Tag Archives: #JPY

Fearmongers Now Say

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A question that’s going around
Is where will the buyers be found
For all the new debt
That nations are set
To issue as budgets compound
 
As well, the fearmongers now say
A crisis is coming our way
If voters elect
The folks who reject
The status quo finance cliché

 

As markets return from yesterday’s US holiday, activity remains somewhere between muted and ordinary in most markets.  At times like these, it is interesting to take note of the tone of the articles in financial journals, whether the WSJ, Bloomberg or the New York Times, as they are the place where I find politics is inserted into the discussion.  

For instance, there have been several articles regarding the pending French election and the market’s concern about a victory by Marine Le Pen on the right.  The thesis seems to be if her RN party wins and takes over parliament, that her plans will result in a collapse in French finances based on the promises she has made throughout the campaign.  There are many analogies to what occurred in October 2022 in the UK, when the newly elected PM, Liz Truss, put forth a program of unfunded spending and the Gilt market fell sharply.  You may recall the result was that the BOE had to step in to buy Gilts even though at that time, they had just begun to sell them to reduce the size of their balance sheet. 

Of course, what gets far less press is the fact that UK insurance companies had levered up their balance sheets because of ZIRP as they tried to earn a sufficient return to match their pension liabilities and when the BOE started tightening policy, those companies were already in trouble.  Certainly, the market response accelerated the problem, but even without Truss, as the BOE kept raising rates, the outcome would likely have been the same.  However, it was politically expedient for the press to blame Truss and the Tories.

Now consider the US, where government profligacy is truly breathtaking as the current government is borrowing $1 trillion every 100 days or so.  Certainly, this topic has been reported, although it is difficult to find a discussion from the mainstream media that makes the leap that spending as much as is currently happening is the underlying cause.  (Yes, there are many stories of this from conservative media as well as on Twitter, but not on the CBS Nightly News.)  However, those same mainstream sources threaten everyone that in the event Donald Trump is elected, it will spell the end of the bond market and the US economy because of his policy proposals of tax cuts and supporting energy growth.

It is commentary of this nature that, in my opinion, has reduced the value of mainstream media via the constant politicization of every subject.  This is also why alternate media sources, like the numerous excellent articles on Substack, have become so popular and widely read.  Analysts who are not beholden to a corporate policy and politics are able to give much more accurate and politically unbiased views.

At any rate, there was much concern ahead of this morning’s French bond auctions (they issued €10.5 billion across various maturities from 3-8 years) as this was the first attempt to sell debt since President Macron called his snap election after his European Parliament electoral disaster.  However, happily for all involved (except the doom mongers) things went just fine with a solid bid-to-cover ratio and a modest decline in market spreads.  All told, while nobody knows the future, it is difficult to expect that a Le Pen government will be any worse financially than the current Macron led government.  After all, France has just been warned by the European Commission that it must reduce its budget deficit from the current 5.5% to 3.0% as per the Maastricht Treaty, and there is no “far-right” influence on the current government.

Enough politics, let’s recap the overnight markets.  Asian markets were mixed as the Nikkei edged higher (+0.15%) but the Hang Seng (-0.5%) gave back some of yesterday’s spectacular rally.  The laggard, though, was mainland China (-0.7%).  In Europe this morning, despite the fears of a Le Pen victory, the CAC (+1.0%) is the leading gainer as either we are seeing a trading bounce after a terrible week last week, or maybe the initial hysteria is being seen for what it was, unfounded hysteria.  Meanwhile, as the BOE just left rates on hold, as widely expected, the FTSE 100 has bounced about 0.3% in the first 15 minutes since the announcement and is up 0.5% on the day.  Overall, Europe is having a good day with the DAX and virtually all markets ahead.  US futures, too, are firmer this morning, with both the NASDAQ and S&P higher by 0.5% or more although the Dow continues to lag.

In the bond market, Treasury yields have backed up 2bps this morning but the picture in Europe is much more mixed.  German yields are higher by 3bps, but UK yields have slipped a similar amount.  In fact, looking at all the nations there, it appears that there is slightly less concern over Europe as a whole as French yields are only higher by 1bp and Italian yields have slipped 1bp, thus narrowing the spread with Germany overall.  Turning to Asia, JGB yields rose 2bps, following USDJPY higher, or perhaps anticipating a higher inflation reading tonight.

In the commodity markets, crude oil (+0.15%) is edging higher this morning, although it slipped in futures trading yesterday (the only market open).  This morning brings the inventory data which is anticipating a draw of 2M barrels.  Metals markets are solid again with gold (+0.4%), silver (+1.7
%) and copper (+0.2%) all continuing their rebound from the dramatic decline two weeks ago.

Finally, the dollar is stronger this morning against most of its counterparts, notably the JPY (-0.3%) and CNY (-0.1%).  I highlight these because the yen story remains critical to the global financial markets, and it appears that Japanese investors are beginning to turn back toward Treasuries and away from JGBs supporting the moves in those markets and USDJPY.  

Regarding China, last night the PBOC fixing was at 7.1192, its highest level since November 2023 and the largest move (33 pips) in weeks.  It appears that there are numerous changes being considered and ongoing in China regarding its domestic bond market (the PBOC is looking to become more involved to support liquidity) as well as the overall monetary structure (there is talk that they will be adjusting the framework of three different rates to something more akin to what Western central banks use with a single policy rate).  In the end, given the ongoing lackluster performance of the Chinese economy, a weaker CNY remains my base case and while it may be gradual, it seems it is the PBOC’s view as well.  The onshore market continues to trade at the edge of the 2% allowable band and the offshore market is a further 35bps higher (weaker CNY) than that.  

Elsewhere, ZAR (-0.85%) which has had a good run on the back of the ultimate electoral outcome, seems to be afflicted with some profit-taking and then most of the rest of the currencies are softer vs. the dollar by about 0.2%.  One last exception is CHF (-0.65%) which has slipped after the SNB cut their policy rate by 25bps, as expected, to 1.25%.

On the data calendar today, we see Initial (exp 235K) and Continuing (1810K) Claims, Philly Fed (5.0), Housing Starts (1.37M) and Building Permits (1.45M), all at 8:30.  Then, later this afternoon, Thomas Barkin of the Richmond Fed will undoubtedly remind us that things are moving in the right direction, but patience is required.

Summing it all up, while I didn’t specifically mention it, the key thing in financial markets continues to be Nvidia, which is much higher in pre-market trading again, and apparently is the driver of everything.  However, traditional relationships have been under strain as although it appears to be a risk-on day, both the dollar and precious metals are firmer.  Overall, nothing has changed my view that the Fed is going to remain firm for now, and that (too) much credence will be assigned to next Friday’s PCE data.  But such is the state of the world.

Good luck

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Ain’t

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Ueda explained
Buying bonds is still our bag
But buying yen ain’t

 

The last of the major central banks met last night as the BOJ held their policy meeting.  As expected, they left the policy rate unchanged between 0.00% and 0.10%.  However, based on the April meeting comments, as well as a “leak” in the Nikkei news, the market was also anticipating guidance on the BOJ’s efforts to begin reducing its balance sheet.  Remember, they still buy a lot of JGBs every month, so as part of the overall normalization process, expectations were high they would indicate how much they would be reducing that quantity.

Oops!  Here is their statement on their continuing QQE program [emphasis added]:

Regarding purchases of Japanese government bonds (JGBs), CP, and corporate bonds for the intermeeting period, the Bank will conduct the purchases in accordance with the decisions made at the March 2024 MPM. The Bank decided, by an 8-1 majority vote, that it would reduce its purchase amount of JGBs thereafter to ensure that long-term interest rates would be formed more freely in financial markets. It will collect views from market participants and, at the next MPM, will decide on a detailed plan for the reduction of its purchase amount during the next one to two years or so. 

In other words, they have delayed the onset of their version of QT by another month and based on the nature of their process, where they pre-announce the bond buying schedule on a quarterly basis, it is entirely possible that the delay could be a bit longer.  You will not be surprised to know the yen fell sharply on the news, as per the below chart.

Source: tradingeconomics.com

In fact, it traded to its weakest (dollar’s highest) level since just prior to the intervention events in April.  However, as you can also see, that move was reversed during the press conference as it became clear to Ueda-san that his delay did not result in a desired outcome.  The issue was the belief that the BOJ cannot make decisions on interest rates and QT simultaneously (although for the life of me, I cannot figure out why that was the belief), and so Ueda addressed it directly, “We will present a concrete plan for long-term JGB buying operations in July. Of course, it’s possible for us to raise the short-term interest rate and adjust the degree of monetary easing at the same time depending on the information available then on the economy and prices.”

In the end, the only beneficiary of this was the Japanese stock market, which managed a modest rally of 0.25%.  Certainly, this did not help either Ueda’s or the BOJ’s credibility that they are prepared to normalize policy, and it also left the entirety of currency policy in the lap of the MOF.  The problem for Ueda-san is that until the Fed decides it is time to start cutting interest rates, a prospect which seems further and further distant, the yen is very likely to remain under pressure.  I am beginning to suspect that despite Ueda’s stated goal of normalizing monetary policy, the reality is that, just like every other central banker today, his bias is toward dovishness, and he cannot let go.  I fear the risk is that the yen could weaken further from here rather than it will strengthen dramatically, at least until there are real policy changes.  FYI, JGB yields closed 3bps lower after the drama.

Away from that, the overnight session informed us that Chinese economic activity appears to be slowing, at least based on their loan growth, or lack thereof.  Loans fell, as did the pace of M2 Money Supply and Vehicle Sales.  While none of these are typically seen as major data releases, when combined, it seems to point to slowing domestic activity.  The upshot is a growing belief that the PBOC will ease policy further thus supporting Chinese equities (+0.45%) and maintaining pressure on the renminbi which continues to trade at the limit of its 2% band vs. the daily CFETS fixing.

As to Europe, it is becoming clearer by the day that investors around the world have begun to grow concerned over what the future of Europe is going to look like.  Despite the ECB having cut their interest rates last week, the results of the European Parliament elections continue to be the hot topic and we are seeing European equity markets slide across the board, with France (-2.5% today, -5.8% this week) leading the way lower as President Macron’s Renaissance Party looks set to be decimated in the snap elections at the end of the month.  But the entire continent is under pressure with Italy (-2.8% today, -5.7% this week) showing similar losses and the other major nations coming in only slightly better (Germany -2.75% this week, Spain -3.9% this week).  You will not be surprised to know that the euro (-0.4%) is also under pressure this morning, extending its losses to -1.0% this week with thoughts it can now test the lows seen last October.

There is a great irony that the G7 is meeting this week as so many of the leaders there, Italy’s Giorgia Meloni and Japan’s Kishida-san excepted, looks highly likely to be out of office within a year.  Macron, Olaf Sholz, Justin Trudeau, President Biden and Rishi Sunak are all far behind in the polls.  One theory is that the blowback from the draconian policies put in place during the pandemic restricting freedom of movement and speech within these nations, as well as the ongoing immigration crisis, which is just as acute in Europe and the UK as it is in the US, has turned the tide on the belief that globalization is the best way forward.  

Earlier this year I forecast that there would be very severe repercussions during the multitude of elections that have already taken place and are yet to come.  Certainly, nothing has occurred that has changed that opinion, and in fact, I have a feeling the changes are going to be larger than I thought.  

The reason this matters is made clear by today’s market price action.  If the world is turning away from globalization, with a corresponding reduction in trade, equity markets which have been a huge beneficiary of this process (or at least large companies have directly) are very likely to come under further pressure.  As well, fiscal policies are going to put more pressure on central banks as the natural response of politicians is to spend more money when times are tough, and we could see some major realignments in market behaviors.   This will lead to ongoing inflationary pressures, thus weaker bond prices and higher yields, weaker equity prices, much strong commodity prices and the dollar, ironically, likely to do well as it retains its haven status.  Certainly, the euro is going to be under pressure, but very likely so will many other currencies.  This is a medium to long-term concept, certainly not something that is going to play out day-to-day right now, but I remain firmly in the camp that many changes are coming.

As to the rest of the markets overnight, yields are falling everywhere (Treasuries -5bps, Gilts -9bps, Bunds -12bps, OATs -6bps, Italian BTPs -1bp) as investors are seeking havens and for now, bonds seem better than stocks.  You will also notice that the spread between Bunds and other European sovereigns is widening as there is clear discernment about individual nation risk.  This is not a sign that everything is well.

Maintaining the risk-off thesis, gold (+1.25%) and silver (+1.00%) are rallying despite a much stronger dollar this morning and we are also seeing some strength in oil (+0.2%).

As to the dollar, it is stronger vs. almost every one of its counterparts this morning, most by 0.3% or more with CE4 currencies really under pressure (PLN -1.0%, HUF -0.8%).  However, there are two currencies that are bucking this trend, CHF (+0.25%) which is showing its haven characteristics and ZAR (+0.5%) where the market is responding to the news that the ANC has put together a coalition and that President Ramaphosa is going to remain in office.

Yesterday’s PPI data showed softness similar to the CPI on Wednesday but more surprisingly, the Initial Claims number jumped to 242K, its highest print since August 12, 2023, and a big surprise to one and all.  The combination of data certainly added to yesterday’s feel that growth and inflation were ebbing.  This morning, we get the Michigan Sentiment (exp 72.0) and then a couple of Fed speakers (Goolsbee and Cook) later on during the day.

I should note that equity futures are all in the red this morning, with the Dow continuing to lag the other markets, probably not a great signal of future strength.  Arguably, part of today’s price movement is some profit taking given US equity markets have rallied this week and month.  But do not discount the bigger issues discussed above as I believe they will be with us for quite a while to come and put increasing pressure on risk assets with support for havens.  As such, I think you have to like the dollar given both the geopolitical issues and the positive carry.

Good luck and good weekend

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Not Soaring

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It seems that prices
In Japan are not soaring
Like the hawks would want

 

Japanese inflation data last night showed a continued decline as the Core rate fell to 2.2%, and the so-called super core rate slipped to 2.4%, its lowest level since October 2022.  As you can see in the super core chart below, the trend seems clearly to be downward although the current level remains far above inflation rates for most of the past 30 years.

Source: tradingeconomics.com

The irony here is that were this the chart of the inflation rate in any other G7 nation, the central bank would be crowing about how successful they had been at slaying the inflation dragon.  Alas, as the chart demonstrates, Japan’s dragon was a different species, and one that I’m pretty sure the 122 odd million people there were very comfortable having as a “pet”.  After all, I have never met a consumer who was seeking prices to rise before they bought something, have you?

From a market perspective, the continued decline in inflation rates calls into question just how much further Japanese interest rates need to rise in order to achieve the BOJ’s goals.  Again, remember the BOJ’s goals for the past decade has been to RAISE the inflation rate to 2% and their tactic has been to create the largest QE program in the world such that they now own more than 50% of the outstanding Japanese government debt across all maturities.  If inflation continues to decline back to, and below, 2%, while I’m confident the general population there will have no objections, Ueda-san may find himself in a difficult position.  

Arguably, if higher inflation is the goal (and politically that seems nuts) then the most effective tool the nation has is to allow the yen to continue to weaken and import inflation.  I continue to believe that this will be the process going forward, and while very sharp and quick declines will be addressed, a slow erosion will be just fine.  Absent a major change in US monetary policy to something much easier, I still don’t see a case for a much stronger yen.  However, as a hedger, I would continue to consider options to manage the risk of any further bouts of intervention.

While many are still of the view
That rate cuts are long overdue
What yesterday showed
Is growth hasn’t slowed
So, Jay and his friends won’t come through

Back home in the US, yesterday’s data releases did nothing to encourage the large contingent of people who are desperate looking for a rate cut before too long.  While New Home Sales were certainly lousy, falling from the previous month’s downwardly revised level, and the Chicago Fed’s National Activity Index was also quite soft, indicating economic activity had slowed last month, the Flash PMI data got all the attention with both Manufacturing (50.9) and Services (54.8) rising sharply, an indicator that there is still life in the economy yet.  The result was that we saw US yields rise (10yr +7bps), the dollar strengthen, and equity markets give back their early, Nvidia inspired, gains to close lower on the day.  While equity futures are rebounding slightly this morning, confidence that a rate cut is coming soon has clearly been shaken.

Adding to the gloom was a reiteration by Atlanta Fed president Bostic that it is going to take a lot longer for rates to impact inflation than in the past.  In a discussion with Stanford Business School students, he focused on the fact that so many people locked in low mortgage rates during the pandemic and recognized, “the sensitivity to our policy rate — the constraint and the degree of constraint that we’re going to put on is going to be a lot less.” For those reasons, Bostic said, “I would expect this to last a lot longer than you might expect.”  This discussion has been gaining more adherents as the punditry is grudgingly beginning to understand that their previous models are not necessarily relevant given all the changes the pandemic wrought.  Summing up, there continues to be no indication, especially in the wake of the more hawkish tone of the Minutes on Wednesday, that the Fed is going to cut rates soon.

So, with the new slightly less perfect world now coming into view, let’s take a look at market behavior overnight.  Yesterday’s US equity slide was continued everywhere else around the globe with Asian markets (Nikkei -1.2%, Hang Seng -1.4%, CSI 300 -1.1%) under uniform pressure and European bourses, this morning, also in the red, but by a lesser -0.4% or so across the board.  For many of these markets (China excepted) they have recently run to all-time highs, or at least very long-term highs, so it should be no surprise that there is some consolidation.  There is a G7 FinMin meeting this weekend and the comments we have heard so far indicate that the ECB is on track to cut rates next month, but there are no promises for further cuts.  Net, it seems clear that as much as most central banks want to cut interest rates, they are still terrified that inflation will return and then they have an even bigger problem.

In the bond market, it has been a very quiet session after yesterday’s yield rally with Treasury yields unchanged this morning and European sovereign yields similarly unmoved.  Even JGB yields are flat on the day as it appears bond traders and investors started their long weekend a day early.  Remember, not only Is Monday a US holiday, but it is a UK holiday as well, so there will be very little activity then.

In the commodity markets, oil prices remain under pressure and are drifting back toward the low end of their recent trading range.  One story I saw was that there is a renewed effort to get the ceasefire talks in Gaza back on track, but that seems tenuous at best.  Given the strength seen in the PMI data across Europe and the US, it would seem the demand side of the story would improve things here, but not yet.  As to the metals markets, after a serious two-day correction, this morning is bringing a respite with both gold and silver prices bouncing while copper prices remain unchanged.  I remain of the view that the longer-term picture for metals is still intact, so day-to-day trading activity should be taken with a grain of salt.  Ultimately, I continue to believe that the central banking community is going to cut rates before inflation is controlled and that will lead to much bigger problems going forward along with much higher commodity prices.

Finally, the dollar, which rallied alongside yields yesterday, is giving back some of those gains, albeit not very many of them.  The commodity currencies (AUD +0.2%, NZD +0.2%, ZAR +0.4%, NOK +0.6%) are the leading gainers this morning although the euro is also firmer as is the pound despite much weaker than expected UK Retail Sales data.  Alas, the poor yen can find no support and continues to drift a bit lower, with the dollar back above 157 this morning and keep an eye on CNY, which is now back above 7.25 for the first time in a month after Chinese FDI data showed larger than expected -27.9% decline.  It seems that President Xi has successfully scared off most foreign investment which is very likely a long-term problem for the nation.  While it has been very gradual, the fixing rate continues to weaken each day as it appears the PBOC is finally accepting the need for a weaker yuan.

On the data front, we see Durable Goods (exp -0.8%, +0.1% ex-Transports) and then Michigan Confidence (67.5) which continues to be a problem for President Biden’s reelection campaign as the people in this country are just not happy.  We also hear from Governor Waller this morning.  It will be very interesting to hear him as my anecdotal take is that the regional presidents have been much more hawkish than the governors and Chairman Powell, so if he leans dovish, it may demonstrate a bigger split between factions on the board than we have been led to believe.  We shall see.

Net, it remains very difficult for me to make a case for the dollar to weaken substantially at this time.  While it may not power ahead, a decline seems unlikely for as long as higher for longer remains the mantra.

Good luck and good long weekend

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There will be no poetry on Monday due to the holiday.

Losing His Doubt

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The jury is no longer out
And Jay may be losing his doubt
That ‘flation is slowing
So, bulls are now crowing
Let’s end, soon, this rate-cutting drought!

I am old enough to remember when Chairman Powell explained that he did not have confidence inflation was falling back to the target level and so maintaining the current, somewhat restrictive, policy stance would be appropriate for longer than had been originally anticipated.  In other words, higher for longer was still the operating thesis.  That is soooo two days ago!  Apparently, when CPI prints at 0.3% M/M for both headline and core with the Y/Y readings at 3.4% and 3.6% respectively, that means the inflation fight is won.  Now, I will grant that the headline monthly number was 0.1% below expectations, but everything else was right on the money.  On the surface, it is not clear to me that this signaled the all-clear for the end of inflation.  As my good friend Mike Ashton (@inflation_guy) said in his write-up yesterday, “the sticky stuff is not yet unstuck.”  But the market saw this news and combined with a clearly weaker than expected Retail Sales print (0.0%) and weaker than expected Empire State Manufacturing print (-15.6) and was off to the races.

So, risk is back in vogue and bond yields are tumbling.  Hooray!  This is the perfect encapsulation of how the actual data may not mean very much per se, but the framework of how investors and traders were positioned and anticipating the data is the key driving force.  So, not only did equity markets in the US rally 1% or more, but Treasury yields fell 10bps in the 10yr and 8bps in the 2yr.  Meanwhile, September is now the odds-on favorite for the first interest rate cut, politics be damned.

At this point, the question becomes will the Fed respond to this small sample of data in the same way the market has?  The first comments from Fed speakers seemed more circumspect than the market opinions.  Chicago Fed president Goolsbee, who was not on the calendar, said the following in an interview, “[inflation showed] some improvement from last time, pretty much what we expected, but still higher than we were running for the second half of last year, so there’s still room for improvement.”  Meanwhile, Minneapolis Fed president Kashkari explained, “The biggest uncertainty in my mind is how much downward pressure is monetary policy putting on the economy? That’s an unknown. And that tells me we probably need to sit here for a while longer until we figure out where underlying inflation is headed before we jump to any conclusions.”

To my eye, there is no indication that the Fed has changed their tune, at least not yet.  If we continue to see data that indicates the long-awaited recession is actually closing in, I expect that we will begin to hear more of a consensus view regarding the initial rate cuts other than the current higher for longer stance.  Of course, if a recession is making an appearance, my sense is that will not be a huge benefit for risk assets either, but what do I know, I’m just a poet. Ok, I don’t think we need to spend any more time on that subject for today so let’s see what is happening elsewhere. 

In Japan, the economic news remains less positive than the Kishida administration would like to see.  Last night, Q1 GDP was released at a worse than expected -0.5%, its second negative print in the past three quarters with Q4 a ‘robust’ 0.0% in between.  While not technically a recession, the situation there certainly does not have a positive feel.  Making things even worse, of course, is the fact that inflation remains higher than their target of 2%, although it has been slowly drifting lower over the past year. 

The interesting thing about this situation is that the BOJ does not have a dual mandate regarding prices and employment; but is focused only on price stability.  However, if economic activity continues to slow there, can Ueda-san really tighten policy further?  And what of the yen?  It has drifted higher (dollar lower) alongside the dollar’s broad down move on the back of the recent decline in US yields.  However, it feels to me like Ueda’s path to tighter policy just got a lot narrower if economic activity in Japan is going to remain so lackluster.  Many pundits have decided that the yen’s weakness reached its peak ahead of the recent bout of intervention two weeks ago.  I am not so sure.  Absent a significant slowdown in the US, I’m sensing that the policy divergence may even widen going forward, not narrow, and the yen would not respond well to that outcome.

With all that in mind, let’s survey the overnight session to see what else is happening.  Asian equity markets followed the US rally with solid gains across the board.  Clearly, the prospect of lower US rates was seen as a positive.  However, the same is not true in Europe, where bourses are all lower this morning albeit not dramatically so.  Declines of between -0.25% and -0.5% are universal.  My take is that this is a bout of profit-taking as to much less fanfare than US markets, many European bourses have just touched all-time high levels, so a little pullback should be no surprise.  This is especially true given there was neither data nor commentary that would indicate something in Europe has changed.  The situation remains slow growth, slowing inflation and rate cuts next month.  Lastly, US futures are essentially unchanged at this hour (6:45) as traders await more data and, perhaps more importantly, 4 more Fed speakers.  I think the trading community is looking for Fed confirmation of their response to the CPI data yesterday which, as mentioned above, was not forthcoming.

Bond markets, which all rallied yesterday following the Treasury move, are little changed this morning with virtually no movement in the US or Europe.  Overnight, JGB yields slipped 3bps in the wake of the US data, but this market is entirely focused on the US economy and the Treasury marker for its lead.

In the commodity markets, oil is a touch softer this morning, but remains firmly toward the middle of its recent trading range as conflicting reports regarding expected demand continue to confuse practitioners.  FWIW any report that indicates demand for oil is going to decrease makes no sense to me given how many people on this earth are energy poor and will do as much as they can to get hold of energy.  But that’s just my view.  The IEA continues to forecast reductions in demand because they are desperately pushing their transition thesis because their models are old and unreliable.  As to metals markets, yesterday saw a major rally in gold and silver, with the latter making a push for $30/oz for the first time since 2013.  Copper, however, may have seen a blow-off top yesterday as it has fallen back sharply from its peak and is now back below $5.00/lb.  In truth, the demand story here remains attractive, but the price action did seem to get out of hand there.

Finally, the dollar, which sold off hard yesterday on the CPI and Retail Sales news is bouncing slightly this morning.  Those sharply lower yields in the US, even though they were matched by Europe, were a signal to sell dollars across the board.  Thus, this morning’s 0.2% ish bounce should not be that surprising.  It is in this segment of the market that I believe the opportunity for the biggest structural changes exist.  After all, the dollar’s strength over the past 3 ½ years has been built on the Fed being the most hawkish central bank around as they belatedly fought inflation.  While they have made clear they want to start to cut interest rates, the data has not been supportive of that move.  If yesterday’s data is the beginning of a more consistent slowdown in the US, those rate cuts may be coming sooner than currently priced and regardless of what happens to risk assets, the dollar would suffer.  We shall see.

On the calendar today we have a bunch more data and four more Fed speakers (Barr, Harker, Mester and Bostic).  The data brings the weekly Initial (exp 220K) and Continuing (1780K) Claims, Housing Starts (1.42M), Building Permits (1.48M) and Philly Fed (8.0) all at 8:30 then IP (0.1%) and Capacity Utilization (78.4%) at 9:15.  As Chairman Powell has repeatedly explained, he and his colleagues look at the totality of the data, so another wave of soft numbers here would likely get risk asset markets excited.  However, listening to what they have all continued to say informs me that the Fed is not nearly ready to cut rates.  September remains the odds-on favorite for the first cut, but I still suspect that they could be here all year long.  If I am right about that, the dollar will retain its bid overall.

Good luck

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Less Stout

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Suzuki-san and
Ueda-san are clearly
Flocking together

Events continue to unfold in Japan that appear to point to a more concerted effort to address the still weakening yen.  The problem, thus far, is that it hasn’t yet really worked, absent the direct intervention we saw at the beginning of the month.  For instance, last night, 10-yr JGB yields rose to their highest level since June 2012, trading up to 0.969% and finally looking like they are going to breech that 1.00% level that had so much focus back in October.  At the same time, the two key players in this drama, FinMin Suzuki and BOJ Governor Ueda are actively speaking to each other as they try to coordinate policy.  The problem for Suzuki-san is that Q1 GDP fell back into negative territory again, thus bringing two of the past three quarters down below zero.  While that is not the technical definition of a recession, it certainly doesn’t look very good.

And yet, the yen remains under pressure, slipping another 0.1% last night, and as can be seen from the chart below, continuing its steady decline (dollar rise) from the levels seen immediately in the wake of the intervention.

Source: tradingeconomics.com

Another interesting thing is that our esteemed Treasury Secretary, Janet Yellen, seems to be concerned over any intervention carried out by the Japanese, at least based on comments she recently made in a Bloomberg interview, “It’s possible for countries to intervene.  It doesn’t always work without more fundamental changes in policy, but we believe that it should happen very rarely and be communicated to trade partners if it does.” 

There have been several analysts of late who have made the case that Yellen’s trip to Asia last month included a ‘secret’ Plaza Accord II type arrangement, where there was widespread agreement that the dollar needed to come down in value.  First off, secrets like that are extremely difficult to keep secret, and history shows that doesn’t happen very frequently.  But more importantly, based on the fact that inflation is one of the biggest problems that her boss has leading up to the election, a weaker dollar is the last thing she would want.  I suspect if we continue to see the yen decline, the BOJ/MOF will be back at the intervention game again, but the US will not be helping.  Keep in mind, though, Japanese yields.  If the BOJ is truly going to allow yields to rise in Japan, that would have a significant impact on the yen’s value in the FX markets.  While 1.00% is a big round number, I think we will need to see the BOJ demonstrate a more aggressive stance overall…or we need to see the data turn softer in the US to allow the Fed to get on with their much-desired rate cuts.  We will need to watch this closely going forward.

While everyone’s waiting to see
How high CPI just might be
One cannot rule out
An outcome less stout
Where bond and stock bulls are set free

Which brings us to the inflation story.  By this time, everyone is aware that tomorrow’s CPI data is seen as a critical piece of the puzzle.  I continue to read coherent arguments on both sides of the debate regarding the trend going forward.  (Let’s face it, the error bars are far too wide to be confident in a specific forecast.)  For the inflationistas, they continue to look at things like the housing market, which while frequently expected to see declining price pressures, has maintained an upward trend for the past several years.  As well, things like the dramatic rise in certain commodity prices (coffee comes to mind) and the substantial rise in the price of insurance (something of which I speak from personal experience!), there is ample evidence that prices continue to climb. 

Part of this puzzle may be the result of the fact that companies continue to successfully raise prices, or at least had been doing so for the past two years, as evidenced by the continued strong earnings, and more importantly, still high gross margins they are able to achieve.  So, as input prices have risen, they have passed those costs along to the consumer quite successfully.  Now, the comments from Starbucks and McDonalds at their earnings reports indicating business is slowing down and attributing that slowdown to rising prices may well be a harbinger that companies have lost the ability to keep this up.  But two companies, even large ones, are not nearly the whole economy.  As well, much has been made, lately, of the K-shaped economy, where the haves continue to benefit from the rise in asset prices and are far less impacted by rising prices as they can afford them.  This has led to continued strong demand for luxury goods, which while a smaller sector of the economy, remain highly visible. Meanwhile, the less fortunate lower 90% of the population find themselves struggling to make ends meet as real wages remain stagnant and there continues to be a switch from full-time to part-time employment ongoing as companies adjust their staffing needs.  PS, those part time jobs don’t pay as well and generally don’t have benefits, so any price increases are very tough to swallow.  In the end, it appears that housing, insurance services and food remain in upward price trends.

On the flipside, there are many who see that while Q1’s inflation data was sticky on the high side, things should begin to improve going forward.  They point to things like M2, which has fallen dramatically over the past two years, although has recently inflected higher again.  However, the argument is that the lag between the movement in M2 and inflation is somewhere in the 16-24-month period, and we are now due to see prices decline.  In addition, they point to things like loan impairments and credit card delinquencies rising as signs that companies have lost their pricing power and prices will reflect that by slowing their ascent.

Now, today we see the PPI, which may give clues as to tomorrow’s outcome and the following are the median expectations:  headline 0.3% M/M, 2.2% Y/Y; core 0.2% M/M, 2.4% Y/Y.  Looking at the chart, it certainly appears that this statistic has bottomed out just like CPI.

Source: tradingeconomics.com

But here’s the thing…I have a feeling that regardless of the outcome, the market is going to rally in both stocks and bonds.  Certainly, if it is a softer than forecast number, the rate cut narrative is going to be going gangbusters and stocks will rocket while yields fall.  If it is on the money, my sense is the market is still in the camp that despite what we continue to hear, especially with Powell having removed the possibility of a rate hike, that the view will turn to rate cuts are coming as the Fed’s underlying dovishness will prevail.  But if the numbers are hot, while the initial reaction will almost certainly be a decline in risk asset prices, I have a feeling it will be short-lived.  Positioning is not overly long here, at least according to the fear/greed indicators, and the theme that the administration will do all it can to get re-elected, meaning lots more fiscal support, is going to work in favor of risk assets.  One other thing, if there is some trouble in the bond market, the one thing we know for sure is that Powell will come to the rescue and support the whole structure.

Net, while the timing of each outcome may differ, I sense the end result will be the same.  As to the dollar, I remain in the camp that international investors will continue to buy dollars to buy the S&P.  As well, given it seems very clear that both the ECB and BOE are going to cut rates in June while the Fed remains a much lower probability to do so, that should prevent any sharp dollar decline, although it may not push it any higher.

Overnight, basically nothing happened as everybody is holding their collective breath for tomorrow.  Maybe today will be a harbinger, but I expect a generally slow session overall absent a HUGE surprise in PPI.

Good luck

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Towards the Stars

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As the yen declines
Pressure on the BOJ
Climbs up towards the stars

 

Intervention in the currency markets has a long and undistinguished history.  At least that is true for nations that have open capital accounts.  In fact, a key reason that countries impose and maintain capital account restrictions is to avoid the situation of having their currency collapse when the locals fear future loss of purchasing power, i.e. inflation is rising. While there have been situations where a central bank has been able to prevent a significant movement in the past, it has almost always been in an effort to prevent too much currency strength, never weakness.  

A great example is Switzerland in January 2015.  As you can see from the chart below of the EURCHF cross, Switzerland was explicitly targeting a level, 1.20, in the cross as the strongest the Swiss franc could trade (lower numbers indicate a stronger CHF).  This was in an effort to support the export sectors of the economy during a period shortly after the Eurozone crisis when Europeans were quite keen to convert their funds to Swiss francs as a more effective store of value.  

Source: tradingeconommics.com

The upshot was that the Swiss National Bank wound up effectively printing and selling hundreds of billions of francs, receiving dollars and euros and then investing those proceeds into the US stock market.  At one point, they were the largest shareholder in Apple!  But even in this case, where you would expect a nation could prevent their currency from rising too far or too fast, the process overwhelmed the SNB and one day in January 2015 they simply said, enough.  That 25% appreciation in the franc took about 15 minutes to accomplish and as evidenced by today’s exchange rate of 0.9768, it has never been unwound.

And that’s what happened to a central bank that is trying to prevent its own currency from strengthening.  For central banks to prevent weakness is an entirely different story and a MUCH harder task.  As I have repeatedly explained, the only way to change the trajectory of a currency is to alter monetary policy.  At this time, given the Fed’s commitment to higher for even longer, the only way Japan can prevent more substantial yen weakness is for the BOJ to tighten policy even further.  This is made evident in the below chart of the price action in USDJPY for the past month.  In it, you can see when it spiked above 160 on April 28th, and the subsequent intervention that day and then two days later.  

Source: tradingeconomics.com

However, in both cases, despite spending upwards of $60 billion intervening, the yen immediately resumed its downtrend (dollar uptrend) and this morning it is back above 155.  It is this price action that appears to have finally awoken Ueda-san as last night, in an appearance at the Japanese parliament, he explained the following, “Foreign exchange rates make a significant impact on the economy and inflation.  Depending on those moves, a monetary policy response might be needed.”  Ya think!  Ueda-san was followed in parliament by FinMin Suzuki who repeated something he said last week, “Since Japan relies on overseas markets for food and energy, and a large portion of its transactions are denominated in dollars, a weaker yen could raise prices of imported goods.”  While those comments are self-evident, the fact that he needed to repeat them is indicative of the idea that Japan is getting increasingly uncomfortable with the current yen exchange rate.

So, will Ueda-san raise rates at the next meeting in June?  Will he alter their QQE policy and explicitly explain they will no longer be buying JGBs?  Certainly, the market is on edge right now given the two bouts of intervention from last week, but not so on edge that it isn’t continuing to sell the currency and capture the carry.  At this point, you cannot rule out a third wave of intervention, and certainly we should expect more jawboning.  But in the end, if they are serious about the yen being too weak, Ueda-san will have to move.  At this point, I am not convinced, but the meeting is on June 14th, so there is plenty of time for things to become clearer.

And other than that, quite frankly, not much is going on.  So, let’s take a tour of markets to see how things stand this morning.

Yesterday’s equity markets in the US were tantamount to being unchanged across the board, at least that is true of the major indices.  There were certainly individual equities that moved.  In Asia, it was a mixed picture with both Japanese (Nikkei -1.6%) and Chinese (CSI 300 -0.8%) shares in the red, which dragged down HK shares.  But elsewhere in the region, we saw more gains than losses, albeit none of the movement was that large overall.  Meanwhile, in Europe, all the markets are looking robust this morning with gains ranging from 0.5% (DAX, FTSE 100) to 1.0% (CAC) and everywhere in between.  The Swedish Riksbank cut rates by 25bps, as anticipated this morning, and perhaps that has encouraged investors to believe the ECB is going to embark on a more significant easing campaign starting next month.  Certainly, the limited data we saw this morning, (German IP -0.4%, Spanish IP -1.2%, Italian Retail Sales 0.0%) are not indicative of an economy that is growing strongly.  Finally, US futures are just a touch lower, -0.2%, at this hour (7:15).

Despite the weakness in Eurozone data, and the absence of US data, yields are rebounding a bit this morning with Treasuries higher by 3bps and the entire European sovereign spectrum seeing yields rise by 3bps to 4bps.  It seems unlikely that the weak Eurozone data is the driver and I suspect that this movement is more a trading reaction based on the recent decline in yields.  After all, just one week ago, yields were more than 20 basis points higher, so a little rebound can be no surprise.

In the commodity markets, oil (-1.1%) is under pressure as rising inventories outweigh ongoing concerns over Israel’s Rafah initiative.  While the EIA data is generally considered the most important, yesterday’s API data showed a build of more than 500K barrels vs. expectations of a 1.4M barrel draw.  At the end of the day, this is still a supply/demand driven price, and if supply is more ample, prices will fall.  In the metals markets, precious metals continue to trade choppily around recent levels, but we are starting to see some weakness in the industrial space with both copper (-1.25%) and aluminum (-1.6%) under pressure this morning.  Certainly, if economic activity is starting to wane, these metals are likely to suffer.

Finally, in the FX markets, the dollar is continuing to rebound from its recent selloff, gaining against virtually all its counterparts, both EMG and G10.  SEK (-0.5%) is the biggest mover in the G10 after the rate cut, but JPY (-0.45%) is not far behind.  We are also seeing weakness in AUD (-0.4%) on the back of those metal declines.  As to the EMG bloc, ZAR (-0.7%) is the laggard there, also on the metals weakness, but we saw KRW (-0.5%) suffer overnight as well amidst the general dollar strength.

Once again, there is no US data on the calendar although we hear from three more Fed speakers, Boston’s Collins as well as governor’s Cook and Jefferson.  Yesterday, Mr Kashkari did not give us any new information, indicating that higher for longer still makes the most sense and even questioning the level of the neutral rate, implying it may be higher than previously thought.  But there have been no cracks in the current story that the Fed is not going to alter policy soon.

While day-to-day movements remain subject to many vagaries, the reality is that the trend in the dollar has been higher all year and as long as monetary policies around the world remain as currently priced, with the Fed the most hawkish of all, the dollar should grind higher over time.

Good luck

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Dull as Can Be

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While last week a great deal was learned
‘Bout how much the Fed is concerned
That prices won’t fall
Chair Powell’s clear call
Was higher for longer’s returned

And next week, we’ll see CPI
A critical piece of the pie
Is ‘flation still hot?
And if it is not
Will traders, more equities, buy?

But this week is dull as can be
With virtually nothing to see
No data of note
And no anecdote
About which the masses agree

There is precious little to discuss this morning.  The market is still generally in a good mood for risk assets on the back of the combination of the perceived Powell dovishness and the softer than expected NFP data which adds to the opinion that monetary policy going forward will loosen further.  And this week offers virtually no data at all, just the weekly Claims data and then Michigan Confidence on Friday.

Granted, we will hear from several Fed speakers, a process which got started yesterday when Richmond Fed president Barkin explained that, while hopeful inflation declines, he continues to believe that the current policy stance is “sufficiently restrictive.”  Meanwhile, NY Fed president Williams assured us that, eventually there will be rate cuts, that GDP would remain solid and that the Fed is looking at the “totality” of the economic data.  Given how frequently Chairman Powell used that word, totality, I have the feeling that at the end of the FOMC meeting last Wednesday, Powell reminded every speaker to use that phrase in their speeches.  I only say that because I would contend it is not a word used regularly by the population, even when it might be appropriate.

But did we actually learn anything new from these two?  I would argue we have not, nor is it likely that any of the other speakers lined up this week, starting with Kashkari today and followed by Governors Jefferson and Cook tomorrow, SF President Daly on Thursday and Governors Bowman and Barr along with Chicago president Goolsbee on Friday, will tell us anything new at all.

So, where does that leave us?  With no new data and a low probability of new Fed opinions to be revealed, this week has all the earmarks of a complete nothingburger.  Granted we hear from both the Swedish Riskbank (no change expected) and the BOE (no change expected) but given the lack of likely policy adjustment, markets will be trying to discern the subtleties of their comments.  And the one thing we all know extremely well is that markets know absolutely nothing about subtlety.  With this in mind, my expectations are that the current driving force, the underlying bullish thesis based on slowly easing monetary policies around the world, will continue to be the main driver of markets this week.  This is not to say that things are on autopilot, but until we see a new piece of information, range trading with a bias toward higher risk asset prices seems to be the most likely outcome.

This was generally what we saw overnight with most Asian markets performing well led by the Nikkei (+1.6%), catching up after the Golden Week holidays, but other than Hong Kong (-0.5%), the rest of the region was green.  Europe, too, is having a good session, with gains ranging from the CAC (+0.3%) to the FTSE 100 (+1.0%).  However, at this hour (7:20), US futures are essentially flat.

Bond markets are still feeling good about the Fed and weaker employment data with yields continuing to drift lower.  This morning, Treasuries have seen yields decline 3bps, while in Europe, continental sovereigns are seeing similar yield declines.  The big exception is the UK, where gilt yields are down 9bps this morning despite any news of note or commentary by BOE policymakers.  I think there is a growing anticipation that the BOE is going to pivot more dovish on Thursday which is driving this story.  Finally, with Japan back in session, JGB yields also declined 3bps as the yen’s recent strength (albeit not today where it has drifted lower by -0.2%) has allayed some market fears that the BOJ will need to be more aggressive in their policy tightening.

Commodities, which have had a terrific run are under pressure this morning, although given the absence of new information, this has all the hallmarks of a trading correction.  But oil (-0.4%) cannot gain any traction despite the fact that Israel is in the process of their long-awaited incursion into Rafah while ceasefire talks have faltered.  Metals, too, are under pressure across the board, but on the order of -0.4% for all of them.  Given the recent movement, this cannot be surprising (nothing goes up in a straight line) and I expect that we will see directionless price activity for the next several sessions.

Finally, the dollar is ever so slightly firmer this morning, with DXY having bounced off the 105 level and USDJPY starting to rise again with no sign that the MOF is keen to do anything else.  But as I look across the board, the largest movement of any currency, G10 or EMG, has been just 0.3% (both KRW and NOK having fallen that amount) which is really indicative of the doldrums into which this market has fallen.  I will say that there is growing talk that the next big trade is to be long yen (short dollars) with more and more people indicating they see higher Japanese rates coming while the Fed drifts toward eventual rate cuts.  The hard part about this trade is it is extremely expensive to carry for any length of time.  Until the Fed preps the market for cuts, rather than its current higher for even longer stance, I would be wary of the trade.  However, as I explained yesterday, for hedgers, this is exactly when options make the most sense.

And that’s really all there is.  Consumer Credit (exp $15.0B) is released this afternoon at 3:00 and Mr Kashkari speaks at 11:30.  It beggars’ belief that he will say something new and exciting so I anticipate a very dull session across the board today.

Good luck
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Kind of a Mess

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The narrative which had been forming
Was prices were constantly warming
While job growth was strong
The bears were all wrong
And buyers of stocks were now swarming
 
But Friday the data was less
Impressive, and kind of a mess
At first, NFP
Was weak, all agree
Then ISM caused more distress

 

It is remarkable how quickly a narrative can change, that’s all I can say!  One week ago, the story was all about how the economy continued to perform well overall, that inflation remained sticky at levels higher than targeted and that the Fed would stick with higher for longer with a chance of a rate hike on the table.  This morning, in the wake of a clearly dovish Powell press conference and softer than expected ISM and employment data, the narrative appears to be coalescing around the idea that cuts are back on the table while a recession can no longer be ruled out.

The table below, courtesy of the Chicago Mercantile Exchange, shows the current probabilities for Fed funds based on futures pricing for the December 2024 contract as well as how they have evolved over the past week and month.

Source: CME

When calculating how much is priced into the market, one simply multiplies the size of the cut by its stated probability and voila, the answer appears.  To save you the trouble of doing the math, the current market pricing shows that as of this morning, the market is pricing in 47.6bps of cuts by year-end, so essentially two cuts.  One week ago, that number was 34.8bps while one month ago it was 65.7bps.  in other words, we have seen a bit of movement in this sentiment indicator.  And really, that’s exactly what this is, a measure of the market’s sentiment and expectations of how Fed funds are going to evolve over time.  

What should we make of this information?  Well, anecdotally, for the past several weeks I have not been reading about recession at all.  The no-landing scenario seemed to be the favorite as the soft-landing idea ebbed amid too high inflation readings.  But this morning, in concert with the Fed funds futures market, I have seen several stories discussing that a recession is on the horizon now and coming into view.  The ISM data was clearly a problem as both the Manufacturing (49.2) and Services (49.4) numbers slipped below the 50.0 boom/bust line while the Chicago PMI release was abysmal at 37.9.  Even worse, the Prices paid data for both Manufacturing (60.9) and Services (59.2) rose sharply, exactly what Chair Powell did not want to see.  In fact, this data rhymes with the Q1 GDP data which showed the mix of activity was turning toward less growth (1.6%) and more inflation (3.7%) for a given amount of activity.

Now, Powell was very clear that he saw neither the ‘stag’ nor the ‘flation’ sides of the idea that the US was slipping into stagflation, and certainly compared to the situation in the 1970’s, we are nowhere near that type of situation.  But there is a bit of whistling past the graveyard here, I believe, as slowing real growth and rising prices are not the combination that any central bank wants to have to fight.  When Mr Volcker took over the role as Fed Chair in 1979, he pretty quickly decided that it was more important to fight inflation first, and deal with any recession later, hence the double-dip recessions of 1980 and 1982.  But that set the stage for structurally lower interest rates for two generations.

Based on Powell’s press conference comments as well as the tone of many of the mainstream media stories that are currently in print regarding the economic situation, it appears to this poet as though Mr Powell may be far more willing to allow inflation to run hotter than target for longer as he tries to prevent a sharp recession, especially ahead of the presidential election.  With rate hikes no longer an option, any semblance of higher inflation will be met with words alone, and that will not do the trick.  I have maintained for a long time that if the Fed eased policy before inflation was squashed, it would be bad for bonds, bad for the dollar and good for commodities and stocks.  I am now coming to believe that we are entering this environment, and that while the initial move in bonds may be higher (lower yields) as it becomes clear that inflation remains with us, bond investors will quickly decide that the risk/reward in an inflationary environment is quite poor, and we will see the back end of the curve sell off.

After those cheery thoughts for a Monday morning, let’s look at how markets have behaved overnight.  Friday’s rip-roaring rally in the US was mostly followed by strength throughout Asia where markets were open (Japan and South Korea were closed) with China, Hong Kong, Australia, and Taiwan all having good sessions, up between 0.75% and 1.25%.  It should also be no surprise that European bourses are all in the green this morning as rate pressures eased and adding to the happiness were PMI Services reports that were generally on target or slightly better than the flash numbers.  In other words, all is right with the world!  Finally, US futures are also firmer by a bit this morning, up 0.2% or so with the main talk still about Apple’s massive stock repurchase program as well as the Berkshire Hathaway AGM this past weekend.

Of course, bonds were the big mover on Friday, with yields plummeting in the wake of the softer than expected NFP data, where not only were claims lower, but so was earnings data and the Unemployment Rate ticked up to 3.9%.  The initial move was a 9bp decline in the 10yr and and 10bps in the 2yr although by Friday’s close, both markets had retraced half of those declines.  This morning, though, yields are sliding again with 10yr Treasuries down 3bps and all European sovereigns following suit, falling 4bps.  (As an aside, on Friday, the European yields followed Treasuries tick for tick.). With Japan closed, there was no JGB movement overnight.

In the commodity markets, crude oil (+1.0%) is bouncing today from yet another weak performance on Friday as the weaker economic data is weighing on the demand story there.  However, regarding geopolitics and the middle east, this morning’s headlines regarding Israel telling Palestinians to leave Rafah has the market on edge.  But metals markets are back on fire this morning with both precious (Au +0.7%, Ag +2.1%) and industrial (Cu +2.0%, Al +1.1%) rallying on the lower interest rate, higher inflation story that is percolating through markets.

Finally, the dollar, too, is under pressure this morning continuing its trend from last week, although it is not collapsing by any stretch with the DXY still trading just above 105.00.  There is a great deal of discussion as to whether the BOJ/MOF have been successful in their efforts to stem the yen’s decline permanently.  It is clear that their two bouts of intervention (neither officially admitted) has done a good job in the short run.  The story here, though, is all about interest rates.  If, and this is a big if, the Fed is truly turning their sights on cutting rates with any help at all from inflation showing signs of ebbing again, then the higher dollar thesis is going to run into real trouble.  I have made no bones about the idea that the dollar’s strength was entirely reliant on the fact that the Fed was the most hawkish of all the main central banks.  If that is no longer the case, then the dollar is going to come under universal pressure and the yen probably has the most to recover.

**This is really critical for JPY asset and receivables hedgers.  There is no better time to consider using purchased options or zero premium collars than right now.  If the recent movement is a head fake, and the inflation story in the US grows such that the Fed puts hikes back on the table, then you will have put hedges in place.  But…if this is the beginning of a truly new narrative, where US rates are going to decline, USDJPY can fall a very long way in a very short time.  Look at the 5-year chart of USDJPY below.  It was in 2022 when USDJPY was trading at 115 and that had been the level for several years.  we can go back there in a hurry, believe me!**

Source: tradingeconomics.com

As to the rest of the currencies out there, you will not be surprised that ZAR (+0.5%) is top of the heap this morning although a thought must be given to CLP’s 2.25% gain on Friday (market not open yet) as it rallied alongside copper’s rally.  Ironically, the one currency that is under pressure this morning is JPY (-0.5%), but remember, it has risen 4% from the levels when the BOJ first intervened, so a little bounce is no surprise.

Turning to the data this week, it is an incredibly light week, with CPI not coming until next week.

TuesdayConsumer Credit$15B
ThursdayInitial Claims212K
 Continuing Claims1895K
FridayMichigan Sentiment77.0
Source: tradingeconomics.com

As well, we have eight Fed speakers including NY president Williams and vice-Chair Jefferson.  It will be very interesting to hear how they play the apparent pivot.  While I expect that the governors are all on board, the regional presidents will have more leeway to speak their mind I believe.

And that’s what we have for today.  I believe that things have changed and that the Fed is now very clearly far more willing to allow inflation to run hotter.  Be very wary of your bond positions and watch for the dollar to remain under pressure until something else changes.

Good luck

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Tortured

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Intervention is
The last bastion of tortured
Finance ministers

 

Apparently, Japanese FinMin Suzuki did not want the spotlight to remain on Chairman Powell and the Fed so last night, in what was surprising timing given the absence of additional jawboning ahead of the move, it appears there was a second round of intervention orchestrated by the MOF and executed by the BOJ.  Looking at the chart below, courtesy of tradingeconomics.com, it is pretty clear as to the activity and timing, although as is often the case, 50% of the move has already been retraced.

According to Bloomberg’s calculations, they spent an additional ¥3.5 (~$22B) in the effort, so smaller than last time, but still a pretty decent amount of cash.  As of yet, there has been no affirmation by the MOF that they did intervene, although the price chart alone is strong evidence of the action.  Will it matter?  In the long run, not at all.  The only thing that will change the ultimate trajectory of the yen’s exchange rate is a policy change and based on last week’s BOJ meeting, there is no evidence a monetary policy change is in the offing.  Therefore, we need to see a US policy change and based on yesterday’s FOMC meeting and the following press conference, that doesn’t seem to be coming anytime soon either.  To my eye, the yen will continue to weaken until something changes.  This could take a few more years and USDJPY could wind up a lot higher than 160.

Said Jay, it is, frankly, absurd
A rate hike will soon be preferred
But neither will we
Soon cut, we agree
While ‘flation’s decline is deferred

To me, the encapsulation of the entire FOMC statement and Powell press conference can be summed up in the following two quotes from the Chairman while answering questions.  “I think it’s unlikely that the next policy rate move will be a hike,” and “inflation has shown a lack of further progress… and gaining confidence to cut will take longer than thought.”  In other words, we are not likely to change policy anytime soon absent a complete black swan event.

Since the press conference ended, there has been an enormous amount of speculation regarding what message Powell was trying to send.  I would argue the consensus is that he wants to cut but the data is just not in a place that would allow the Fed to go down that path without destroying what’s left of their credibility.  To me, the question is, why is he so anxious to cut rates?  Arguably, an unbiased Fed chair would simply ‘want’ to follow whatever is the appropriate course to achieve the mandate.  

One of the popular views is that there is substantial pressure from the White House to cut as the Biden administration believes lower rates will help Biden’s reelection bid, however Powell, when asked about the political issue, was explicit in rejecting that hypothesis and claiming that politics is never even part of the conversation, let alone the decision.  I accept that at face value, although certainly all 17 members of the FOMC have political biases that drive their actions.  But here is a take I have not heard elsewhere.  Perhaps Powell is keen to cut because it will help the private equity sphere, the place where he not only made his fortune, but where he also maintains a large social circle and he simply wants to help his friends.  There is no doubt that lower rates help the PE space!  Regardless of why, I have to agree that it appears he is leaning in that direction.

There was one other thing that was a minor surprise and that had to do with the balance sheet program.  As expected, the Fed explained they would be reducing the pace of QT starting in June, but they would be doing so by more than anticipated, slowing the runoff to $25 billion/month of Treasuries before reinvesting, down from the current level of $60 billion/month.  For MBS, the runoff remains at $35 billion/month, although if that number is exceeded, they would replace the MBS with Treasuries so allow the MBS portion of the portfolio (currently $2.38 trillion) to slowly disappear.  The operative word here, though, is slowly, as they have not come close to seeing that $35 billion since the program started.  After all, nobody is refinancing their mortgage with current rates thus reducing the churn in that part of the portfolio.  At any rate, that was very mildly dovish, I believe.

The market response to the entire show was quite positive with equity investors taking the dovish message to heart and equities and bonds both rallied in the immediate wake of the meeting, although the equity markets sold off on the close and wound up slightly lower for the session.  Not so bonds, where yields fell and continue at those levels, down about 5bps on the day.

So how have things fared overnight since the Fed?  Well, the Hang Seng (+2.5%) was the big winner as investors there took Powell’s dovishness to heart and that combined with confirmation that the Chinese Plenary meeting would be occurring in July, thus a chance for more stimulus to come, got investors excited.  However, the mainland was closed.  Japanese shares were basically unchanged after the intervention and the story throughout the rest of the region was mixed with some gainers (Australia, India) and some laggards (South Korea, Indonesia).  

In Europe, it is also a mixed picture as investors respond to the PMI data releases, which were also a mixed bag.  For instance, Spain saw a jump in PMI and the IBEX is firmer by 0.3% while France saw a 1-point decline in the index and the CAC is down by -0.7%.  Looking at the overall mix of data, it appears that European economic activity is bumping along the bottom, although not yet clearly turning higher.  Arguably that is a big reason the ECB has penciled in that June rate cut.  Finally, US futures are pointing higher at this hour (7:00) between 0.5% and 1.0%, so quite solidly so.

In the bond market, the doves are still in charge as Treasury yields have drifted lower by another 2bps and are back to 4.60%.  but in Europe, the story is even better with yields down between 4bps and 7bps as the modest growth outturn added to oil’s recent price declines has investors gaining confidence that inflation there, at least, is truly on its way back to target.  As to JGB’s, a 1bp rise overnight has yields back to 0.90%, obviously much closer to the previous limit at 1.0%, but still not moving there rapidly.

Going back to oil prices, while they have bounced 0.5% this morning, they are down more than 5.2% in the past week as rising inventories and growing hopes of a ceasefire in Gaza have been enough to get the CTAs and hedge funds to close their positions.  In something of a surprise to me based on the ostensible dovish tone of the Fed, metals markets are back under pressure after yesterday’s bounce so all of them, both precious and industrial, are lower by about -1.0% this morning.

Finally, the dollar, aside from the yen, is edging higher this morning, although edging is the key term here.  Against most majors it is firmer by just a bit, 0.15% or so, although in the G10 there are two outliers, CHF (+0.45%) which rallied after their CPI release this morning was much hotter than expected at 0.3% M/M indicating the SNB may be holding off on its next rate cut, and NOK (-0.6%) which is continuing to suffer from the oil decline in the past week.  It should also be no surprise that ZAR (-0.5%) is under pressure given the metals movement.  But elsewhere, things are far less interesting with modest dollar gains the rule today.  This seems at odds with the ostensible dovish Fed tone, but there you have it.

On the data front, we see Initial (exp 212K) and Continuing (1800K) Claims as always on a Thursday, as well as the Trade Balance (-$69.1B) and then Nonfarm Productivity (0.8%) and Unit Labor Costs (3.3%) all at 8:30 with Factory Orders (1.6%) coming at 10:00.  As of now, there are no Fed speakers on the docket, but I would not be surprised to see an interview pop up.  The Fed will be closely watching the productivity data as that is an important part of the macro equation regarding sustainable growth and inflation.  Certainly, the expectations do not bode well for a dovish stance.

Explain to me that policy has changed, and I will accept that it is time to change my view.  However, at this point, the dollar still gets the benefit of the doubt.

Good luck

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‘Voiding a Crisis

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There once was a fellow named Jay
Whose job, as it works out today
Is managing prices
And ‘voiding a crisis
A mandate from which he can’t stray
 
The problem he has, as it stands
Is others are tying his hands
So, prices keep rising
And he’s now realizing
He’s no longer giving commands

Friday’s PCE data was not as hot as some had feared, but certainly showed no signs of cooling.  To recap, the M/M numbers for both headline and core were 0.3%, as expected, although at the second decimal they must have been higher because both Y/Y numbers were higher than expected at 2.7% headline and 2.8% core.  As can be seen in the chart below from tradingeconomics.com, both the core (blue line) and headline (gray line) have the appearance of having bottomed.

While things certainly could have been worse, especially based on the price deflator data we saw in the GDP report, this cannot have helped Chair Powell’s attitude.  Remember, too, that 0.3% rises annualize to a bit more than 3.6%, far higher than the ostensible target.  The inflation fight has not yet been won by the Fed although I expect that we are going to hear a lot of commentary going forward that it has.  Wednesday brings the FOMC meeting, something on which we will touch tomorrow, and obviously a critical aspect of the discussion.  One other thing, given the data was not as hot as feared, it took until yesterday for the Fed whisperer to write his article, which was focused on the long-term neutral rate rather than inflation per se.

Did they sell or not?
Looking at charts, possibly
But they’ll never say

The next story of note was the fact that USDJPY trade above 160 last night, during the early hours of the session.  As can be seen from the below chart from yahoo finance, it seemed to have touched 160.216 before slipping back to the mid-159’s and then collapsing a few hours later, back to its current state just below 156.

Something to remember is that it is golden week in Japan, with the nation on holiday yesterday so banks were, at most, running skeleton staffs of junior traders and market liquidity was significantly impaired.  But the question today is, did the BOJ intervene on behalf of the MOF.  From what I have been able to glean, there was significant selling by the big three Japanese banks, certainly a sign that intervention was possible.  Of course, the chart shows how sudden the decline was, also an indication that it could have been intervention.  The best explanation I have heard for the initial move above 160 was it was some bank(s) running stop-losses at the level, as well as triggering barriers there in the options market.  At this hour (6:15), the yen has appreciated by 1.6% from Friday’s closing levels.  However, I sincerely doubt that we have seen the end of the weakness in the yen.  This is especially true if Chair Powell comes across as more hawkish on Wednesday, something that is clearly quite possible.

The last thing to note for today
Is Yellen and her QRA
How much will she borrow?
And Wednesday, not ’morrow
We’ll learn if more bonds are in play

This brings us to the Quarterly Refunding Announcement (QRA) to be released at 3:00 this afternoon.  While historically, the only people who cared about this report were bond market geeks, it has gained a significant amount of status since the October 31st announcement where the Treasury indicated it would be issuing less debt than had been expected.  That led directly to the massive bond market rally at the end of last year as well as the concomitant stock market rally.  Looking at the below chart from tradingeconomics.com, it is pretty clear when things turned around, and it was right when the QRA came about.

Once we know the borrowing plans from this afternoon, we will learn on Wednesday the mix of borrowing that will be coming, and whether Secretary Yellen will continue to issue a more significant amount of debt in T-bills, or if she will try her hand at notes and bonds again.  Given that yields have been climbing lately, I suspect there will be more T-Bill issuance than is the historic norm, which has been about 20% of total borrowing, but perhaps not the 80% she issued last quarter.  Ultimately, the real concern today is that the estimated borrowing numbers could be larger than current forecasts, and perhaps just as importantly, the question of just how much was borrowed last quarter.  The sustainability of this process is starting to be called into question although I don’t expect anything to happen quite yet.  

Ok, that’s enough for one day!  A quick recap of the overnight session shows that Chinese shares rallied on the back of news from Beijing that the government was relaxing some regulations in the property sector.  In fact, that was sufficient to help all Asian equity markets higher on the order of 0.5% – 1.0%.  Meanwhile, European bourses are mixed this morning with both the DAX and CAC little changed, the FTSE 100 edging higher by 0.5%, but other continental exchanges under pressure.   As to US futures, they are very modestly higher this morning after Friday’s rally.

In the bond market, after modestly higher yields on Friday, this morning is seeing Treasury yields slip 4bps and European sovereigns fall between 5bps and 7bps.  Clearly, there is not much concern that the QRA is going to indicate massive new borrowing, but I guess we will know this afternoon.  

Commodity prices are on the quiet side this morning with oil basically unchanged, as is gold as both hold onto last week’s gains.  However, copper (+0.5%) continues to rally and is now just $0.30/pound below its all-time highs of $4.89.  There are many stories regarding the copper market with some discussing hoarding by the Chinese and others focused on the needs of the ongoing ‘energy transition’ which will need significant amounts of the red metal to electrify everything.  While it has run up quite quickly of late, I must admit the long-term view remains positive in my mind between the absence of new mines and the needs of the transition although a pullback would not be a surprise.

Finally, the dollar, aside from vs. the yen, is generally lower across the board.  While it remains in the upper end of its recent trading range, it appears the sharp decline in USDJPY has had knock-on effects elsewhere. The financial currencies, like EUR (+0.3%), GBP (+0.4%) and CHF (+0.3%) are all firmer as are the commodity bloc (NOK +0.3%, ZAR +0.45%, AUD+0.5%).  In fact, I am hard-pressed to find a currency that is underperforming the greenback.  Positioning in dollars has been quite long lately so ahead of this week’s FOMC meeting as well as the NFP on Friday, it is quite likely that we are seeing a little reduction in those positions.  However, we will need to see a change in the data to change the longer-term view.

Obviously, there is a ton of stuff coming out this week.

TodayQRA 
TuesdayEmployment Cost Index1.0%
 Case Shiller Home Prices6.7%
 Chicago PMI44.9
 Consumer Confidence104.0
WednesdayADP Employment 179K
 ISM Manufacturing50.1
 JOLTS Job Openings8.68M
 FOMC Rate Decision5.50% (unchanged)
ThursdayInitial Claims212K
 Continuing Claims1782K
 Nonfarm Productivity0.8%
 Unit Labor Costs3.2%
 Factory Orders1.6%
FridayNonfarm Payrolls243K
 Private Payrolls180K
 Manufacturing Payrolls7K
 Unemployment Rate3.8%
 Average Hourly Earnings0.3% (4.1% Y/Y)
 Average Weekly Hours34.4
 Participation Rate62.7%
 ISM Services52.0

Source: tradingeconomics.com

In addition to all this, on Friday we will hear from two Fed speakers, Williams and Goolsbee, and I imagine if they are unhappy with the market response to their messaging on Wednesday, we will hear from more.

Ultimately, this is an important week to help us understand how things are going in the economy and how the Fed is thinking about everything.  As long as payrolls continue to hang in there, any chance of Fed dovishness seems to diminish by the day.  But stranger things have happened.  As to the dollar, today’s position adjustments make sense and I suspect there will be a few more before the big news hits on Wednesday and Friday.  Til then, I think all we can do is watch and wait.

Good luck

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