest pressure.  I would contend, however, that the trend for all metals remains slightly upward.

Finally, the dollar is firmer against virtually all its counterparts this morning with most G10 currencies softer on the order of -0.3% or so although CAD and CHF are little changed on the session.  In the EMG bloc, KRW (+0.3%) is rebounding alongside the KOSPI as the excesses from the martial law story last week continue to be unwound, but elsewhere in the bloc, modest weakness, between -0.2% and -0.4%, is the rule.  However, this is all dollar focused today.

On the data front, it is worth noting that yesterday’s NFIB Small Business Optimism Index shot higher in November in the wake of the election results, heading back toward its long-term average just above 100.  As to this morning, forecasts for Headline (exp 0.3%, 2.7% Y/Y) and Core (0.3%, 3.3% Y/Y) CPI continue to indicate that the Fed may be overstating the case in their belief that inflation pressures are ebbing.  Rather, I continue to believe that we have seen the bottom in the rate of inflation and a gradual increase is in our future.  Two other things of note are the BOC rate decision (exp 50bps cut) this morning and then the Brazilian Central Bank rate decision (exp 75bp HIKE) this afternoon.  The latter is clearly an attempt to rein in the BRL’s recent dramatic decline.

With no Fed speakers, if the data this morning is significantly different than expectations, I would look for the Fed Whisperer, Nick Timiraos, to publish something before the end of the day in order to get the Fed’s latest views into the market.  Absent that, nothing has gotten in the way of the higher dollar at this stage so stay sharp.

Good luck

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Looking Elsewhere

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The Middle East story is back
With fears that Iran might attack
So, oil is rising
And it’s not surprising
The dollar is leading the pack
 
But til anything happens there
The market is looking elsewhere
The Payrolls report
May well be the sort
That causes Chair Powell to care

 

It was only a week ago when the Israeli response to the Iranian missile barrage was seen by market participants as a clear de-escalation of tensions in the Middle East.  The market’s response was to reduce the risk premium in the price of oil which promptly fell $5/bbl amid signs of slowing growth in China as well.  Alas, as can be seen in the chart below, that was Monday’s story and no longer pertains.  Rather, the new concern is that Iran is planning to launch yet another attack, this time via proxies in Iraq, with Israel vowing to respond more severely.  You cannot be surprised that oil has regained its levels prior to Monday’s narrative.

Source: tradingeconomics.com

Adding to the buying pressure for oil has been the better than expected growth data from China (Caixin Mfg PMI printing better than expected 50.3) and solid US GDP data on Wednesday along with stronger Personal Income and Spending data yesterday.  And remember, the market is also looking ahead to the Standing Committee of the National People’s Congress in China to add significant fiscal stimulus there, with CNY 10 trillion (~$1.4 trillion) the most popular number being bandied about.  If that comes to pass, it will seemingly increase demand for oil on China’s part.

Of course, there is another piece of news that the market is awaiting with the potential for a significant impact, today’s Employment Report.  Ahead of the release, these are the current consensus forecasts:

Nonfarm Payrolls113K
Private Payrolls90K
Manufacturing Payrolls-28K
Unemployment Rate4.1%
Average Hourly Earnings0.3% (4.0% Y/Y)
Average Weekly Hours34.2
Participation Rate62.5%
ISM Manufacturing47.6
ISM Prices Paid48.5

Source: tradingeconomics.com

You may remember that last month, the NFP number printed much higher than expected at 233K which began the questioning of the Fed’s expected rate cutting path.  Frankly, the data since then has done very little to argue for much policy ease as Retail Sales have held up, GDP was solid and prices appear to be moving higher, not lower.  In fact, you can see how things have played out over the past month in the chart/table below from the CME showing the market priced probability of future Fed funds rates.  Check out where things were a month ago, just prior to the last NFP report.

The market was pricing a more than 50% probability of at least 75 basis points of rate cuts by December. Obviously, that is no longer the case and if this morning’s data proves stronger than forecast (remember, ADP Employment was significantly stronger than expected) many more people are going to call into question the assumption that the Fed is going to be cutting rates at all.  If you think about it, GDP is growing above trend at 2.8%, inflation remains above target with core CPI 3.3% and Unemployment is at a still historically low 4.1%.  if I look at those three major economic guideposts, the one that stands out to be addressed is inflation, not Unemployment, and that takes tighter policy.

Now, maybe this morning’s data will be awful, with a 50K NFP print and a jump in the UR to 4.3%.  That would certainly bring the doves out more aggressively but absent something like that, I continue to scratch my head as to why the Fed is so keen to cut the Fed funds rate.  Let’s put it this way, if the data surprises to the upside, I expect the December rate cut probability to fall close to 50%.

At any rate, those are the topics du jour, away from the election stories that are suffocating most everything else.  So, let’s see how things behaved overnight.

Well, I guess there has been one other story that has gotten tongues wagging, the fact that US equity markets had their worst session in two months with all three major indices falling sharply.  This was blamed on weaker than forecast earnings releases from several companies in the tech sector, where even if the actual earnings were solid, there were other issues like guidance or breakdowns of revenues, that disappointed.  It is far too early to declare that the love affair with the tech sector, especially AI, is ending, but there are a few names in the sector that are suffering greatly.  This certainly bears close watch going forward, because if this theme starts to lose adherents, even in the short run, it appears there is ample room for a move lower in stocks.

Turning to other markets overnight, Tokyo (-2.6%) led the way lower in Asia with most regional exchanges falling and only Hong Kong (+0.9%) bucking the trend.  There are those who believe there is a causal relationship between the Nikkei, the NASDAQ and USDJPY with one theory that it is the FX rate that drives these movements.  While it is certainly true that we have seen correlation amongst these three markets, I find it difficult to make the case that USDJPY is the driver.   A quick look at all three on the same chart certainly shows that they regularly move in similar directions, but I have a harder time claiming which one is the leader.

Source: tradingeconomics.com

However, despite the negativity from yesterday’s US moves and the overnight sell-off and the sharp rise in oil prices, European bourses are all in the green today, higher by about 0.5% across the board.  In fact, this is in sync with US futures which are also trading higher, by about 0.4%, this morning.

In the bond market, other than UK Gilt yields, which rose 7bps net yesterday although traded as high as 20bps higher than Wednesday’s close during the session, the rest of the bond markets were quiet.  It seems that UK bond investors are not that happy with the recently promulgated budget, and neither are voters as there was a by-election in a “safe” Labour seat that went to Nigel Farage’s Reform UK party.  I have a feeling that bond markets are going to be the epicenter of market activity over the next week or two as huge differences of opinion remain regarding the potential outcomes of the US election.

Away from oil (+1.9%) this morning, the rest of the commodity sector is also doing well today with both precious and base metals all in the green.  But they have not recouped yesterday’s declines which saw gold fall back -1.5% with even larger losses in silver (-3.2%) although copper (-0.6%) didn’t have nearly as bad a day.  This morning, the metals are higher by between 0.2% (gold ) and 0.6% (silver), so it seems like it was a month-end position adjustment and profit-taking exercise.

Finally, the dollar is strong this morning, rallying against most of its G10 counterparts with JPY (-0.4%) the laggard while the pound (+0.1%) seems to be benefitting from higher yields.  Versus the EMG bloc, the dollar is also broadly higher with only MXN (+0.2%) showing any life.  The peso has a number of issues ongoing with concerns that a Trump victory may lead to tariff increases and strain on the economy while domestic issues have arisen over the potential resignation of eight of their Supreme Court Justices which will have a big impact on the judicial system and potentially the Morena party’s ability to rule effectively.  However, after a steady weakening of the peso throughout October, it appears we are seeing a bit of a bounce this morning.

And that’s really what we have today.  At this point, we will all await the NFP and respond accordingly.  Something to keep in mind is that the hurricanes last month could well impact the data, so whatever the outcome, you can be sure that there will be those saying to ignore it as incomplete.  Regarding the dollar, it is still hard to bet against in my mind given the US economic data continues to be the best around.

Good luck and good weekend

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Full Throat

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The news cycle’s still ‘bout the vote
With Harris and Trump in full throat
‘Bout why each should be
The one filled with glee
When voters, to prez, they promote
 
Meanwhile, out of China we hear
More stimulus is coming near
The rumor is on
That ten trillion yuan
Is how much Xi’ll spend through next year

 

The presidential election continues to be the primary source of news stories and will likely remain that way until a winner is decided.  The vitriol has increased on both sides, and that is unlikely to stop, even after the election as neither side can seem to countenance the other’s views on so many subjects.  

As we watch Treasury yields continue to rise, many are ascribing this move to the recent polls that show former President Trump gaining an advantage.  The thesis seems to be that his proffered plans will increase the budget deficit by more than Harris’s proffered plans, but I find all this a bit premature as budget deficits are created by Congress, not presidents, so the outcome there will have a significant impact on the budget.  With that in mind, though, if we continue to see the yield curve steepen as long-end rates rise, my take is the dollar will continue to perform well.

But the election is still a week away and while there is no new data of note today, we do see important numbers starting tomorrow.  In the meantime, one of the big stories is that the Chinese National People’s Congress is now considering a total stimulus package of CNY 10 Trillion to help support the economy, and that if Trump wins, that number may grow larger under the assumption that he will make things more difficult for the nation.  This report from Reuters indicates that there would be a lot of new debt issuance to help support local governments repay their current borrowings as well as support the property market.  

Now, this is very similar to what was reported last week, although the totals are larger, but there is nothing in the story indicating that President Xi is going to give money to citizens, nor focus on new production.  This all appears to be an attempt to clean up the property market mess (remember, most local government debt problems are a result of the property debacle as well), which while necessary is not sufficient to get China back to its pre-pandemic growth trend.

As it happens, this story did not print until after the Chinese equity markets closed onshore, so the CSI 300’s decline of -1.0% has been reversed in the futures aftermarket.  As well, given that Hong Kong’s market doesn’t close until one hour later, it had the opportunity to rebound before the close and finished higher on the day by 0.5%.  As to the rest of Asia, it mostly followed the US rally from yesterday with the Nikkei (+0.8%) performing well and gains seen across virtually all the other markets there.

Turning to Europe, the only data of note was the German GfK Consumer Confidence index which rose to -18.3.  While this was better than last month and better than expected, a little perspective is in order.  Here is the series over the past ten years.

Source: tradingeconomics.com

While it seems clear that consumers are feeling a bit more confident than they have in the past year, ever since the pandemic, the German consumer has been one unhappy group!  And the other story from Germany this morning helps explain their unhappiness.  VW is set to close at least 3 factories and reduce wages by 10% as they try to compete more effectively with Chinese EV’s.  I can only imagine how confident that will make the people of Germany!

Now, the interesting thing about confidence is that while it offers a view of the overall sentiment in markets, it doesn’t really correlate to any specific market moves.  For instance, the euro (-0.2%) remains rangebound albeit slightly lower this morning, while the DAX (+0.25%) has actually rallied a bit, although that is likely on the basis of the VW news helping to convince the ECB that they need to cut rates further and faster.  In fact, most European bourses are firmer this morning on the lower rate thesis I believe, although Spain’s IBEX (-0.25%) is lagging after some moderately worse earnings news from local companies.

Turning to the commodities sector, it should be no surprise that they are higher across the board as the combination of proposed Chinese stimulus and potential future inflation in the US based on a possible Trump victory (although there is nothing in the Harris policies that seem likely to reduce inflation) means that commodities remain a favored outlet for investors.  After a couple of days of choppiness, we are seeing oil (+1.2%) rise nicely (perhaps the decline was a bit overdone on position adjustments) and the metals complex rise as well (Au +0.3%, Ag +1.3%, Cu +1.1%) as all three will benefit from all the new spending that is likely to occur in the US as well as China.  

One other thing to note, which disappointed the gold bulls, as well as the dollar bears, is that the BRICS meeting in Kazan, Russia resulted in…nothing at all regarding a new currency to ‘challenge’ the dollar.  Toward the bottom of their proclamation, they indicated they would continue to look for ways to work more closely together, but there is nothing concrete on this subject.  As I have been writing for the past several years, and paraphrasing Mark Twain, rumors of the dollar’s demise have been greatly exaggerated.  So, there will be no BRICS currency backed by gold or anything else, no new payment rails and Treasuries are going to remain the haven asset of choice alongside gold.

As to the dollar vs. its other fiat counterparts, it is a bit stronger this morning alongside US yields (Treasuries +3bps) with even the commodity bloc having difficulty gaining ground.  Of note is USDJPY, which is higher by 0.35% and now firmly above 153.00.  Last night, we did hear our first bout of verbal concern from a MOF spokesman explaining they are watching the yen carefully.  I’m sure they are, but I believe they will be very reluctant to enter the market when US yields are rising, and the BOJ is not keeping pace.  In fact, while the November rate cut is baked in at this point, the probability of the Fed cutting in December continues to slowly decrease (now 71%).  If we see a good NFP number Friday, I would look for that to decrease more rapidly and the dollar to see another leg higher.

And that’s all the market stuff today.  On the data front, Case Shiller Home Prices (exp 5.1%) and the JOLTS Job Openings data (7.99M) are the major releases.  As well, the Treasury is auctioning 7-year Notes this morning after a tepid 2-year auction yesterday.  It is very possible investors are starting to get a bit nervous about the US fiscal situation and if that continues, the irony is that higher yields will beget a higher dollar despite the concerns.

It is difficult to get away from the election impact on markets, and it seems that as momentum for Trump builds, the market is going to continue to push yields and stocks higher with the dollar gaining ground alongside gold.  Go figure.

Good luck

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Surprise!

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Ishiba explained
He was just kidding about
Tight money…surprise!

 

So, yesterday’s biggest mover was JPY (-2.1%), where the market responded to comments by new PM Ishiba that all his previous comments regarding policy normalization were not really serious (and you thought Kamala flip-flopped!)

Here are his comments in the wake of that massive 12% decline in the Nikkei back in early August:

“The Bank of Japan (BOJ) is on the right policy track to gradually align with a world with positive interest rates,” ruling party heavyweight Shigeru Ishiba told Reuters in an interview.

“The negative aspects of rate hikes, such as a stock market rout, have been the focus right now, but we must recognize their merits, as higher interest rates can lower costs of imports and make industry more competitive,” he said.

And here are his comments after meeting with BOJ Governor Ueda Wednesday morning in Tokyo:

“From the government’s standpoint, monetary policy must remain accommodative as a trend given current economic conditions.”

See if you can tell the difference.  The below chart includes the market response to his election last week as well as its response since uttering those last words early yesterday morning.

Source: tradingeconomics.com

Remember the idea that the carry trade was dead and completely unwound?  Well, now the talk is its coming back with a vengeance between Powell sounding less dovish, Ishiba sounding more dovish and then yesterday’s ADP Employment Report printing at a higher-than-expected 143K.  Maybe all those rate cuts that had been priced are not going to show up in traders’ Christmas stockings after all.  Certainly, the Nikkei (+2.0%) was pleased with the weaker yen which has fallen further this morning (-0.2%) after further comments from BOJ member Noguchi calling for more time to evaluate the situation before considering tighter policy.  In fairness, though, Noguchi-san is a known dove and voted against the rate hikes back in July.  Summing it all up here, it is hard to make a case currently for the yen to strengthen too much from here.  Rather, a test of 150 seems the next likely outcome.

In England, the Old Lady’s Guv
Explained that he’s really a dove
He’ll be more aggressive
Though not quite obsessive
While showing investors some love

The other big mover this morning is the British pound (-1.1%) which is responding to an interview BOE Governor Bailey had in The Guardian where he explained he could become “a bit more aggressive” in their policy easing stance provided inflation data continues to trend lower.  Now, prior to the interview, the OIS market was already pricing in a 25bp cut at the next meeting in November, and 45bps of cuts by year end, and it is not much changed now.  But for whatever reason, the FX market decided this was the news on which to sell pounds.  

Remember, as I’ve repeatedly explained, the dollar’s demise is likely to be far slower than dollar bears believe because now that the Fed has begun cutting rates, and nothing is going to stop them going forward for a while, other central banks will feel empowered to cut as well.  The only way the dollar falls sharply is if the Fed is the most dovish central bank of the bunch, but Monday, Chairman Powell made clear that was not the case.  In fact, yesterday, Richmond Fed president Barkin was the latest to explain that things look good, but they are in no hurry to cut aggressively.  Other central banks are now in a position to ease policy more aggressively, something many had been seeking to do as economic activity was slowing in their respective countries, without the fear of a currency collapse. 

It was just a few days ago that I highlighted key technical levels the market was focused on, which if broken might herald a much weaker dollar.  Across the board, we are more than 2% from those levels (EUR 1.12, GBP 1.35, DXY 100.00) and traveling swiftly in the other direction.  A quick peek at the chart below shows that while the exact timing of these moves was not synchronized, the outcome is the same.

Source: tradingeconomics.com

Moving beyond the FX market, where the dollar is stronger literally across the board, the economic story continues to muddle along.  Services PMI data was released this morning with most of Europe looking a bit better, although the Italians were lagging, but not enough to get people excited about European assets in general.  Equity markets on the continent are mixed with both the DAX (-0.6%) and CAC (-0.8%) under pressure while Spain’s IBEX (+0.1%) and the FTSE 100 (+0.25%) buck the trend on the back of Spain’s best in class PMI data and, of course, the UK rate cut frenzy.  As to last night’s Asian markets, while China remains closed, the Hang Seng (-1.5%) gave back some of yesterday’s gains and the rest of the region was unconvinced in either direction.  While US markets eked out the smallest of gains yesterday, futures this morning are pointing lower by -0.4% or so at this hour (6:45).

In the bond market, Treasury yields are higher by 3bps this morning, as the market absorbs the idea that the Fed may not be cutting in 50bp increments each meeting and traders responded to a much better than expected ADP Employment Report yesterday (143K, exp 120K) so are prepping for a good NFP number tomorrow. Meanwhile, European sovereign yields are all higher by between 5bps and 7bps as they catch up to yesterday’s Treasury move, much of which occurred after European markets were closed.  One thing to keep in mind here is that bond markets, at least 10-year and longer maturities, are far more concerned with the inflation outlook than the central bank discussion.  Right now, as the world awaits Israel’s response to the Iranian missile attack, concerns are rife that oil prices could move much higher and take inflation readings along for the ride.  If you add that to the idea that 3% is the new 2% for central bank inflation targets, something which is also gaining credence in the market, the case for higher bond yields is strong.

Speaking of oil markets, once again this morning the black sticky stuff is higher (+2.0%) amid those Middle East conflagration fears.  As I highlighted yesterday, if Israel were to attack Iran’s oil fields and knock a large portion offline, I would expect oil to get back to $100 in a hurry.  And if the damage was sufficient to keep it offline for many months, we could stay there.  However, the combination of the stronger dollar and higher oil prices has taken a toll on the metals markets with all the major metals weaker this morning (Au -0.5%, Ag -1.1%, Cu -1.5%).  This strikes me as a short-term phenomenon as the fundamental supply/demand issues remain in favor of higher prices and anything that drives inflation higher will help price as well.  But not today.

As to the dollar, I have already discussed its broad-based strength with gains against literally all its G10 and EMG counterparts.  It will take some pretty bad US data to change this story today.

Speaking of the data, as it’s Thursday, we get the weekly Initial (exp 220K) and Continuing (1837K) Claims data as well as ISM Services (51.7) and Factory Orders (0.0%).  Yesterday, in a surprise, EIA oil inventories rose, a welcome outcome, but not enough to offset the Middle East fears.  The only Fed speaker on the calendar today is Atlanta Fed president Bostic, one of the more hawkish members, so my guess is he is likely to continue to preach moderation in rate cuts.  Speaking of the Atlanta Fed, their GDPNow reading fell to 2.5% for Q3 after the weaker than expected construction spending the other day, but it remains above the Fed’s estimated long-term trend growth rate.

Putting it all together, I can see no good reason for the dollar to reverse this morning’s gains absent a Claims number above 250K.  The hyper dovishness that had been a critical part of the dollar decline story has been beaten back.  Of course, tomorrow brings the NFP report, so anything can still happen.  

Good luck

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More Money to Mint

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As an eagle soars
So too did the yen after
Ishiba-san won

 

Political change in Japan is far less bombastic and exciting than here in the US as evidenced by the election of Shigeru Ishiba as the new leader of the Liberal Democratic Party (LDP) last night.  Given the LDP’s large majority in the Diet (Japan’s parliament), as the new leader, Ishiba-san is now all but certain to be the new Prime Minister. This will likely be confirmed by a vote as early as next Tuesday, but sometime very soon regardless.

Ishiba’s background, a party veteran and former defense minister, seems to have been the right focus at the right time as strains with China have recently increased and the electorate (LDP members, not the general population) are clearly hearing about security concerns more than other issues.  The implication is that economic issues were not the driving force here, but in that vein, Ishiba’s views appear to be to allow the BOJ and Governor Ueda to continue their normalization process, finally ending the decade plus of Abenomics that worked to raise inflation.  

Now, as it happens, last night Tokyo inflation was released with the headline falling to 2.2% and the core falling to 2.0%, as expected.  It also appears that one of his key opponents, Sanae Takaichi, had been an advocate of pressuring the BOJ to slow its policy normalization, so with the results, market participants reacted swiftly, and the yen rallied sharply on the news as per the below chart while the Nikkei after an initial sharp decline, rebounded and closed higher by 2.3%.

Source: tradingeconomics.com

Going forward, it seems unlikely that the yen is going to be a focus of the new Ishiba administration.  Rather, he is clearly focused on defense strategy so Ueda-san will be able to continue his normalization efforts at his own pace.  As evidence, JGB yields stopped their recent slide and backed up 2bps overnight.  I suspect that we will see a very gradual move higher here with key drivers to be purely economic issues rather than political ones, at least for a while.

This morning, the PCE print
Will help give another key hint
To whether the Fed
When looking ahead
Will soon start, more money, to mint

The other story for the day is the PCE report to be released at 8:30. Current expectations are for a 0.1% M/M, 2.3% Y/Y rise in the headline number and a 0.2% M/M, 2.7% Y/Y rise in the ex-food & energy reading.  If these are the realized outcomes, the trend lower in inflation will remain on track and all the Fed speakers will feel vindicated that the 50bp cut last week was appropriate.  But I think it is worthwhile to take a quick look at a chart of how this number (core PCE) has evolved over time to help us better understand where things are in relation to the pre-pandemic economy. 

Source: tradingeconomics.com

Now, while there is no doubt that we are well below the highest levels seen two years ago, it is not difficult to look at this chart and see a potential basing formation, well above the pre-pandemic levels.  In fact, today’s expectations on the core reading are for a bounce higher of 0.1% which would only reinforce the idea that we have seen the bottom in this reading.  Of course, any one month’s data is not definitive as everything is subject to revisions, and simply looking at the chart, it is easy to see both ebbs and flows in the data well before the pandemic.  But I continue to be concerned that the Fed’s very clear ‘mission accomplished’ attitude on inflation is a big mistake that will come back to haunt us all sooner than you think.

Ahead of the data, a look at the overnight session shows that the ongoing rally in risk assets that started with the Fed and has been goosed by China’s efforts this week, remains the dominant theme.  In fact, Chinese shares had another gargantuan session last night (CSI 300 +4.5%, Hang Seng +3.6%) as hedge funds who had been quite short the Chinese stock market prior to the announcements this week continue to scramble to cover those shorts as well as get long for the rest of the expected ride.  But away from China and Japan, the rest of Asia was far less excited with declines seen in India, Korea and Australia leading most indices lower there.  As to European bourses, they are firmer this morning led by the DAX (+0.8%) but green everywhere after preliminary inflation data for September from France and Spain saw declines well below expectations to 1.5% and investors increased the probability of an October ECB rate cut substantially.  While some ECB members remain concerned over the stickiness of services prices, which continue to hover above 4%, if the headline numbers are falling below 2%, I think it will be very difficult for Madame Lagarde to push back against another cut next month.  Meanwhile, ahead of the data, US futures are unchanged.

In the bond market, Treasury yields have edged lower by 1bp while European sovereign yields have moved a similar amount except for French OATs which have slipped 3bps.  The story about French debt yielding more than Spain, one of the original PIGS has gotten a lot of press and it seems deeper thinkers disagree with the idea and are buying ‘undervalued’ French OATs.  

In the commodity markets, oil (+0.15%) has finally stopped falling, at least for the moment, although the recent trend is anything but encouraging for oil bulls.  Crude is lower by -4.5% in the past week and -9.0% in the past month, clearly helping the headline inflation readings.  As to the metals markets, after another strong day yesterday, they are consolidating with very modest declines (Au -0.2%, Ag -0.1%, Cu -0.4%) although the trend in all three remains firmly higher.

Finally, the dollar, after several sessions under a lot of pressure, is also bouncing slightly, at least against most of its counterparts.  We have already discussed the yen’s gains, but vs. the rest of the G10, it is firmer by roughly 0.15% or so while vs. its EMG counterparts some are seeing losses  (CE4 -0.3% to -0.4%) while there are others with modest gains (ZAR +0.3%, MXN +0.4%).  For now, the trend remains for a lower dollar, and if we see a soft PCE reading this morning, I expect that to reassert itself as thus far, today’s price action appears more like a trading response to the recent weakness.

In addition to the PCE data, we also see Personal Income (exp 0.4%), Personal Spending (0.3%), the Goods Trade Balance (-$99.4B) and Michigan Sentiment (69.3).  Mercifully, on the Fed front, only Governor Bowman speaks, she of the dissent at the last meeting, although yesterday’s plethora of Fed speakers taught us nothing new at all.  

I don’t have a strong opinion as to how this data will play out, but I would caution that if PCE is firmer than expected, look for a hiccup in the recent euphoria over stocks and bonds, while the dollar consolidates its support.  However, if we see a softer print than forecast, watch out for a much bigger rally in stocks and a much weaker dollar.

Good luck and good weekend

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Sayonara Yen

Posted on by

Ueda did not
Accept the challenge and hike
Sayonara yen

 

Market excitement has ebbed after yesterday’s massive risk rally around the world, especially with limited new information released.  The one place where there was a chance for excitement was Tokyo, where the BOJ was meeting.  Heading into the meeting, the analyst community anticipated no policy changes although it seems clear that there were at least some market participants who thought Ueda-san would take this opportunity to surprise markets once more.  However, in this case, the analysts were correct.  Policy was left as is, with the overnight rate remaining at 0.25%, and there was no discussion regarding the reduction of QE at all, in fact, the most noteworthy thing about the policy statement was the frequency with which they used the term ‘moderate’ or variations thereof.  

They explained that the Japanese economy’s recovery, overseas economies’ growth, corporate profits, private consumption, business fixed investment, and inflation expectations have all been increasing moderately.  As such, the unanimous decision was that policy was just fine already with no imminent concern over rising inflation and no need to do anything.  The upshot is that the Nikkei (+1.5%) continues its recent rebound rally, JGB yields didn’t budge and the yen (-0.9%) fell sharply, proving to be the worst performing currency in the session.  See if you can figure out when the BOJ news was released based on the chart below.  This is what I meant when I said while analysts weren’t looking for any policy changes, clearly FX traders were.

Source: tradingeconomics.com

However, beyond the BOJ nonevent, there has been very little to discuss overall.  There is still a sense of euphoria around equity markets as congratulations abound for Chairman Powell and his bold action on Wednesday, at least from the Keynesian audience.  The one other thing to mention is that the barbarous relic (+1.0%) has absorbed all this information and traded to yet another new all-time high, well above $2600/oz, dragging the rest of the metals complex along for the ride.

Some days, there is just not much to discuss, so I will recap markets and let us all start the weekend early.

Following the big rally in the US yesterday, alongside Japan, Hong Kong (+1.35%) stocks rallied as did most of Asia (Korea, India, Australia, Malaysia) although there were a few laggards (Indonesia and New Zealand stick out).  As to mainland Chinese shares (+0.15%), they did edge higher, which given their performance of late is clearly a positive, but the news from China continues to disappoint.  Last night, the PBOC left their 1yr and 5yr loan rates unchanged, unwilling to take advantage of the Fed’s rate cut to help try to boost the domestic economy.  There is talk that the government there is going to ease the Hukuo restrictions, a type of internal passport that restricts what citizens there can do, to try to goose the property market, but no confirmation of that.  

But there was also news that the youth unemployment rate rose again, up to 18.8%.  You may recall that last summer, when the numbers started to really get bad, rising above 25%, they simply stopped publishing them.  Well, they rejiggered the data and brought them back at the beginning of the year, and now they are rising once again.  China still has many intractable problems and the equity market there seems likely to remain under pressure for a while yet.  As to US futures, at this hour (7:00) they are backing off a bit from recent highs, down -0.25% or so.

In the bond market, it is an extremely quiet session everywhere, with Treasury yields edging higher by 1bp and similar moves in some European sovereign markets while others remain unchanged.  It seems that with central bank meetings now behind us, there is no reason to anticipate the next move yet, so no reason to rock the boat.  I assume that as more data shows up, NFP, inflation, etc., we will see more movement, but for now, likely very little activity.

As mentioned above, the metals markets are rocketing this morning but the same is not true in energy with oil (-0.3%) and NatGas (-0.6%) both slipping a bit.  However, both have had strong weekly rallies, so this feels much more like a profit taking response as traders head into the weekend than anything fundamental.  After all, escalation in the Middle East doesn’t seem to faze traders, nor in Russia/Ukraine. 

Finally, the dollar is a touch higher overall, but really, in the G10 other than the yen, most currency movements have been very modest.  In the emerging markets, CNY (+0.25%) is the outlier, with those looking for a cut unwinding their short positions, but we have seen weakness elsewhere (KRW -0.65%, MXN -0.25%, ZAR -0.25%) all of which seem to be a reaction to the dollar’s sharp decline of the past two sessions.  Again, profit-taking on a Friday with no data is pretty common.

And that’s really it.  There is no data and only one Fed speaker, Philly Fed president Harker, who will be the first post-FOMC speaker we hear.  It is hard to get excited about anything in the markets today.  I expect that we will see more profit taking in those markets which moved significantly, like equities and eventually metals by the close.  In fact, if the metals markets don’t retrace, I think that could be a signal that there is a larger move in that space coming our way.

Good luck and good weekend

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Recalibration

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All week we had heard many clues
That fifty is what Jay would choose
And that’s what he cut
With only one but
From Bowman, who shuns interviews
 
The key is now recalibration
In order to tackle inflation
Without driving higher
The joblessness spire
So, trust us, it’s all celebration

 

“Recent indicators suggest that economic activity has continued to expand at a solid pace. Job gains have slowed, and the unemployment rate has moved up but remains low. Inflation has made further progress toward the Committee’s 2 percent objective but remains somewhat elevated.” [emphasis added]

Reading the opening paragraph of the FOMC Statement, it might be confusing as to why they needed to cut rates 50bps.  After all, the economy is expanding at a solid pace (In fact, after the Retail Sales data on Tuesday, the Atlanta Fed’s GDPNow reading for Q3 is up to 3.0%!)  unemployment remains low and inflation is still somewhat elevated.  I know I am a simple poet, but the plain meaning of those words just doesn’t lead my thinking to, damn, we better cut 50 to get started.  But I guess that is just another reason I am not a member of the FOMC.

Perhaps the more interesting thing was the Summary of Economic Projections and the dot plot which showed that while expectations were for rates to fall far more dramatically than in June, the longer run expectations continue to rise.  In fact, Chairman Powell specifically addressed the SEP in the press conference, “If you look at the SEP you’ll see that it’s a process of recalibrating our policy stance away from where we had it a year ago when inflation was high and unemployment low to a place that’s more appropriate, given where we are now and where we expect to be, and that process will take place over time.” [emphasis added] In fact, there was a lot of recalibrating going on as that appears to be the Chairman’s new favorite word, using it 8 times in the press conference.

Source: federalreserve.cgov

Notice that their current forecasts are for GDP to slow to 2.0% with Unemployment edging only slightly higher while PCE inflation magically returns to their 2.0% target.  And take a look at the last two lines, with the Fed funds rate projections falling substantially for the next three years, far more quickly than their previous views, although they think the long-run level will be higher.  

I wonder about that last issue.  Historically, the thought was that the long run Fed funds rate would be inflation (2.0%) + real interest rate (0.5%) and they pegged it at 2.5% for years.  Now that they see it at 2.9%, is that because they think inflation is going to be higher (not according to their projections) which means that for some reason they think real interest rates are going to be higher.  However, when asked, Chairman Powell and every member of the board has been unable to explain this change.

But what really matters is how have markets responded to this earth-shattering news?  The initial movement was as expected, with stocks rallying sharply (see chart below) and yields sliding along with the dollar while commodities rallied.

Source: Bloomberg.com

But a funny thing happened on the way to the close, as can be seen in the chart.  Stocks gave back all their gains and then some, with all three major indices lower on the session while 10yr Treasury yields backed up 7bps and the dollar rebounded.  Arguably, this was a sell the news response, but we need to be careful.  Remember, there are many analysts who believe the economy is in deep trouble already and by starting off with a big cut, those with paranoia may be wondering what the Fed knows that the data, at least the headline data, is not really showing.

So much for yesterday, now let’s look at markets this morning beyond the initial knee-jerk responses.  Absent any other major news or data (Norgesbank leaving rates on hold doesn’t count as major), markets have played out far more along the lines of what would have been expected in the wake of a 50bp cut.  In other words, the dollar has fallen sharply against almost all its counterparts, equity markets have rallied around the world, commodity prices have rallied sharply, and bond yields are…unchanged? 

Which brings us to the question that has yet to be answered.  Which market is right, stocks or bonds?  They appear to be telling us different stories with stocks pushing to new highs amid rising multiples and rising profit growth expectations while bonds are pricing in another 200bps of rate cuts by the end of 2025, an outcome that would only seem to make sense in the event the economy fell into a recession.  But if we are in a recession, corporate earnings seem highly unlikely to rise as much as currently forecast and typically, P/E multiples contract.  Meanwhile, if the economy is humming along such that current equity pricing is warranted, what will be the driver for the Fed to cut rates as that will almost certainly reignite inflation.  

History has shown that the bond market tends to get these big questions right when they are pointing in different directions, but that doesn’t mean that risk assets will stop rallying right away.  In fact, this will likely take quite a while to play out.

Ok, so let’s put a little more detail on the market activity overnight.  Tokyo rocked (+2.0%) as did Hong Kong (+2.0%), Taiwan (+1.7%), Singapore (+1.1%) and even mainland China (+0.8%) managed to rally some.  It appears that investors around the world believe the Fed has opened the floodgates for a much lower interest rate environment everywhere.  European bourses, too, are sharply higher led by the CAC (+2.1%) but with strength across the board (DAX +1.5%, FTSE 100 +1.3%).  And US futures have shaken off the late selloff yesterday and are firmly higher this morning led by the NASDAQ (+2.2%).

Bond yields, though, are largely unchanged on the day, with yesterday’s backup in Treasury yields maintained and European sovereigns all within 1bp of yesterday’s close.  It appears that bond investors are less confident in a soft landing than equity investors.  Interestingly, JGB yields rose 2bps last night as Japanese markets prepare for the BOJ meeting tonight.

In the commodity markets, oil (0.75%) is continuing its recent rebound after another massive inventory draw was revealed by the EIA yesterday prior to the Fed meeting.  There is a growing concern that inventories in Cushing, Oklahoma are falling to a point where products like gasoline and diesel will not be able to be produced.  As an example, gasoline futures have risen far more than crude futures this week on that fear.  As to the metals markets, gold briefly touched $2600/oz yesterday immediately in the wake of the FOMC but sold off hard afterwards.  This morning, however, it is back pushing up to that level again and the entire metals complex is rising nicely.

Finally, the dollar, has been a whipsaw of late.  Post the FOMC, it fell sharply across the board, and then into yesterday’s close it rebounded to close higher on the day.  However, this morning it has given back all those late gains and then some, and is now sitting at its lowest level, at least per the DXY, since April 2022.  This morning, in the G10, we are seeing many currencies rally between 0.5% (EUR) and 1.3% (NOK) vs the dollar and everywhere in between.  The one exception to that is the yen (-0.2%) which is biding its time ahead of the BOJ meeting.  The working assumption is that the BOJ will do nothing tonight, but now that the Fed has cut 50bps, and given Ueda-san’s history of actively trying to surprise markets to achieve outcomes he wants, we cannot rule out another rate hike in Japan.  Monday morning, USDJPY fell below 140 for the first time in 18 months.  My take is Ueda-san is quite comfortable with it heading back to the 130 level, if not the 120 level.  If he were to surprise markets and raise the base rate by even 10bps tonight, I think we would see a sea change in sentiment and a much lower dollar.  And given inflation in Japan seems to have stalled at 2.8%, well above their 2.0% target, he has a built-in excuse.

Too, watch the CNY (+0.45%) as it is now trading at its highest level (weakest dollar) in more than a year, and is approaching the big, round number of 7.00.  the linkage between JPY and CNY is tight as they constantly compete in markets, especially now in autos and electronics.  If the Fed is really going to cut as much as markets are pricing, both these currencies should strengthen much further.

It is almost anticlimactic to discuss the data today but here goes.  First, the BOE left rates on hold, as expected and the market impact was limited.  Expectations are they will cut next in November.  As to data, we see Initial (exp 230K) and Continuing (1850K) Claims, Philly Fed (-1.0) and Existing Home Sales (3.90M).  None of that is likely to change any views.  Prior to the BOJ meeting, at 7:30 this evening we see Japanese CPI, which may change views there.

For now, the dollar is very likely to remain on its back foot as enthusiasm builds for multiple rate cuts by the Fed going forward.  However, if the data continues to impress like it has lately, that enthusiasm will need to be tempered.

Good luck

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