Tag Archives: #Mexico

Rate Cuts Have Slowed

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The story that’s driving the news
Is one on which most have strong views
Both neighbors have claimed
Their borders are tamed
So, tariffs, the Prez, will not use
 
Meanwhile, data yesterday showed
That managers are in growth mode
The ISM rose
And Fed speakers chose
To validate rate cuts have slowed

 

The major economic story is, of course, the news that both Canada and Mexico have altered their behavior in order to prevent the imposition of 25% tariffs on their exports to the US.  Both nations have now promised to police the border between themselves and the US more tightly, and it also seems that the US now has operational control, via military overflights, of the Mexican border.  While there are many pundits who believe all this activity was merely theater and could have been accomplished without tariff threats, none of them are in a position of power.  In the end, I think it is very difficult to conclude anything other than Trump got what he wanted and achieved it via his preferred means.

The market response was very much what you might expect.  The early sharp declines in the CAD and MXN were reversed and the day ended with both currencies at basically the same levels they closed on Friday.  However, as you can see from the chart below, there was clearly some excitement and panic during the session, with back and forth 2% movements.

Source: tradingeconomics.com

Here’s the thing, I think you all need to be prepared for this type of activity on a regular basis for the next four years.  Certainly, there is nothing to suggest that President Trump is going to change his style and as long as he is successful in achieving his aims in this manner, he will continue with these activities.  Consider this as well, no national leader wants to appear weak, especially to their electorate, and so when President Trump turns his focus to a smaller nation, those leaders are very likely to try to stand up to the pressure, at least in public.  But in the end, most nations are far more reliant on the US market to buy their stuff than the other way around.  After all, the US is basically the consumer of last resort globally.  As such, very few nations can truthfully withstand an onslaught of this magnitude.

Now, turning to the state of the US economy, President Trump got some very positive news from the ISM data which printed at 50.9, its highest level since September 2022 and far higher than forecasts.  In fact, it is not hard to look at the recent trend in this data series and believe we are going to see positive economic growth going forward

Source: tradingeconomics.com

However, the downside here was that the Prices Paid portion of the index also rose, back to 54.9, implying that inflation pressures remain extant within the economy.  Now, you and I both know that is the case as we all deal with these prices on a daily basis, but until the data starts to become more obvious, it appears the Fed is always the last to know.

Speaking of the Fed, while only one speaker was on the schedule, Atlanta Fed President Bostic, we heard from three of them anyway as it remains clear to me there is a strong belief in the Marriner Eccles building that a key part of their job is to never shut up constantly pitch their narrative to try to keep markets in line.  So, as well as Bostic, we heard from Chicago’s Goolsbee and Boston’s Collins and they all basically said the same thing, perhaps best stated by Ms Collins, “There’s no urgency for making additional adjustments.  The data is going to have to tell us.  At some point I certainly would see additional normalization in terms of what the policy stance is.”  The last part of her comment refers to the idea that she, and truthfully all three, believe that further rate cuts remain appropriate despite the ongoing growth and continued stickiness of prices.  And to think, some people believe that Trump and the Fed are not on the same page.   They all want lower rates!

Ok, let’s turn to markets and see how they have behaved overnight.  Yesterday, after a pretty horrible opening on the basis of tariffs, tariffs everywhere, the news that they would be postponed saw US markets rebound, although still close lower on the session.  In Asia, Japan (+0.7%) rallied as so far, Japan remains out of the tariff sightlines, and Hong Kong (+2.8%) traded much higher in its first post-holiday session although mainland Chinese share trading doesn’t reopen until tonight.  Elsewhere in Asia, the screens were largely green, perhaps on the thesis that tariffs are just a negotiating tactic.  In Europe, the picture is more mixed with the UK (-0.2%) lagging while Spain’s IBEX (+0.8%) is the leading gainer.  The rest of the continent, though, is seeing gains on the order of just 0.2%, so not much love.  And at this hour (7:10) US futures are little changed.

In the bond market, Treasury yields, after edging higher by a few bps yesterday, are up another 2bps this morning and pushing back to 4.60%.  In Europe, sovereign yields are also firmer this morning, up between 2bps and 4bps across the board, although this is after sharply lower yields yesterday on still weak PMI data from the continent.  As well, Mr Trump is hinting that he is going to turn his tariff sights on Europe soon, so there has to be some trepidation there.  After all, Europe, which is already a basket case due to self-inflicted energy-based wounds, really cannot afford a trade fight with the US, especially since they have a net trade surplus on the order of $200 billion with the US.  Finally, JGB yields rose 3bps and are now at their highest level since May 2010 and look for all the world like the trend remains strongly intact as per the below chart.

Source: tradingeconomics.com

In the commodity markets, confusion in energy reigns as yesterday’s initial rally on Canadian tariff news has been completely reversed with oil (-2.1%) and NatGas (-4.2%) both falling sharply today.  But what is not falling is gold (+0.1%) which made yet another new all-time high yesterday and continues to defy gravity.  This has helped the entire metals complex with both silver and copper higher by 0.5% this morning.

Finally, the dollar continues its general winning ways this morning.  Yesterday saw early gains, also on the tariff story, which as evidenced by the chart at the beginning of the note, reversed.  But in the other currencies, the euro and pound remain under modest pressure along with Aussie, as all three are softer by about -0.3% today, with the yen (-0.4%) along for the ride.  In the EMG bloc, MXN (-0.6%), BRL (-1.2%) and ZAR (-0.3%) are also under pressure as though the immediate tariff threat seems to have abated, fear remains the driving force in the space.  Add to the tariff fears the fact that the US economy continues to outperform its peers, and the Fed has basically put the kibosh on any rate cuts anytime soon and it is easy to understand why money is flowing this way.

On the data front, JOLTS Job Openings (exp 8.0M) and Factory Orders (-0.7%, +0.6% ex Transport) are today’s information, and we hear from more Fed speakers.  It seems clear, so far, that the Fed mantra is wait and see as things evolve under President Trump.  Unless one of these speakers (Bostic, Daly, Jefferson) offers a different view, which seems unlikely, then I suspect the dollar will continue to find more support than resistance for now.

Good luck

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Run Amok

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The price level, sadly, will jump
According to President Trump
Will Canada shrink?
Will Mexico blink?
As tariffs cause things to go thump
 
The first thing that moved was the buck
While stock markets were thunderstruck
So, who will blink first?
And who will hurt worst?
No matter, things have run amok

 

Whatever you think of the man, you must admit that President Trump knows how to maintain the spotlight on himself and his policies to the exclusion of virtually everything else in the news.  And so, in the wake of two terrible aviation disasters in short order, pretty much all eyes are now focused on the tariffs that Trump imposed this weekend on Canada, Mexico and China.  While there had been a large school of thought that the tariff talk was a cudgel to be used during negotiations but would never actually be imposed as they would be too damaging, that thesis has been destroyed.  It appears that President Trump believes his long-term goals of reshoring significant parts of US industry and leveling the playing field with trade partners is achievable via tariff policy and will more than offset any short-term pain that may come.  We shall see if he is correct, but certainly, the short-term pain is beginning to arrive.

The early movement in equity markets was uniform around the world, and it was not pretty.  The below snapshot of equity futures markets, taken at 6:00am this morning shows that the only two markets that have not fallen are China and Hong Kong, and that is only because they remain closed for the Chinese New Year holidays.  But there is plenty of fear all around the world, especially considering that markets throughout Europe and Japan, as well as other nations that have not been named targets of tariffs, have also fallen sharply.

Source: tradingeconomics.com

Too, the FX markets have also responded dramatically, with the dollar exploding higher vs. virtually all its counterpart currencies this morning as 1% gains are the norm.

Source: tradingeconomics.com

A special shoutout to ZAR (-1.55%) which while not directly impacted by tariffs, caught Trump’s ire by their recently enacted legislation to confiscate property as they deem fit, oftentimes without compensation.  While South African officials have claimed it is akin to eminent domain rules in the US, those require compensation at all times, a not insubstantial difference.  

So, what’s a hedger to do?  Well, this is why you maintain a hedge program in the first place.  Lots of things happen in the world, most of which are beyond any individual or companies’ control, yet the impacts are real.  Some of what I have read this morning highlights the idea that Canada and Europe and Mexico are going to stick together to fight these tariffs.  However, at the end of the day, the US economy, and by extension its market, is the largest by far, and losing the US as an export destination will be a very difficult pill for those nations and their economies to swallow.  

My sense is that Trump, especially if he continues to address the immigration and government waste issues, will have far more runway than most other nations, especially given the precarious situation of many ruling parties right now.   But the other thing to consider is that there is no going back to the way things were in the past.  Alliances and treaties are going to come under much greater scrutiny by all sides as governments everywhere re-evaluate what they are trying to achieve with various policies and how they can partner with other nations to work together.  In fact, I suspect that the EU is going to continue to come under even greater pressure as it becomes more evident that while many countries believe in the trade benefits of the EU, the recent focus by Brussels on other issues like climate activism and immigration run counter to some members’ views.  No matter what, the world is changing dramatically, and my take is the change is going to come faster than many will have anticipated.

OK, there are a thousand stories on how the tariffs are going to impact the US, with initial calculations regarding the negative impact on GDP and how much they are going to raise inflation, so I’m not going to go there.  Needless to say, the universal belief is things will get worse on those metrics.  But here’s something else to consider.  On Friday, the BLS will be revising the 2024 jobs data, including their population estimates and the birth/death model that describes the number of new businesses that are formed, net, each month. Early estimates show that the number of jobs created is going to fall by nearly 1 million while population, now taking into account more immigration, is going to rise.  I have seen estimates that the Unemployment Rate may rise, or be revised, to 4.5% or 4.6%.  If that is the case, it will certainly call into question exactly what the Fed has been doing.  It will also, almost certainly, result in a Trumpian tirade about how the BLS is political and was cooking the books to burnish Biden’s economic record.  I suspect it will not help equity markets if that is the case, but also probably hurt the dollar as the Fed will be right back onto their rate cutting discussions.

As I’ve already shown the equity and FX markets above, a look at bonds shows that Treasury yields are unchanged this morning, as they seem to be caught between concerns of slower growth and higher inflation due to the tariffs.  Remember, too, that Wednesday, the Treasury will issue its Quarterly Borrowing Estimate with all eyes on the mix that new Treasury Secretary Bessent will be seeking as things go forward.  Remember, he was quite vocal, before he took the job, as to the mistakes that Yellen made in not terming out more Treasury debt when rates were at extremely low levels.  Meanwhile, European sovereign yields are all lower this morning, between -2bps (Italy) and -6bps (Germany) as PMI data released showed that though things were better than last month, they remain well below the key 50.0 level.  However, on the inflation front, both Eurozone and Italian data printed higher than expected, clearly not what Madame Lagarde wants to see.

Finally, commodity markets have seen oil prices (+2.6%) rise sharply as the US will be imposing 10% tariffs on imports of Canadian oil products, while NatGas prices have jumped by 9.0% on concerns over supply disruptions from those tariffs.  Like I said, the world is a different place today!  In the metals markets, both gold and silver are little changed this morning although copper (-0.9%) prices are slipping, perhaps on the idea that these tariffs are going to slow economic activity.  And that is one of the key belief sets amongst economists.

As to the data this week, it is reasonably busy, but all eyes will be on Friday’s NFP report, especially with the rumors of a major revision.

TodayISM Manufacturing49.8
 ISM Prices Paid52.6
TuesdayJOLTS Job Openings8.0M
 Factory Orders-0.8%
 -ex Transport+0.6%
WednesdayADP Employment150K
 Trade Balance-$96.5B
 ISM Services54.2
ThursdayInitial Claims215K
 Continuing Claims1855K
 Nonfarm Productivity1.7%
 Unit Labor Costs3.5%
FridayNonfarm Payrolls170K
 Private Payrolls140K
 Manufacturing Payrolls-2K
 Unemployment Rate4.1%
 Average Hourly Earnings 0.3%(3.8% Y/Y)
 Average Weekly Hours34.3
 Participation Rate62.5%
 Michigan Sentiment70.9
 Consumer Credit$10.5B

Source: tradingeconomics.com

In addition to all of this, we will hear from nine different Fed speakers, at least, over 13 different venues this week.  Now, things could get quite interesting here given Chairman Powell did not speak to tariffs as they were not yet implemented when he delivered the FOMC news last week, but all of these speakers will have an opinion.  I wonder if there will be a unified set of talking points or if each one will truly give their own views.  Of course, given that each is a neo-Keynesian economist, I suspect their views will all be aligned anyway.

One other thing from last week that didn’t get much press is that the BOC, after cutting the base rate by 25bps as widely expected, has indicated they will be ending their QT program and, in fact, restarting their QE program over the next several months in order to grow their balance sheet in line with the economy.  Do not be surprised if we see other major central banks go down this road as well, regardless of sticky inflation.  

Summing it all up, the world is very different this morning compared to Friday morning.  Trade and economic disruptions are going to become evident and there is still a great deal of vitriol to be vented at Trump by others, while Trump will continue to decry other nations efforts to weaken the US.  As I have written in the past, volatility will be the main underlying thesis this year.  Meanwhile, the beauty of a good hedge program is it helps through all market conditions.  Do NOT slow things down waiting for a better entry point, be consistent, as that better entry point may not materialize for a long time.  My strongest cue will be the bond market as if yields start to decline in anticipation of a significant economic slump, I expect the dollar will suffer, but if they hold up, then there is nothing to stop the dollar from testing and breaking its recent highs.

Good luck

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Forked Tongue

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The major discussion today
Is tariffs and if they’re in play
While Trump thinks they’re great
Economists hate
Their impact and watch with dismay
 
Meanwhile it has not been a week
And questions are rife ‘bout DeepSeek
The most recent questions
Are making suggestions
That China, with forked tongue, did speak

 

President Trump has promised to impose 25% tariffs tomorrow on all Canadian and Mexican exports to the US if those nations do not agree to further efforts to tighten border security regarding the movement of both immigrants and drugs across the borders.  Even within his administration, there are many who do not want to see them imposed given the potential disruption they would cause in supply chains throughout the nation.  And of course, economists abhor tariffs as a pure deadweight loss to the economy.  But Trump sees the world through very different eyes, that much is clear, and as evidenced by the very short-term row with Colombia last weekend, believes they can be useful tools to achieve strategic, non-economic outcomes.

This poet is not fool enough to try to anticipate what will actually happen as the mercurial nature of President Trump’s actions is far beyond my ability to forecast.  However, if history is any guide, we will see both Mexico and Canada make some additional concessions and an announcement that because of that, the tariffs will be delayed until negotiations can be completed by some new deadline.  (Well, maybe I am fool enough 🤣)

From our perspective observing market reactions, the only consistent view is that US tariffs will drive the dollar higher, or more accurately, other currencies lower, as the FX market adjusts to compensate for the tariffs.  If we look back at Trump’s first term, the first tariffs were imposed on China in early 2018 on solar panels and washing machines and a few other things.  A look at the chart below shows that the yuan (the green line) did, in fact, weaken substantially following those tariffs, with the dollar rising from 6.25 to 6.95 over the course of the ensuing six months.  However, if we broaden our horizons beyond the renminbi to the dollar writ large, as seen by the Dollar Index (the blue line), which rose from 88 to 96 over the same period, the renminbi’s price action was directly in line with the dollar overall.  There was only limited additional impact to CNY.  Remember, too, that in 2018, the US equity market was performing quite well, and funds were flowing into the US, thus driving the dollar higher, not dissimilar to what we have seen over the past year.  The point is that while the tariffs may have some impact, it is also likely that the dollar will move based on its traditional drivers of interest rate differentials and capital flows regardless.

Source: tradingeconomics.com

Away from the tariff talk, though, there is precious little other market related news, at least on a macro basis.  Yesterday’s data showed that GDP grew a tick less than anticipated at 2.3% in Q4, but Real Consumer Spending, which is a critical part of the economic picture, rose at 4.2%, a very solid performance and an indication that things in the economy are still ticking along just fine.  (The difference between that number and the GDP number is due to inventory adjustments, which are seen to wash out over time.). In fact, arguably, that solid growth was a key reason that the equity markets in the US had another strong session yesterday, with gains across the board.

Well, there is one other thing on many people’s minds, and that is the veracity of the claims about DeepSeek.  You may recall I highlighted the question of all those Nvidia sales to Singapore earlier in the week as somewhat strange.  Well, I was not the only one asking that question and this morning in Bloomberg, there is an exclusive story about a US government investigation into whether China actually got the most advanced H100 chips via Singapore after all.  If that is the case, then perhaps the DeepSeek claims are not as impressive as they were initially made out.  I suspect if this turns out to be the case, that worries over the need for AI to no longer utilize the most advanced chips will dissipate and the tech rally will regain momentum.

So, let’s look at markets now.  China and Hong Kong remain closed for their New Year celebrations.  Japan (+0.15%) had a modest gain and the truth is that only two Asian bourses had strong sessions, Singapore (+1.45%) and India (+1.0%) with the rest of the region mostly a touch firmer.  In Europe, all markets are slightly stronger this morning, on the order of 0.3% or so, as the combination of yesterday’s ECB rate cut and hints at future cuts by Madame Lagarde, seem to be underpinning the markets.  Certainly, today’s Eurozone data, showing German Unemployment climbing a tick to 6.2% while Retail Sales there fell -1.6% in December don’t seem like a rationale to buy equities.  In the US futures market, though, we are seeing solid performance, 0.5% or more, as I believe many are jumping back on the AI bandwagon.

In the bond market, Treasury yields have edged higher by 1bp, and remain just north of 4.50% as the tension between solid growth and slowing inflation dreams keeps the market quiet.  In Europe, though, yields are continuing their decline from yesterday, with sovereign yields down by between -3bps and -4bps as investors look for further easing from the ECB as the Eurozone sinks slowly toward recession.  However, in Japan, JGB yields rose 3bps as data overnight showed inflation remains above target and expectations for another rate hike in the first half of the year rise.

In the commodity markets, oil (-0.35%) continues to chop around in the middle of its trading range with no strong directional impulse (see chart below).

Source: tradingeconomics.com

It is very difficult to know how to view this market in the short run given the potential for disruptions by tariffs and even more sanctions, but nothing has changed my long-term view that there is plenty of oil around and prices will remain here or decline.  In the metals markets, both gold and silver are little changed on the morning although both have been in the midst of a strong rally with gold making new all-time highs in the cash market yesterday.  Copper (-0.7%) is offered this morning but is still much higher than at the beginning of the month/year.

As to the dollar, it is modestly firmer this morning rallying against most of its G10 counterparts, but not by very much, 0.3% (JPY) at most.  Versus its EMG counterparts, though, there is more strength with PLN (-0.6%) and ZAR (-0.4%) both under a bit of pressure.  The latter is responding to ESKOM, the national electrical utility, announcing that they may need to impose rolling blackouts to help repair parts of the grid.

On the data front, this morning brings Personal Income (exp 0.4%) and Spending (0.5%) but of more importance it brings PCE (0.3%, 2.6% Y/Y) and core PCE (0.2%, 2.8% Y/Y) along with the Chicago PMI (40.0) release at 9:45.  We also hear our first post-meeting Fed speaker, Governor Bowman, this morning but it would be shocking if she said anything other than they are going to be patient to watch inflation slowly move toward their target, almost as if by magic.

Once again, tape bombs are the biggest risk, as they will be for the next four years, but I imagine all eyes will be on Trump and the tariffs as the key driver.  For now, nothing has dissuaded me from my view the dollar is more likely to rise than fall, but we need to see how things evolve.

Good luck and good weekend

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No Reprieve

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The scuttlebutt had it correct
Trudeau hit the button, eject
But he’s yet to leave
And there’s no reprieve
His legacy will be neglect

 

Those reports from yesterday morning were spot on as around 11:00am, PM Trudeau announced that he would, in fact, be stepping down.  There is a somewhat convoluted process involved which sees the Canadian Parliament prorogued until late March, while the ruling Liberal party seeks a new leader.  At that point, Parliament will be called back into session, and it seems likely a vote of no confidence will be held.  Assuming that vote goes against the new leader, an election will be called.  No matter how long the Liberals delay this process, and you can bet they will hang on for as long as possible, by October, an election is required.  As well, currently all things point to the Conservative party led by Pierre Poilievre winning that election and taking power with a significant majority.  Obviously, Poilievre would like the election to happen sooner, rather than later, but it seems hard to believe now, regardless of the new Liberal leader, that the Conservatives will fail to win.

The market impact of this news needs to be separated from the broader drivers, but as I showed yesterday, CAD had been weakening more quickly than the dollar writ large, and now it seems to be moving back into line with the general movement as per the below chart showing the movements between the DXY and USDCAD right on top of each other. 

Source: tradingeconomics.com

My sense is that Canada has now had its day in the sun and will soon retreat to the background of most market consciousness going forward.  After all, despite it being our largest trading counterparty, it has a small population and small economy with limited impact on the global situation.

Certification’s complete
And Trump, in two weeks, takes his seat
Between now and then
Again and again
Prepare for a surfeit of Tweet(s)

In truth, aside from the Canadian story, the bulk of the discussion in both financial and political circles is focused on exactly what President Trump will do when he is inaugurated on the 20th.  The biggest financial discussion revolves around tariffs and exactly how he plans to utilize them going forward.  For the surface thinkers, tariffs are an unadulterated bad policy with significant negative consequences.  As well, the idea that tariffs = higher dollar is axiomatic to these people.  In fact, yesterday’s reversal in the dollar’s recent substantial gains was based entirely on a story that despite some campaign rhetoric of large tariffs imposed on Day 1 of the new Trump administration, in fact things would be far more nuanced.

While I understand the economic case behind tariffs driving the dollar higher (nations hit with tariffs will devalue their currency sufficiently to offset the tariff and allow their exports to remain competitive in the US), I have always been suspect of that theory and logic.  First, we can look at Trump’s first term and see how things played out.  The chart below of USDMXN, a tariff target, shows that, in fact, initially the peso strengthened upon Trump’s inauguration and range traded for the bulk of his term, only weakening substantially during the Covid market dislocations.

Source: tradingeconomics.com

We can look at USDCNY as well and see that over Trump’s first term, there were several large ebbs and flows in the yuan but that, in fact, CNY was stronger vs. the dollar at the end of his term than at the beginning.  Again, this assumption the dollar will appreciate strongly because of tariffs is a talking point, not an empirical reality.

Source: tradingeconomics.com

The other thing to remember about Trump (although it is not clear how you can forget it) is that he is a businessman, not a politician.  He is very transactional and wants to make deals.  I am a strong proponent of the idea that Trump sees tariffs as a negotiating tool and while he is a man of great bluster in his public pronouncements, his ultimate goal remains clearly to achieve his sense of fairness in trade relations.  If his belief is that a nation is maintaining a weak currency to enhance its mercantilist model, Trump will respond aggressively.  Ultimately, I believe a large part of the angst that is evident in governments around the world is that Trump will not behave in a diplomatic manner and will call out all the problems he sees or believes.  And other governments are uncomfortable with their own dirty laundry left to air dry.  While I continue to believe that inflation remains far stickier than the Fed is willing to admit now, nothing has changed my view that the Fed will not cut again and may be forced to raise rates before the year ends.  And that will support the dollar!

Ok, let’s turn to the overnight session.  After a mixed Wall Street performance, where the Mag7 continue to shine, but not so much else, we saw the Nikkei (+2.0%) rally sharply as well, following the NASDAQ.  Chinese shares (CSI 300 +0.7%, Hang Seng -1.2%) were split with the former benefitting from the reduced tariff story while the Hang Seng suffered largely on the back of Tencent Holdings being named a military contractor by the US DOD with its shares tumbling 8% in the US and HK.  Elsewhere in the region, there were both gainers and laggards but nothing of any note in either direction.  In Europe, UK shares (-0.3%) are under pressure as 30yr Gilt yields have risen to their highest level since 1998, an indication that investors are becoming concerned over the UK’s future path.  For context, current levels are 50bps above those which triggered the October 2022 gilt crisis and spelled the end of PM Liz Truss’s time in office.  Meanwhile, continental bourses are modestly higher led by the CAC (+0.6%) which seems to be benefitting from both the lower tariff story as well as hopes that Chinese stimulus will support the luxury goods sector.  As to US futures, at this hour (7:05) they are essentially unchanged.

In the bond market, yields are continuing to edge higher everywhere with Treasuries up 1bp and European sovereign yields higher by between 2bps and 4bps across the board.  Asian government bond markets continue to sell off as well, with yields there climbing in Japan and Australia and even Chinese 10yr yields edging higher by 1bp.  As long as central banks around the world insist that rate cuts are the future (and most of them do) look for bond yields to continue to climb.

In the commodity space, oil (+0.8%) continues to hold its own as trading activity remains modest and hopes are pinned on Chinese stimulus.  NatGas (-3.2%) is backing off its highs as the winter storm has passed (although it is still really cold here!) while the metals markets are performing well.  Gold (+0.5%) continues to trade either side of $2650/oz as speculators await the next major leg.  However, silver (+1.1%) and copper (+0.5%) have both bounced nicely from recent lows as specs look for another breakout higher.

Finally, the dollar is under modest pressure this morning compared to yesterday’s closing levels but is actually slightly firmer than when I wrote yesterday morning.  My point is that while it has been selling off from its peak late last week, there is no collapse coming and all eyes will be turning toward the data later this week to see if the Fed will have room to ease further, or if the NFP report will once again show strength and push any further rate cuts off in time.  The leading gainer in the G10 is NZD (+0.65%) which is benefitting from a combination of higher commodity prices, hopes for more Chinese stim and the tariff reduction story.  But for the rest of the market, 0.2% gains are the norm with only JPY (-0.15%) bucking the trend.

On the data front, this morning brings the Trade Balance (exp -$78.0B) as well as ISM Services (53.3) and JOLTS Job Openings (7.70M).  Yesterday’s PMI data while solid was softer than forecast and Factory Orders, too, were a tick lower than expected at -0.4%.  First thing this morning we will hear from Richmond Fed president Barkin who has been on the more hawkish side lately.  After the weekend chorus that cuts needed to be deliberate, I expect more of the same here.

For now, the broad themes remain unchanged, higher US yields on the back of inflation concerns forcing the Fed to reverse course this year.  But on a day-to-day basis, it would not be surprising to see the dollar continue to give back some of its recent gains given the significant size and speed with which they were attained.  I still like hedgers picking levels and leaving orders to buy dollars a bit cheaper from here.

Good luck

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Think More Than Twice

Posted on by

The verdict, as best I can tell
Is Trump and his new personnel
Are being embraced
So, buy risk, post-haste
Lest owners all choose not to sell!
 
And yet there seems always a price
Where owners will sell in a trice
But if it’s that high
It just might imply
It’s worth it to think more than twice

 

Euphoria is one way to describe what we have seen in markets over the past several sessions, with substantial gains across both equity and bond markets while havens like gold and the dollar have been discarded. Insanity may be a better way to do so.  Regardless of your description, the facts are that risk assets have been consistently higher since the election results and there is a palpable excitement about how the future, at least for markets, will unfold.  I hope all this excitement is not misplaced, but it is still early days.  Just remember, that whatever ideas are currently being bandied about regarding Trumpian policies, it is almost certain that the reality will not quite live up to the hype.

Consider, too, for a moment just how different the impact will be on different markets.  The obvious first thought is China, where we have seen a significant divergence between the S&P 500 and the CSI 300 over the past week as seen in the chart below.  

Source: tradingeconomics.com

My point is all that euphoria is very country specific.  After all, yesterday’s comments by President-elect Trump that on day one he will impose tariffs of 25% on all imports from both Mexico and Canada had the expected impact on their currencies, weakening both substantially.  In fact, it is quite interesting to look at a longer-term chart of USDCAD and see that this is the third time in the past decade the exchange rate has traded above 1.40.  The previous two times were the beginnings of Covid, amid massive risk-off trading…and in 2016 when Mr Trump was previously elected president.

Source: tradingeconomics.com

I assure you that whatever China decides to do, and they have many inherent strengths as well as weaknesses, both Mexico and Canada are going to ultimately concede to whatever Trump wants as they cannot afford to ignore it.  In fact, my take is that the reason so many political leaders around the world are distraught is because they recognize that they are going to have to change their policies to keep in Trump’s good graces.  To me, the implication is that we are due for much more volatility as markets respond to all the changes that are coming.

And that should be our watchword going forward, volatility.  We live in a time where previous theories that led to previous policies are being questioned and upended.  We are also living through what appears to be the end of the Pax Americana era, where the US is turning its focus inward rather than concerning itself with pushing its brand globally.  These realignments are going to be ongoing for quite a while, and as new models will need to be developed and implemented, in both the public and private sectors, outcomes are going to remain quite uncertain for a while.  It is this that will drive all the volatility.  Once again, I urge hedgers to keep this in mind and maintain robust hedging programs as risk mitigation is going to be critical for future performance.

Ok, so let’s look at how things turned out overnight.  While the rally in the US equity market continues, especially in value and small-cap stocks, the story in Asia was far less positive with declines in Japan (-0.9%), China (-0.2%) and Australia (-0.7%) and almost every regional exchange in the red overnight.  This seems a direct response to the resurgence of tariff talk from Trump and I expect may be the guiding force for a while yet, perhaps even until the Inauguration.  Of course, we could also see some nations capitulating quickly in an effort to gain favor and I would expect those markets to reflect a more positive stance in that situation.  Neither is Europe immune from tariff talk as every bourse on the continent is weaker this morning amid concerns that tariffs are coming for them as well.  In addition, Trump has made it clear he is uninterested in supporting the Ukraine effort which means that either Europe will need to spend more money, or the map is going to change in an uncomfortable manner.  As to US futures, at this hour (7:20) they are modestly firmer.

In the bond market, yesterday saw the largest rally (-14bps) since the July NFP report showed Unemployment jumped to 4.3% in early August and triggered all sorts of claims that recession had started.  Yesterday’s catalyst was far more ambitious, ascribing success to Treasury Secretary selection Scott Bessent’s ability to rein in the fiscal deficit.  That bond rally dragged European sovereign yields lower, although a much smaller amount, 3bps-5bps, and this morning things are back to more normal trading with Treasury yields unchanged while Europeans are generally trading with yields lower by -2bps.  Certainly, if fiscal issues are successfully addressed, the opportunity for bond yields to decline exists, but this seems like a lot of hope right now.

In the commodity markets, gold had its worst day in forever, falling $110/oz although it is rebounding a bit this morning, up $21/oz or 0.8%.  That move seemed entirely driven by this same euphoria that has been underpinning both stocks and bonds, namely the future is bright, and havens are no longer needed.  Silver, too, had a rough day yesterday and is rebounding this morning, +1.4%, while copper sits the whole move out.  Oil (+0.8%) sold off yesterday amid the same risk thoughts as well as the news that an Israeli/Hezbollah ceasefire may be coming soon, reducing Middle East risk.  In the short-term, the day-to-day vicissitudes of oil’s price are inscrutable to all but the most connected traders, but nothing has changed my longer term view, which has only been enhanced by Trump’s drill, baby, drill thesis, that there is plenty of oil around and sharp price rises are unlikely going forward.

Finally, the dollar seems to have put in a top last Friday and has been selling off since the Bessent announcement.  I’m not sure I understand the logic here as Bessent is seeking to increase real GDP growth while reducing the deficit, both of which strike me as dollar positives.  Perhaps the idea is interest rates will be able to be lower in that situation, thus undermining the dollar, but again, on a relative basis, it seems quite clear that the US remains in far better macroeconomic condition than virtually every other nation.  So, if the US is cutting rates, others will be cutting even faster.  However, that is where we are this morning, with both the euro (+0.5%) and pound (+0.4%) climbing alongside the yen (+0.7%).  Offsetting that is the Loonie (-0.7%) and MXN (-0.8%) as both are the initial targets of those potential tariffs.  It strikes me that we are likely to see a number of previous relationships break down as the tariff talk adjusts views on different national outcomes.  Once again, volatility seems the watchword.

On the data front, this morning brings Case-Shiller Home Prices (exp 4.8%), Consumer Confidence (111.3) and New Home Sales (730K) and then the FOMC Minutes are released at 2:00.  All eyes will be there as things have so obviously changed since the meeting earlier this month, including Chairman Powell’s downshifting on the rate cutting cycle.  You remember, he is no longer in a hurry to do so.  Interestingly, as of this morning, the futures market is pricing in a 60% chance of a cut next month, up from 52% yesterday morning.  Perhaps that is a result of yesterday’s Chicago Fed National Activity Index, a meta index looking at numerous other indicators, which printed at -0.40, much worse than the expected -0.20, and as can be seen below, has shown a consistent trend that growth may not be what some of the headline data implies.

Source: tradingeconomics.com

Remember, too, with the holiday on Thursday, tomorrow brings a huge data dump so macro models will be waiting to respond.  As well, given the holiday, liquidity is likely to be less robust than normal meaning price dislocations are quite possible.

My sense is the dollar’s decline is more of a profit taking exercise (recall it rallied more than 7% in a few months) than a change in the long-term fundamentals.  But it is always possible that the new administration’s policies will be focused on pushing the dollar down, although funnily enough I don’t think Trump really cares about that this time.  My take is he is far less concerned about growing exports than reducing imports and bringing production home.  We shall see.

Good luck

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A Modest Decrease

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On Friday, the latest release
For some, showed a modest decrease
In pace of inflation
Although observation
By others was not of that piece

 

As an indication of just how confusing everything is in the macroeconomic world, and how earnestly different pundits try to make their individual cases, the following two headlines were in the same email roundup of market and economic articles that I receive daily.

The Fed’s Favored Inflation Gauge Reinforces The Disinflationary Trend

Federal Reserve Watch: Inflation Not Dropping

Parsing a specific data point that is subject to so much revision is always a fraught activity, and this time is no different.  Did the PCE data Friday indicate the inflation trend is starting to head back down or not?  Beats me. Below are the forecasts and actual results as released Friday morning by the Bureau of Economic Analysis (BEA).  While the M/M Core PCE print was a tick lower than the consensus forecast, everything else was right there.  If anything, the fact that Personal Spending fell ought to be a bigger concern.

Source: tradingeconomics.com

So, ask yourself this question, based on the information above, is the disinflationary trend being reinforced?  Or is inflation still sticky and rising?  Personally, I don’t think we have enough information to have changed our views from whatever they were ahead of the release, but that’s just me.  If nothing else, perhaps this will help you understand just how little anybody really knows about the situation.  One other seeming anomaly is that the M/M Core PCE number was lower than expected, yet the Y/Y number was right on target.  Whatever your null hypothesis, it doesn’t seem as though there is enough new information in this report to reject it.  Of course, that didn’t stop the punditry!

In Mexico, voters have spoken
And Claudia Sheinbaum’s awoken
This morning as prez
From Roo to Juarez
Alas, now the peso’s been broken

In a historic, although completely expected outcome, Claudia Sheinbaum has been elected president of Mexico, the first woman to hold the office.  She is current president Lopez Obrador’s protégé as well as the former mayor of Mexico City.  Now, she will be ruling from Quintana Roo in the south to Ciudad Juarez in the north of the country.  However, perhaps the bigger news, at least from the market’s perspective, is that her party, Morena, looks like it will win a supermajority in both the House and Senate there.  This matters because it will allow congress to alter the constitution as they see fit with no checks against it.  Given that Morena is a left-wing party, markets have suddenly become concerned that there could be serious impacts to the nature of business in Mexico which might impact both strategic and operational questions.
 
Consider, part of Mexico’s attractiveness as a manufacturing base was its relatively low wages.  However, with this type of political control, it is not hard to believe that a much higher minimum wage would be imposed, perhaps only on companies that export goods, but one that would substantially reduce the profitability of those operations.  As well, changes in the constitution would now be achievable with no recourse.  Reduction of judicial independence and the removal of the presidential term limit are two key domestic issues that may be addressed and are garnering concern.  After all, the one thing we all know is that when one political party can change the rules without the opposition having a say, those rule changes are generally designed to maintain power in perpetuity.  History has shown that is not typically a great situation.
 
As to the market impact, under the rubric, a picture is worth 1000 words, behold the chart of the peso as of this morning.

Source: tradingeconomics.com

FX traders and investors have determined there is a great deal of risk attached to the overall election outcome, and the peso has suffered accordingly.  This morning it has fallen -2.6% and is showing no sign of slowing down.  Remember, the peso has been a favorite currency in the hedge fund world as the carry trade has been a huge winner since last October.  Not only did traders benefit from Mexico’s higher interest rates, but the currency appreciated nearly 10% as well from October through late May.  But as of this morning, MXN has weakened nearly one full peso from its level just two weeks ago.  I sense that many risk managers are forcing a lot of position unwinding as the broader concerns over the future direction of the country increase as per the above issues.  For those of you with MXN revenues or assets, this will be a tricky time as hedging remains very expensive.  For those with MXN expenses, flexibility will be key with option structures likely to be very effective right now.

However, beyond those stories, the overnight session was relatively muted.  PMI data was largely in line with expectations around the world, confirming that economies are not seeing either significant growth or weakness, but rather muddling through.  So, let’s see how markets behaved overall.

Friday’s late US rally was followed throughout Asia with the Nikkei (+1.1%), Hang Seng (+1.8%) and ASX 200 (+0.8%) all having solid sessions but pretty much all markets rallying overall.  European bourses are also having a good day led by the DAX (+0.85%) and Spain’s IBEX (+0.8%) with green being the dominant color on screens here as well.  US futures at this hour (6:45) are pointing higher, except for the Dow which is down ever so slightly.

In the bond market, yields are continuing their recent slide with Treasuries down 2bps this morning and 15bps from the levels seen just last Wednesday.  European sovereign yields are also lower this morning, but between 4bps and 6bps as it appears traders remain highly confident the ECB, which meets Thursday, will cut rates by 25bps despite last week’s firmer than expected CPI data there.  The fact that the PMI data was lackluster has probably helped this mindset.

In the commodity markets, oil prices have edged higher by 0.1% after OPEC+ laid out that they will maintain production cuts through 2025, but also created a process by which they would eventually grow production again.  Given the fact that there is no indication demand for oil has peaked, I expect that all that production and more will ultimately be needed.  In the metals markets, both precious and industrial metals are continuing their modest rebound after the recent selloff.  Of course, given the strength of the rally since March across the board here, more consolidation seems quite likely for a while.  However, I believe the direction of travel remains higher for all metals going forward.

Finally, in the FX markets, while the peso is the outlier, (now -3.4% just 45 minutes later than the earlier update), the dollar is mixed otherwise.  ZAR (+0.6%) is benefitting from the news that a coalition government is forming, and Cyril Ramaphosa is likely to remain president.   Meanwhile, KRW (+0.5%) rallied on the back of stronger PMI data.  However, the euro (-0.1%) and its CE4 acolytes are all softer this morning as there has been more saber rattling over Ukraine’s use of recently acquired long-range missiles and ammunition from the West to attack deeper into Russia.  Threats are now being made about an escalation of this conflict in terms of the sphere (i.e. Eastern Europe) and the tools (i.e. nukes), so the euro is feeling a little heat.

On the data calendar this week, there is a decent amount of new information culminating in the payroll report on Friday.  As well, we hear from both the Bank of Canada and the ECB this week.

TodayISM Manufacturing49.6
 ISM Prices Paid60.0
TuesdayJOLTS Job Openings8.34M
 Factory Orders0.6%
WednesdayADP Employment173K
 BOC Rate Decision4.75% (5.00% current)
 ISM Services50.5
ThursdayECB Rate Decision4.25% (4.50% current)
 Initial Claims220K
 Continuing Claims1798K
 Trade Balance-$76.0B
 Nonfarm Productivity0.3%
 Unit Labor Costs4.7%
FridayNonfarm Payrolls190K
 Private Payrolls170K
 Manufacturing Payrolls5K
 Unemployment Rate3.9%
 Average Hourly Earnings03% (3.9% Y/Y)
 Average Weekly Hours34.3
 Participation Rate62.7%
 Consumer Credit$10.5B
Source: tradingeconomics.com

So, lots to look forward to all week with two key central bank rate decisions and rate cuts seen as the most likely outcome.  As well, the payrolls will be a critical piece of the Fed discussion.  But mercifully, the Fed is in its quiet period so there will be no actual Fed discussion.

Last week, investors and traders got excited over the prospect that inflation was heading back toward target which would allow the Fed to finally cut rates.  However, that interpretation seems tenuous to me, as I do not see the data as pointing strongly in that direction.  Given it seems likely that both the BOC and ECB will be cutting rates, Friday’s data will be extremely important in helping us determine the tone of the FOMC meeting.  I believe we are seeing a growing split between the Fed governors and regional presidents with the former anxious to start easing policy while the latter see that as quite risky.  My take is that split will prevent any actions for quite a while as both sides argue their case and so any rate cuts will not be coming until next year at the earliest.  That is, of course, unless we see a significant economic downturn, which seems highly unlikely right now.  In the end, I think the dollar will maintain its value overall as the Fed remains the most hawkish central bank around.

Good luck

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Nirvana Awaits

Posted on by

While Powell and friends fail to see

Inflation rise dangerously

Down south of the border

They fear its disorder

And burden on society






So, Mexico shocked and raised rates





While Fedspeak back here in the States





Continues the story





It’s all transitory





And claiming Nirvana awaits





Mexico became the latest emerging market nation to raise interest rates when they surprised the analyst’s community as well as markets by raising their base rate by 0.25% yesterday afternoon to 4.25%.  The FX market response was swift and certain with the peso gaining more than 1.0% in the first minutes after the announcement although that has since slightly abated.  “Although the shocks that have affected inflation are expected to be of a transitory nature, given their variety, magnitude and the extended time frame in which they have been affecting inflation, they may pose a risk to the price formation process,” the Banxico board explained in their accompanying statement.  In other words, although they are paying lip service to the transitory concept, when CPI rose to a higher than expected 6.02% yesterday, it was apparently a step too far.  Expectations for further rate hikes have already been built into the markets while views on the peso are improving as well.





The juxtaposition yesterday of Mexico with the UK, where the BOE left policy rates on hold at 0.10% and maintained the QE program intact despite raising its inflation forecast to 3.0% for next year, is quite interesting.  Historically, it was the emerging market central banks who would seek growth at any cost and allow inflation to run hot while trying to support the economy and the developed market central banks who managed a more disciplined monetary policy, working to prevent inflation from rising while allowing their economy’s to grow without explicit monetary policy support.  But it seems that another symptom of the Covid-19 pandemic is that it has reversed the ‘polarity’ of central bank thinking.  Mexico is the 4th major EMG nation (Russia, Brazil and Poland are the others) to have raised rates and are anticipated to continue doing so to combat rising prices.  Meanwhile, when the Bank of Canada reduced the amount of its QE purchases, it was not only the first G10 bank to actually remove some amount of monetary largess, it was seen as extraordinary.  





In the States, yesterday we heard from six more Fed speakers and it has become evident that there are two distinct views on the FOMC as to the proper course of action, although to a (wo)man, every speaker exclaimed that inflation was transitory.  Several regional Fed presidents (Bullard, Bostic and Kaplan) are clearly in the camp of tapering QE and potentially raising rates by the end of next year, but the Fed leadership (Powell, Clarida, Williams) are adamantly opposed to the idea of tightening policy anytime soon.  And the thing is, the hawks don’t even have a vote this year, although they do get to participate in the conversation.  The upshot is that it seems highly unlikely that the Fed is going to tighten policy anytime at all this year regardless of inflation readings going forward.  While ‘transitory’ has always been a fuzzy term, my take has always been a 2-3 quarter view, but yesterday we started to hear it could mean 2 years or more.  If that is the case, then prepare for a much worse ultimate outcome along with a much weaker dollar.





As markets and investors digest the latest central bank dogma, let us peruse the latest price action.  Yesterday’s equity market price action led to yet another set of new all-time highs in US indices and even Mexico’s Bolsa rose 0.75% after the rate hike!  Overnight saw a continuation of that view with the Nikkei (+0.65%), Hang Seng (+1.4%) and Shanghai (+1.15%) all rallying nicely.  Perhaps a bit more surprisingly this morning has seen a weaker performance in Europe (DAX -0.15%, CAC -0.1%, FTSE 100 +0.1%) despite slightly better than expected Confidence data out of Germany and Italy.  As vaccinations proceed apace on the continent, expectations for a renewed burst of growth are rising, yet today’s stock markets seem unimpressed.





At the same time, despite all the Fedspeak and concern over inflation, the 10-year Treasury yield has basically been unchanged all week and seems to have found a new home at 1.50%, right where it is now.  Since it had been a harbinger for markets up until the FOMC meeting last week, this is a bit surprising.  As to Europe, bonds there are actually under some pressure this morning (Bunds +1.7bps, OATs +2.9bps, Gilts +1.2bps) although given equity market performance, one is hard-pressed to call this a risk-on move.  Perhaps these markets are responding to the better tone of data, but they are not in sync with the equity space.





In commodity markets, prices are mixed this morning.  While oil (-0.25%) is softer, gold (+0.5%) and silver (+1.0%) are looking awfully good.  Base metals, too, are having a better session with Cu (+0.4%), Al (+1.5%) and Sn (+0.2%) all performing well.  Crop prices are also rising, between 0.25% and 0.5%.  Fear not for oil, however, as it remains firmly ensconced in its uptrend.





And lastly, in FX markets, the dollar is under modest pressure across most of the G10, with the bulk of the bloc firmer by between 0.1% and 0.2%, and only GBP (-0.2%) softer.  While we did see a slightly weaker than expected GfK Consumer Confidence number for the UK last night (-9 vs. expected -7) we also just saw CBI Retail Sales print at a much better than expected level.  In the end, it is hard to ascribe the pound’s movement, or any of the G10 really, to data.  It is far more likely positions being adjusted into the weekend.





In the emerging markets, the dollar is having a much tougher time with ZAR (+1.0%) and KRW (+0.6%) the leading gainers, but a number of currencies showing strength beyond ordinary market fluctuations.  While the rand’s move seems outsized, the strength in commodity prices is likely behind the trend in ZAR lately.  As to KRW, it seems that as well as the general risk on attitude, the market is pricing in the first policy tightening in Seoul and given the won’s recent mild weakness, traders were seen taking advantage to establish long positions.





We have some important data today led by Personal Income (exp -2.5%), Personal Spending (0.4%) and Core PCE (0.6% M/M, 3.4% Y/Y).  Then at 10:00 we see Michigan Confidence (86.5).  I want to believe the PCE data is important, but I fear that regardless of where it prints, it will be ignored as a product of base effects and so not a true reflection of the price situation.  Yesterday, Claims data was a bit worse than expected as was Durable Goods.  This is not to say things are collapsing, but it is growing more and more apparent, at least based on the data, that the peak in the economy has already been seen.  In fact, the Atlanta Fed GDPNow model has fallen back below 10.0% and appears to be trending lower.  The worst possible outcome for the economy would be slowing growth and rising inflation, and I fear that is where we may be heading given the current fiscal and monetary policy settings.  





That combination will be abysmal for the dollar but is unlikely to be clear before many more months have passed.  For now, I expect the dollar will revert to its risk profile, where risk-on days will see weakness and risk-off days see strength.  Today feels far more risk-on like and so a little further dollar weakness into the weekend seems a reasonable assumption.





Good luck, good weekend and stay safe





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			They Haven’t the Nerve
		


				

			Posted on  by 		

			


		

		
It’s not just the Federal Reserve

Who thinks that inflation’s steep curve

Is likely short-term

And so reconfirm

For rate hikes, they haven’t the nerve


In Mexico, Chile, Peru

Each central bank chose to eschew

The chance to raise rates

For like in the States

They pray that inflation’s not true


Inflation remains the key talking point in every market these days.  This means not just equity, bond and commodity markets, but also geographically, not just the US, but literally every country in the world.  And in every one of these situations the two camps remain strongly at odds over the likely permanence of rising prices.  In the US, of the 16 current members of the FOMC, only one, Dallas’s Richard Kaplan, is concerned that inflation may be more than transitory.  Meanwhile the Bank of Canada has already made their move to begin tapering QE over concerns that rising inflation may become a bigger problem in the future.


Of course, inflation is not just a G10 phenomenon, it is a global one, arguably more so an issue in emerging markets than in developed ones.  Given the timing of recent central bank actions, I thought it would be interesting to take a quick look at Latin America for a sense of how other nations are dealing with rising prices.


Mexico – Banco de Mexico left its overnight rate at 4.00% for the third consecutive month yesterday despite the fact that CPI is running at 6.08% and they are currently focused on targeting 3.0% inflation.  Clearly, those numbers don’t seem to go together well, but the explanation is that the disappointingly slow rebound in the economy after last year’s Covid induced disaster has the central bank determined to help support economic growth at the risk of allowing higher inflation to become entrenched.  Not only that, they have committed to maintaining policy rates here until growth picks up further.  Look for higher inflation going forward.


Chile – Banco Central de Chile left its overnight rate at a record low of 0.50% yesterday for the 13th consecutive month despite the fact that inflation is running at 3.3%, above its 3.0% target, and trending sharply higher.  While the rise in copper prices has been an extraordinary boon to the country, given its reliance on the metal for so much of its export earnings (nearly 30%), the economy is still recovering from last year and the central bank deemed economic support, especially in this time of political uncertainty, more important than price stability.


Peru – Banco Central de Reserva del Peru left its rate at 0.25%, also a record low, for the 13th consecutive month despite the fact that inflation is running at 2.4% vs. BCRP’s 2.0% target.  Here, too, political considerations are in the mix given the upcoming second round of presidential elections and the concern that a little known left-wing school teacher may become president next month.  Here, too, the board explained that policy was appropriate for the current situation despite higher than desired inflation.


These moves contrast with Brazil, which raised rates last week by 0.75%, to 3.50%, for the second consecutive meeting and are set to do so again in June.  Of course, CPI in Brazil, which is targeted at 3.0%, is currently running at 6.76% and climbing quickly.  If it weren’t for Argentina (CPI 46.3%) Brazil would be suffering the worst inflation in Latin America.  (I exclude Venezuela here as it is impossible to measure the inflation rate given the utter collapse of the economy and monetary system.)


It seems that the central banking community is filled with a great number of people who are either innumerate or highly political.  Neither of these characteristics make for an effective and independent central bank, and given the plethora of central bankers worldwide who exhibit these tendencies, it is a fair bet that rising prices are going to be a feature of our lives, no matter where we live, for a long time to come.  The point is, it is not just the Fed that is willfully blind to the evidence of rising prices, it is a widely held viewpoint.


Today, however, the markets have decided to agree with the predominant central bank view that inflation is a transitory phenomenon as evidenced by the fact that risk appetite is back in vogue.  It starts with the bond market, where Treasury yields are falling (-1.9bps) and now 6 basis points below the levels reached after Wednesday’s CPI data.  Yesterday’s PPI data, though also higher than expected, had virtually no impact on markets.  In Europe, Gilts (-3.1bps) are also rallying along with Bunds (-0.8bps) although French OATs are flat on the day.


This renewed confidence in a lack of inflation scare has had a much bigger impact on the equity markets, where once again, buying the dip seemed to be the correct move.  Asia saw robust gains (Nikkei +2.3%, Hang Seng +1.1%, Shanghai +1.8%) and Europe is having a solid day as well (DAX +0.7%, CAC +0.7%, FTSE 100 +0.7%).  US futures are pointing to a continuation of yesterday’s rally with NASDAQ (+1.0%) leading the way, but all three indices higher by at least 0.5%.


Commodity prices are rising led by oil (+1.25%) and precious metals (Au +0.5%, Ag +0.7%) although the base metals are a bit more mixed (Cu -0.8%, Fe -5.2%) after China instituted price restrictions against steel producers in order to try to quash the recent explosion higher in steel prices.


As to the dollar, it should be no surprise that it is broadly softer this morning against both its G10 and EMG counterparts.  NOK (+1.1%) leads the way higher on the back of oil’s rally but we are seeing solid gains in NZD (+0.6%) and SEK (+0.5%) on the back of broadly positive risk appetite.  In the EMG bloc, only TWD (-0.03%) managed to lose any ground after another day of significant foreign equity outflows and an uptick in Covid cases.  Otherwise it is all green led by TRY (+0.85%), HUF (+0.6%) and MXN (+0.45%).  Turkey’s lira, which is approaching all time lows appears to be seeing a simple trading bounce as there is no news to drive things.  Mexico is clearly benefitting from the oil rally while Hungary’s forint is the beneficiary of a growing belief that the central bank there is going to raise rates to fight rising inflation.  As I said, there are several central banks that still try to focus on reality rather than wishful thinking, but they seem to be few and far between.


This morning brings Retail Sales (exp 1.0%, 0.6% ex autos) as well as IP (0.9%), Capacity Utilization (75.0%) and Michigan Sentiment (90.0).  On the central bank front, only Richard Kaplan, the lone hawk standing, speaks today, so look for more discussion about the need to think about tapering QE.  The thing is, the market is fully aware that he has no support in this stance and so it will not likely have any impact.


With the inflation scare behind us for at least another two weeks (Core PCE will be released at the end of the month), it seems the way is open for more risk-on sentiment.  This means bond yields are unlikely to rise very much and the dollar will therefore remain under pressure.


Good luck, good weekend and stay safe

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			Enough Wherewithal
		


				

			Posted on  by 		

			


		

		
The Chairman explained to us all

The Fed has enough wherewithal

To counter the outbreak

But, too, Congress must take

More actions to halt the shortfall


The US equity markets led global stocks lower after selling off in the wake of comments from Chairman Powell yesterday morning. In what was a surprisingly realistic, and therefore, downbeat assessment, he explained that while the Fed still had plenty of monetary ammunition, further fiscal spending was necessary to prevent an even worse economic and humanitarian crisis. He also explained that any recovery would take time, and that the greatest risk was the erosion of skills that would occur as a huge swathe of the population is out of work. It cannot be a surprise that the equity markets sold off in the wake of those comments, with a weak session ending on its lows. It is also not surprising that Asian markets overnight followed US indices lower (Nikkei -1.75%, Hang Seng -1.45%, Shanghai -1.0%), nor that European markets are all in the red this morning (DAX -1.6%, CAC -1.7%, FTSE 100 -2.2%). What is a bit surprising is that US futures, at least as I type, are mixed, with the NASDAQ actually a touch higher, while both the Dow and S&P 500 see losses of just 0.2%. However, overall, risk is definitely on its back foot this morning.


But the Chairman raised excellent points regarding the timeline for any recovery and the potential negative impacts on economic activity going forward. The inherent conflict between the strategy of social distance and shelter in place vs. the required social interactions of so much economic activity is not a problem easily solved. At what point do government rules preventing businesses from operating have a greater negative impact than the marginal next case of Covid-19? What we have learned since January, when this all began in Wuhan, China, is that the greater the ability of a government to control the movement of its population, the more success that government has had preventing the spread of the disease. Alas, from that perspective, the inherent freedoms built into the US, and much of the Western World, are at extreme odds with those government controls/demands. As I have mentioned in the past, I do not envy policymakers their current role, as no matter the decision, it will be called into question by a large segment of the population.


What, though, are we now to discern about the future? Despite significant fiscal stimulus already enacted by many nations around the world, it is clearly insufficient to replace the breadth of lost activity. Central banks remain the most efficient way to add stimulus, alas they have demonstrated a great deal of difficulty applying it to those most in need. And so, despite marginally positive news regarding the slowing growth rate of infections, the global economy is not merely distraught, but seems unlikely to rebound in a sharp fashion in the near future. Q2 has already been written off by analysts, and markets, but the question that seems to be open is what will happen in Q3 and beyond. While we have seen equity weakness over the past two sessions, broadly speaking equity markets are telling us that things are going to be improving greatly while bond markets continue to point to a virtual lack of growth. Reading between the lines of the Chairman’s comments, he seems to be siding with the bond market for now.


Into this mix, we must now look at the dollar, and its behavior of late. This morning had seen modest movement until about 6:30, when the dollar started to rally vs. most of its G10 counterparts. As I type, NOK, SEK and AUD are all lower by 0.5% or so. The Aussie story is quite straightforward as the employment report saw the loss of nearly 600K jobs, a larger number than expected, with the consequences for the economy seen as potentially dire. While restrictions are beginning to be eased there, the situation remains one of a largely closed economy relying on central bank and government largesse for any semblance of economic activity. As to the Nordic currencies, SEK fell after a weaker than expected CPI report encouraged investors to believe that the Riksbank, which had fought so hard to get their financing rate back to 0.00% from several years in negative territory, may be forced back below zero. NOK, however, is a bit more confusing as there was no data to see, no comments of note, and the other big key, oil, is actually higher this morning by more than 4%. Sometimes, however, FX movement is not easily explained on the surface. It is entirely possible that we are seeing a large order go through the market. Remember, too, that while the krone is the worst performing G10 currency thus far in 2020, it has managed to rally more than 7% since late April, and so we are more likely seeing some ordinary back and forth in the markets.


One other comment of note in the G10 space was from BOE Governor Andrew Bailey, who reiterated that negative interest rates currently have no place in the BOE toolkit and are not necessary. While the comments didn’t impact the pound, which is lower by 0.25% as I type, it continues to be an important distinction as along with Chairman Powell, the US and the UK are the only two G10 nations that refuse to countenance the idea of NIRP, at least so far.


In the emerging markets, what had been a mixed and quiet session earlier has turned into a pretty strong USD performance overall. The worst performer is ZAR, currently down 0.9% the South African yield curve bear-steepens amid continued unloading of 10-year bonds by investors. But it is not just the rand falling this morning, we are seeing weakness in the CE4 (CZK -0.7%, HUF -0.5%, PLN -0.4%) and once again the Mexican peso is finding itself under strain. While the CE4 appear to simply be following the lead of the euro (-0.35%), perhaps with a bit more exuberance, I think the peso continues to be one of the more interesting stories out there.


Both MXN and BRL have been dire performers all year, with the two currencies being the worst two performers in the past three months and having fallen more than 20% each. Both currencies continue to be extremely volatile, with daily ranges averaging in excess of 2% for the past two months. The biggest difference is that BRL has seen a significant amount of direct intervention by the BCB to prevent further weakness, while MXN continues to be a 100% free float. The other thing to recall is that MXN is frequently seen as a proxy for all LATAM because of its relatively better liquidity and availability. The point is, further problems in Brazil (and they are legion as President Bolsonaro struggles to rule amid political fractures and Covid-19) may well result in a much weaker Mexican peso. This is so even if oil prices rebound substantially.


Turning to data, we see the weekly Initial Claims number (exp 2.5M) and Continuing Claims (25.12M), but otherwise that’s really it. While we have three more Fed speakers, Kashkari, Bostic and Kaplan, on the calendar, I think after yesterday’s Powell comments, the market may be happier not to hear their views. All the evidence points to an overbought risk atmosphere that needs to correct at some point. As that occurs, the dollar should retain its bid overall.


Good luck and stay safe

Adf

			

	
	



				
					


	

		

			A Bit Out of Sorts
		


				

			Posted on  by 		

			


		

		
The ECB stepped to the plate

Effectively cutting the rate

At which it will lend

To help countries spend

As well, to help prices inflate


But last night some earnings reports

Put traders a bit out of sorts

And too, from Down Under

It’s really no wonder

The data inspired some shorts


With many markets globally closed today for the May Day holiday, one would have expected fairly limited price action overall. One would have been wrong. In fact, despite the best efforts of the ECB yesterday to demonstrate further support for the European economies, it turns out that disappointing data has suddenly been recognized. This data story started last evening with key Tech earnings reports from two of the FAANG stocks, both disappointing on the profit side and calling into question the ability of even these companies to be able to withstand the remarkable demand shrinkage caused by Covid-19.


Then, though most of Asia was closed for the holiday, Australia (Manufacturing Index) and New Zealand (Consumer Confidence) both reported weaker than expected economic data. Suddenly, it seems that data was an important issue for markets, a change of recent heart. And there is one more thing to remember, the calendar turned the page. The calendar matters because, especially given the remarkable price action in April, there was a significant amount of month-end rebalancing in institutional portfolios. Remember, we saw a sharp rally in stocks, so it should be no surprise that they were sold off in order for portfolios to get back to desired asset allocations.


Taking it all together resulted in some serious equity market declines in the few markets open overnight, with the Nikkei (-2.85%) and Australia’s ASX 200 (-5.0%) putting in truly awful performances. Meanwhile, in Europe, only the FTSE 100 is trading today, and it is lower by 2.1%. US futures are following suit, currently down around 2.0% across the board.


So, what of the ECB’s actions? Well, they effectively cut interest rates by lowering the rate at which TLTRO funds are borrowed by 0.25%, to -0.25%. That means that Eurozone banks which lend new money to companies can earn to fund themselves. A pretty sweet deal if they charge a positive rate on the loans. In addition, they created yet another loan program, the PELTRO, which has even lower rates, as low as -1.0% funding costs for banks lending under this criterion. Of course, the problem remains that while many companies may borrow in order to try to get through the current ceasing of activity, future growth opportunities will simply be further hindered by the additional debt on corporate balance sheets. Two other things of note from the ECB are that they did not increase their QE programs as there remains considerable concern that the German Constitutional Court may rule next week that QE is illegal, essentially funding governments throughout the Eurozone, and that will call into question everything they have done. The second was the dire forecast from Madame Lagarde that Eurozone growth could see GDP shrink 12% in 2020, which if you consider yesterday’s Q1 data (-3.8% Q/Q) implies a modest rebound by year end.


Turning to the FX markets, it can be no surprise that both AUD (-1.0%) and NZD (-0.8%) are the worst performing currencies in the G10 space. Not only did both report lousy data, but both (AUD +17%, NZD +13%) have been rallying pretty steadily since their nadir on March 19. Thus, if the paradigm is changing back to the future is not as bright, I would look for both these currencies to give up much of last month’s rally. Meanwhile, the oil proxies, CAD (-0.6%) and NOK (-0.7%) are both suffering from oil’s modest declines this morning, with WTI ceding about 2.0% of its recent spectacular gains. After all, even ignoring the odd dip into negative territory two weeks ago, oil has rallied more than 200% since that fateful day, based on the June WTI contract. On the plus side, we see JPY (+0.35%) on what appears to be a modest risk-off trade, leading the way higher, with the rest of the bloc +/- 0.2% and lacking any new information.


EMG currencies have been largely spared movement overnight as the APAC bloc was closed for the holiday although CNH has managed to fall 0.6% in the absence of a domestic market. The three main deliverable EMG currencies, MXN (-1.4%), ZAR (-1.4%) and TRY (-0.7%) have a decidedly risk-off tone to their price action, with the peso being truly impressive. Since Tuesday, we have seen MXN first rally 5.0% then decline 4.1% from its peak. Net it is stronger, but the current trend seems to point to further weakness. Again, if the risk appetite from April begins to wane further, these currencies have the opportunity to fall significantly.


On the data front, this morning brings Construction Spending (exp -3.5%) and ISM Manufacturing (36.0) with the Prices Paid (33.0) and New Orders (30.0) indices looking equally dire. Yesterday we learned that Personal Income fell sharply, and Personal Spending fell even more sharply, a record-breaking 7.5% decline. Initial Claims data was a touch weaker than the median forecast at 3.84M with Continuing Claims (which lag the Initial claims data by a week) not rising quite as much as expected, to ‘just’ 18.0M.


Ultimately, the history of Covid-19’s impact will be written as the most extraordinary destruction of demand in history. The US (and global) economy had evolved from a manufacturing base a century ago, to a service-based economy par excellence. Nobody considered what shelter-in-place and social distancing would do to that construct. It is becoming increasingly clear that the answer to that is those restrictions will cause extreme economic damage that is likely to take several years to recoup. Alas, we are not done with this disease, and the restrictions will continue to wreak havoc on the global economy, and asset values, for a while yet. We have not seen the last of risk-off, nor the last of the dollar’s strength.


Good luck, good weekend and stay safe

Adf