Much Darker Moods

Five decades of trade under GATT
Resulted in policies that
Increased global trade
While tariffs did fade
And taught us the term, technocrat

Then followed the WTO
And new rules that they did bestow
The Chinese then joined
(And some say purloined)
Much IP which helped them to grow

But in the past year attitudes
Have shifted to much darker moods
So trade growth is slowing
As nations are showing
A willingness to stir up feuds

It seemed that half the stories in the press today were regarding trade issues around the world, notably the ongoing US-China trade talks, but also the struggle for the EU and China to put together a communique after a locally hyped trade summit between the two. Shockingly the EU is also unhappy with Chinese IP theft and their subsidies for state-owned companies that compete with European companies. Who would have thunk it? But in their ongoing efforts to maintain the overall world trade order, they found some things on which they could agree in order to prevent the meeting from becoming a complete fiasco.

In addition, today we hear from the IMF with their latest global economic updates that are widely touted to have an even more pessimistic view than the last one which, if you recall, produced substantial downgrades in economic growth forecasts. IMF Managing Director Christine LaGarde has been quite vocal lately about how all the trade spats are slowing global growth and she continues to exhort everyone to simply get back to the old ways. Alas, the trade toothpaste is out of the tube and there is no putting it back. It will likely be several more years before new deals are inked and the new trading framework fleshed out. In the meantime, expect to see periodic, if not frequent, discussions on the benefits of free trade and the good old days.

The question remains, however, if the good old days was really ‘free’ trade. Arguably, the fact that there are now so many ongoing trade issues globally is indicative of the fact that, perhaps, freedom was in the eye of the beholder. And those voters who saw their jobs disappear due to the ‘benefits’ of free trade, have clearly become a lot more vocal. Like virtually everything else in life, the case can be made that trade sentiment is cyclical, and there is a strong argument that we have seen peak trade for this cycle. The reason this matters for the FX market is that restrictions on trade will result in changing fortunes for economies and changing flows in currencies. It is still far too early to ascertain the direct impact on many currencies, although given the increasing probability that this will reduce risk appetite, it would be fair to assume the yen and dollar will be beneficiaries over time.

The Brexit saga, meanwhile, continues to rush toward the new deadline this Friday without any resolution in sight. Not surprisingly, trade plays a big role in this process, as the ability to negotiate new trade deals for the UK was a key selling point in the vote to leave. While PM May’s minions continue to have discussions with Labour to find some kind of compromise, they have thus far come up short. At the same time May is heading to Brussels to meet with Frau Merkel and Monsieur Macron in an effort to find some support for her request for another extension to June 30. At the same time, the Euroskeptics in her Tory party back home are trying to figure out how to oust her from Number 10 Downing Street, although, like the Brexit process, they have been unable to arrive at a coherent solution. With all this drama ongoing, and the emergency EU summit scheduled for tomorrow, the pound continues to hover around the 1.30 level. The one notable thing about the pound has been the reduction in market liquidity as fewer and fewer traders are willing to run positions with the potential for a bombshell announcement at any time. And seriously, who can blame them? The situation remains the same here where clarity in either direction will result in a sharp movement, but until then, flat is the best way to be!

Overall the dollar is under modest pressure this morning (EUR +0.15%, JPY +0.15%, CAD +0.2%), and in truth was in similar shape yesterday. The thing is, the magnitude of the movement has been so limited, I am reluctant to give it any credence with regard to a trend. In fact, since the dollar’s rally peaked last summer, we have been essentially trendless. I expect that this will remain the case until one of the big stories we have been following; trade, Brexit or central banking, has a more distinctive outcome than the ongoing uncertainty we have seen lately. Well, I guess that’s not completely correct, the central bank story has been one of universal dovishness, but the result is that no currency benefits at the expense of any other.

Turning to the data this week, prices are the focus with CPI tomorrow, and we also see the FOMC Minutes and hear from the ECB. And boy, do we have a lot of Fed speakers this week!

Today NFIB Small Biz Optimism 101.8 (released)
  JOLTs Job Report 7.55M
Wednesday CPI 0.3% (1.8% Y/Y)
  -ex food & energy 0.2% (2.1% Y/Y)
  FOMC Minutes  
Thursday ECB Rate Decision -0.4% (unchanged)
  Initial Claims 211K
  PPI 0.3% (1.9% Y/Y)
  -ex food & energy 0.2% (2.4% Y/Y)
Friday Michigan Sentiment 98.0

We have nine Fed speeches including Chairman Powell three separate times although there is absolutely no indication that any views are changing within the Mariner Eccles Building. However, with the increasing drumbeat of pressure from the White House for the Fed to ease policy further and restart QE, it will be very interesting to see how Powell responds. While early indications were that he seemed impervious to that pressure, these days, that doesn’t seem to be the case.

Ultimately, there is no reason to believe that the FX market, or frankly any market, is going to see much movement today given the lack of new catalysts. As I wrote above, we need a resolution to shake things up, and right now, those are in short supply.

Good luck
Adf

Not Yet Inflated

Said Chairman Jay, we are frustrated
That prices have not yet inflated
So, patient we’ll be
With rates ‘til we see
More growth than now’s anticipated

The market response was confusing
With stocks up, ere taking a bruising
While Treasuries jumped
The dollar was dumped
And gold found more buyers, it, choosing

Close your eyes for a moment and think back to those bygone days of… December 2018. The market was still giddy over the recent Brexit deal agreed between the UK and the EU. At the same time, hopes ran high that the US-China trade war was set to be defused following a steak dinner in Argentina with President’s Trump and Xi hashing out a delay of tariff increases. And of course, the Fed had just raised the Fed Funds rate 25bps to its current level of 2.50% with plans for two or three more hikes in 2019 as the US economy continued to outperform the rest of the world. Since that time, those three stories have completely dominated the dialog in market and economic circles.

Now, here we are three months later and there has been painfully little progress on the first two stories, while the third one has been flipped on its head. I can only say I won’t be unhappy if another major issue arises, as at least it will help change the topic of conversation. But for now, this is what we’ve got.

So, turning to the Fed, yesterday afternoon, to no one’s surprise, the Fed left policy rates on hold. What was surprising, however, was just how dovish Chairman Powell sounded at the press conference, essentially declaring that there will be no more rate hikes in 2019. He harped on the fact that the Fed has been unable to push inflation to their view of stable, at 2.0%, and are concerned that it has been so long since prices were rising at that pace that they may be losing credibility. (I can assure them they are losing credibility, but not because inflation has remained low. Rather, they should consider the fact that they have ceded monetary policy to the stock market’s gyrations and how that has impacted their credibility. And this has been the case ever since the ‘Maestro’ reacted in October 1987!)

So, after reiterating their current patient stance, markets moved as follows: stocks rallied, bonds rallied, and the dollar fell. Dissecting these moves leads to the following thoughts. First stocks: what were they thinking? The Fed’s patience is based on the fact that the US economy is slowing and that the global economy is slowing even more rapidly. Earnings growth has been diminished and leverage is already through the roof (Corporate debt as %age of GDP is at record levels, above 75%, with more than half of the Investment Grade portion rated BBB, one notch from junk!) Valuations remain extremely high and history has shown that long-term returns from periods of high valuations are de minimus. Granted, by the end of the session, they did give back most of those gains, but it is difficult to see the bull case for equities from current levels given the economic and monetary backdrop. I would argue that all the best news is already in the price.

Next bonds, which rallied to the point where 10-year Treasury yields, at 2.51%, are now at their lowest level since January 2018, and back then, Fed Funds were 100bps lower. So now we have a situation where 3mo T-bills are yielding 2.45% and 10-year T-bonds are yielding 6bps more. This is not a market that is anticipating significant economic growth, rather it is beginning to look like one that is anticipating a recession in the next twelve months. (My own view is less optimistic and that we will see one before 2019 ends.) Finally, the dollar got hammered. This makes sense as, at the margin, with the Fed clearly more dovish than the market had expected, perception of policy differentials narrowed with the dollar on the losing side. So, the 0.6% slide in the broad dollar index should be no surprise. However, until I see strong growth percolating elsewhere, I cannot abandon my view the dollar will remain well supported.

Turning to Brexit, the situation seems to be deteriorating in the final days ahead of the required decision. PM May’s latest gambit to get Parliament to back her bill appears to be failing. She has indicated she will request a 3-month delay, until June 30, but the EU has said they want a shorter one, until May 23 when European parliament elections are to be held (they want the UK out so there will be no voting by UK citizens) or a much longer one so that, get this, the UK can have another referendum to reverse the process and end Brexit. It is remarkable to me that there is so much anxiety over foreign interference in local elections on some issues, but that the EU feels it is totally appropriate to tell the UK they should vote again to overturn their first vote. Hypocrisy is the only constant in politics! With all this, May is in Brussels today to ask for the delay, but it already seems like the EU is going to need to meet again next week as the UK Parliament has not formally agreed to anything except leaving next Friday. Suddenly, the prospect of that happening has added some anxiety to the heretofore smug EU leaders.

Meanwhile, the Old Lady meets today, and there is no chance they do anything. In fact, unless the UK calls off Brexit completely, they will not be tightening policy for years. Slowing growth and low inflation are hardly the recipe for tighter monetary policy. The pound has fallen 0.5% this morning as concerns over the Brexit outcome are growing and its value remains entirely dependent on the final verdict.

As to the trade story, mixed signals continue to emanate from the talks, but the good news is the talks are continuing. I remain more skeptical that there will be a satisfactory resolution but thus far, equity markets, at least, seem to believe that a deal will be signed, and all will be right with the world.

Turning away from these three stories, we have heard from several other central banks, with Brazil leaving the Selic rate on hold at 6.50%, a still historic low, with a statement indicating they are comfortable with this rate given the economic situation there. Currently there is an attempt to get a new pension bill through Congress their which if it succeeds should help reduce long-term debt implications and may open the way for further rate cuts, especially since inflation is below their target band of 4.25%-5.25%, and growth is slowing to 2.0% this year. Failure of this bill, though, could well lead to more turmoil and a much weaker BRL.

Norway raised rates 25bps, as widely expected, as they remain one of the few nations where inflation is actually above target following strong growth throughout the economy. Higher oil prices are helping, but the industrial sector is also growing, and unemployment remains quite low, below 4.0%. The Norgesbank indicated there will be more rate hikes to come this year. It should be no surprise that the krone rallied sharply on the news, rising 0.9% vs. the dollar with the prospect for further gains.

Finally, the Swiss National Bank left rates unchanged at -0.75%, but cut its inflation forecast for 2019 to 0.3% and for 2020 to 0.6%. The downgraded view has reinforced that they will be sidelined on the rates front for a very long time (and they already have the lowest policy rates in the world!) and may well see them increase market intervention going forward. This is especially true in the event of a hard Brexit, where their haven status in Europe is likely to draw significant interest, even with a -0.75% deposit rate.

On the data front today, Philly Fed (exp 4.5) and Initial Claims (225K) are all we’ve got. To my mind, the market will continue to focus on central bank policies, which given central banks’ collective inability to drive the type of economic rebound they seek, will likely lead to government bond support and equity market weakness. And the dollar? Maybe a little lower, but not for long.

Good luck
Adf

Disruption and Mayhem

Tomorrow when Parliament votes,
According to some anecdotes,
Another rejection
Will force introspection
As well as a search for scapegoats

For traders the story that’s clear
Is Brexit may soon engineer
Disruption and mayhem
And soon a new PM
Who’s not named May just might appear!

As we begin a new week, all eyes remain focused on the same key stories that have been driving markets for the past several months; the Fed, Brexit and the US-China trade talks. Ancillary issues like weakening Eurozone and Japanese growth continue to be reported but are just not as compelling as the first three.

Starting with Brexit this morning, after a weekend of failed negotiations, PM May looks on course to lose the second vote on her negotiated deal. Interestingly, the EU has been unwilling to make any concessions of note which implies they strongly believe one of two things: either the lack of a deal will force a delay and second referendum which will result in Remain winning, or they will be effectively unscathed by Brexit. I have to believe they are counting on the first outcome, as it is a purely political calculation, and in the spirit of European referenda since the EU’s creation, each time a vote went against the EU’s interest (Maastricht, Treaty of Lisbon, etc.) the government of the rejecting country ignored the result and forced another vote to get the ‘right’ result. However, in this case, it appears the EU is playing a very risky game. None of the other referenda had the same type of economic consequences as Brexit, and a miscalculation will be very tough to overcome.

While several weeks ago, it appeared that PM May had been building some support, the latest estimates are for a repeat of the 230-vote loss from late January. The question is what happens after that. And to that, there is no clear answer. The probability of a hard Brexit continues to rise, although many still anticipate a last-minute deal. But the pound has declined for nine consecutive sessions by a total of 3.0% (-0.2% overnight) and unless some good news shows up, has the opportunity to fall much further. The next several weeks will certainly be interesting, but for hedgers, quite difficult.

As to the Fed, last night Chairman Powell was interviewed on 60 Minutes along with former Fed Chairs Bernanke and Yellen. Powell explained that the economy was strong with a favorable outlook and that rates were at an appropriate level for the current situation. When questioned on the impact of President Trump’s complaints, he maintained that the Fed remained apolitical and independent in their judgements. And when asked about the stock market, he essentially admitted that they have expanded their mandate to include financial markets. Given the broad financialization of the economy, I guess this makes sense. At any rate, there is no way a Fed chair will ever describe the economy poorly or forecast lower growth as it would cause a panic in markets.

Finally, turning to the trade talks, the weekend news indicated that there has been agreement over the currency question with the Chinese accepting an effective floor to the renminbi. Although the Chinese denied that there was a one-way deal, they repeated their mantra of maintaining a stable currency. As yet, no signing ceremony has been scheduled, so the deal is not done. However, Chinese equity markets rebounded sharply overnight (after Friday’s debacle) as expectations grow that a deal will be ready soon. It continues to strike me that altering the Chinese economic model is likely to take longer than a few months of negotiations and anything that comes out of these talks will be superficial at best. However, any deal will certainly be the catalyst for a sharp equity rally, of that you can be sure. One other thing to note about China is that we continue to see softening data there. Over the weekend, Loan growth was reported at a much lower than expected CNY 703B ($79.4B), not the type of data that portends a rebound. And early this morning, Vehicle Sales were reported falling 13.8%! Again, more evidence of a slowing economy there.

In the meantime, Friday’s payroll data was a lot less positive than had been expected. The headline NFP number of just 20K (exp 180K) was a massive disappointment, and though previous months were revised higher, it was just by 12K. However, the Unemployment Rate fell to 3.8% and Average Hourly Earnings rose 3.4% Y/Y, the strongest since 2007. Housing data was also positive, so the news, overall, was mixed. Friday saw markets turn mildly negative on the US, with both equities and the dollar under pressure.

Add it all up and you have a picture of slowing global growth with the idea that monetary policy is going to tighten quickly fading from view. The critical concern is that central bankers have run out of tools to help positively impact their economies when things slow down. And that is a much larger long-term worry than a modest slowing of growth right now.

Looking at the data this week, two key data points will be released, Retail Sales and CPI. Here is the full list:

Today Retail Sales -0.1%
  -ex autos 0.2%
  Business Inventories 0.6%
Tuesday NFIB Small Biz Optimism 102.0
  CPI 0.2% (1.6% Y/Y)
  -ex food & energy 0.2% (2.2% Y/Y)
Wednesday Durable Goods -0.7%
  -ex transport 0.2%
  PPI 0.2% (1.9% Y/Y)
  -ex food & energy 0.2% (2.6% Y/Y)
  Construction Spending 0.4%
Thursday Initial Claims 225K
  New Home Sales 620K
Friday Empire Manufacturing 10.0
  IP 0.4%
  Capacity Utilization 78.5%
  Michigan Sentiment 95.5
  JOLT’s Jobs Report 7.22M

So, lots of stuff, plus another Powell speech this evening, but I think Retail Sales will be the big one. Recall, last month, Retail Sales fell 1.2% and nobody believed it. But I have to say the forecast is hardly looking for a major rebound. In the end, though, the US economy continues to be the top performing one around, and while the Fed may no longer be tightening, we are seeing easing pressures elsewhere (RBA, ECB). Today’s price action has shown little overall movement in the dollar, but the future still portends more strength.

Good luck
Adf

Impugned

The continent east of the ‘pond’
Makes many things of which we’re fond
But data of late
Impugned their growth rate
Just when will Herr Draghi respond?

There is an ongoing dichotomy in the economic landscape that I continue to have difficulty understanding. Pretty much every day we see data that describes slowing economic activity from multiple places around the world. Sales are slowing, manufacturing is ebbing, or housing markets are backing away from their multiyear explosion higher. And all this is occurring while in the background, international trade agreements, that have underpinned the growth in global trade for the past forty years, are also under increasing pressure. And yet, equity markets around the world seemingly ignore every piece of bad news and, when there is a glimmer of hope, investors grab hold and markets rally sharply.

Arguably the best explanation is that the dramatic change in central bank policies have evolved from emergency measures to the baseline for activity. Following that line of thought and adding the recent central bank response to increased ‘volatility’ (read declines) as seen in December, it has become apparent that economic fundamentals no longer matter very much at all. While the central bankers all pay lip service to being data dependent, the only data that seems to matter is the latest stock market close. For someone who has spent a career trying to identify macroeconomic risks and determine the best way to manage them, I’m concerned that fewer and fewer investors view that as important. I fear that when the next downturn comes, and I remain highly confident there will be another economic downturn too large to ignore, we will be wistful for the good old days of 2008-09, when recession was ‘mild’.

Please excuse my little rant, but it continues to be increasingly difficult to justify market movements when looking at economic data. For example, last night we learned that PMI data throughout the Eurozone was confirmed to be abysmal in February (Germany 47.6, Italy 47.7, Spain 49.9, Eurozone overall 49.2) and has led to a reduced forecast for Eurozone GDP growth in Q1 of just 0.1%. Naturally, every equity market in Europe is higher on the news. Even the euro has edged higher, climbing 0.15% (albeit after falling 0.4% in yesterday’s session). Adding to the malaise, Eurozone core inflation unexpectedly fell to 1.0%, a long way from the ECB’s target of just below 2.0% and showing no signs of increasing any time soon.

With the March ECB meeting on the docket for next week, the discussion has focused on how Signor Draghi will justify his ongoing efforts to normalize monetary policy amid weakening growth. His problem is that he has downplayed economic weakness as temporary, but it has lingered far longer than anticipated. It is widely expected that the new economic forecasts will point to further slowing, and this will just make his task that much more difficult. Ultimately, the market is not pricing in any interest rate hikes until June 2020, and there is a rising expectation that TLTRO’s are going to be rolled over with an announcement possible as soon as April’s meeting. Draghi’s term as ECB president ends in October, and it is pretty clear that he will have never raised interest rates during his eight years at the helm. The question is, will his successor get a chance in the next eight years? Once again, I have looked at this information, compared it to the ongoing Fed discussion, and come out on the side of the euro having further to decline. We will need to see much stronger growth and inflation from Europe to change that view.

Other than that discussion, there is very little of real note happening today. Chinese Caixin PMI data was slightly better than expected at 49.9, which has been today’s argument for adding risk, but recall just yesterday how weak the official statistic was. As with everything from China, it is difficult to understand the underlying story as the data often has inconsistencies. But this has been enough to create a risk-on atmosphere with Treasuries falling (10-year yields +2bps) and JPY falling (-0.4%) while commodities and equities rally. Gold, naturally, is the exception to this rule as it has softened this morning.

Regarding trade, today’s news stories discuss documents being prepared for an eventual Trump-Xi summit later this month. If there really is a deal, that will be a global positive as it would not only clear up US-Chinese confusion, but it would bode well for all the other trade discussions that are about to begin (US-Japan, US-Europe). Hopefully, President Trump won’t feel the need to walk away from this deal.

Looking back at yesterday’s session, we saw Q4 GDP actually grew 2.6%, a bit stronger than expected, which arguably helped underpin the dollar’s performance. We also learned that the House Finance Committee is equally unconcerned over what the Fed is doing, as Chairman Powell’s testimony was a complete sleeper. So, with no oversight, the Fed will simply motor along. At this point, it would be remarkable if the Fed raised rates again in 2019, and unless Core PCE goes on an extended run higher, perhaps even in 2020. I have a feeling that we are going to see this flat yield curve for a long time.

This morning brings a bunch more data with both December and January numbers due. Looking at the January data, the only forecast I find is Personal Income (exp 0.3%) but Personal Spending, and PCE are both due as well. At 10:00 we see ISM Manufacturing (55.5) which is now biased higher after yesterday’s Chicago PMI printed at a robust 64.7, its strongest print in 18 months. With risk being embraced today, I think we are far more likely to see the dollar edge lower than not by the end of the day.

Good luck and good weekend
Adf

 

At the Nonce

In Hanoi, the talks fell apart
In London, there’s cause to take heart
The market response
Sell stocks at the nonce
But Sterling looks good on the chart

The Trump-Kim denuclearization talks in Hanoi ended abruptly last evening as North Korea was apparently not willing to give up their program completely although they were seeking full sanctions relief. It appears that many investors were quite hopeful for a better outcome as equity markets across Asia fell as soon as the news hit the tape. Not surprisingly, South Korea was worst hit, with the KOSPI falling 1.5% while the won fell 0.5%. But the Nikkei in Japan fell 0.8% and Shanghai was down by 0.5% as well. In the currency market, the yen, benefitting from a little risk aversion, gained 0.2%, while the renminbi slipped slightly, down just 0.1%

Of course, the US-China trade talks are still ongoing and the big news there was that the US has, for the time being, removed the threat of increased tariffs. It appears that real progress has been made with respect to questions on technology transfer as well as verification of adherence to the new rules. It is surprising to me that this was not a bigger story for markets, although that may well be a sign that a deal is fully priced in already. In the meantime, Chinese data continues to disappoint with the Manufacturing PMI falling to 49.2, its third consecutive print below 50.0 and the weakest number in three years. It certainly appears as though President Xi is feeling real pressure to get a deal done. Of course, the Chinese equity market has had an even more impressive performance than that of the US so far this year, so it may be fair to say they, too, have priced in a deal. While things seem pretty good on this front right now, what is becoming apparent is that any hiccup in this process is likely to result in a pretty sharp equity market correction.

Turning to the UK, it appears that PM May’s game of chicken was really being played with the hard-liners in the Tory party who appeared perfectly willing to leave the EU with no deal. In yesterday’s debates, they were conspicuous by their silence on the subject and the growing belief is that May will be able to get support for her deal (with a side annex regarding the length of the Irish backstop) approved. While this will probably result in a three-month delay before it all happens, that will simply be to ensure that the proper legislation can be passed in Parliament. In another surprising market outcome, the pound has remained unchanged today despite the positive news. As I mentioned yesterday, the pound has rallied steadily for the past several weeks, and it appears that it may have run out of steam for the time being. While an approval vote will almost certainly result in a further rally, I’m skeptical that it has that much further to run. Unless, of course, there is a significantly more dovish turn from the Fed.

Speaking of the Fed, yesterday’s Powell testimony was just as dull as Tuesday’s. Arguably, the most interesting discussion was regarding the “Powell put” as one congressman harped on the concept for much of his allotted time. In the end, Powell explained that financial markets have an impact on the macroeconomy and that the Fed takes into account all those factors when making decisions. In other words, yes there is a put, but they want us to believe that the strike price is not simply based on the S&P 500, but on global markets in general. Given the importance of this comment, it was quite surprising that equity markets yesterday did not rally, but instead fell slightly. And futures are pointing lower this morning. At the same time, the dollar is generally under pressure with the euro rising 0.4% and now trading above 1.14 for the first time in three weeks. The single currency remains, however, right in the middle of its trading range for the past four months. In other words, this is hardly groundbreaking territory.

It is hard to ascribe the euro’s strength to any data this morning, although there has been plenty of that released, because generally it was in line with expectations. But even more importantly, it continues to show there is a lack of inflationary pressure throughout the Eurozone, which would undermine any thoughts the ECB will tighten earlier than now anticipated. Perhaps the one exception to that were comments from ECB member Francois Villeroy who explained that keeping rates negative for too long could have a detrimental impact on transmitting monetary policy properly. While that is certainly true, it has not been seen as a major concern to date.

Turning to this morning’s data story, Q4 GDP growth will finally be released (exp 2.4%) as well as Chicago PMI (57.8). In addition, we hear from six Fed speakers today starting with Vice-Chair Clarida at 8:00 this morning and finishing up with Chairman Powell at 7:00 this evening. However, given we just got two days of testimony from Powell, it is not clear what else they can say that will change views.

Overall, the dollar remains under pressure, and while it rallied during yesterday’s session, it has reversed that move so far this morning. As I have consistently said, the market is highly focused on the Fed’s more dovish turn and so sees the dollar softening. However, as other central banks become more clearly dovish, and they will as slowing growth permeates around the world, the dollar should regain its footing. Probably not today though.

Good luck
Adf

Maybe Once More

Said Powell, by patient I mean
We won’t rush to raise in ‘Nineteen
Unless prices soar
Then maybe once more
Though not ‘til past next Halloween

To nobody’s surprise, Chairman Powell explained that while the economy in the US is in good shape, given all the other things happening around the world (Brexit, trade situation, slowing Chinese and European growth) it was prudent for the Fed to watch the data carefully before acting to change policy again. Arguably, the market heard this as a confirmation of the now growing dovish bias and so the dollar came under a bit of further pressure. Interestingly, the equity market did not hear the same cooing of doves as it struggled all day ending slightly softer.

When discussing the balance sheet, he indicated that it was a hot topic at the FOMC, and that they were carefully studying the timing of the eventual end of the current policy of QT. But by far, the single most gratifying thing he said was, “It is widely agreed that federal government debt is on an unsustainable path.” He later added, “The idea that deficits don’t matter for countries that can borrow in their own currencies is just wrong.” (my emphasis). This was a none too subtle rebuttal to any thoughts that MMT has any validity. The Senators did not really ask many interesting questions, but today he heads to the House, where a certain freshman representative from the Bronx, NY, is grasping at the idea that as long as the US borrows in dollars, we can always pay them back by printing whatever we need with no consequence. You can be certain that she will spend her entire allotment of time on that particular issue, although I suspect she will not come off looking like she either understands the issues nor will have convinced the Chairman.

At any rate, while the questions are likely to be more entertaining, they will almost certainly not be any more meaningful as today Representatives will get their moments of preening on camera. Certainly nothing has happened between yesterday and today that will have changed the Chairman’s views.

In Parliament there’s a new view
Postponement’s the right thing to do
Three months or one year?
No answer is clear
As both sides, the other, eschew

Turning to the other key market story, Brexit, the only thing that is clear is that it remains extremely confusing. As of this morning, it appears that PM May has changed her tune regarding a delay and is now willing to accept a short one of three months. Her problem is that she has lost so much influence from the continuing morass it is no longer clear she will get what she wants. There now appears to be a growing movement for a longer delay, on the order of nine months, which would give the Bremainers the chance to organize a new referendum. That, of course, is the last thing the hard-liners want, another vote, as it could reverse the outcome. At the same time, all of this is contingent upon the EU agreeing to a delay. Now, they have said they will do so if there is a clear path outlined for what the UK is trying to accomplish, but as is obvious from this discussion, that is not the case.

The market, however, is in the process of reinterpreting the outcome. It appears that the new worst case is seen as acceptance of the already negotiated deal with a small possibility of no Brexit at all. It seems the idea of a hard Brexit is receding from view. We can tell because the pound continues to rally this morning, up another 0.45% today which takes the move to +2.5% since Friday when this chain of events took form. This is the highest the pound has traded since last July, when it was on its way down from the previous bout of optimism. One telling sign of the potential outcome is that the hardest of hard-liners, Jacob Rees-Mogg, has backed down on his adamant demands of the removal of the Irish backstop, instead saying an annex addressing the situation could be acceptable. To me this indicates the hard-liners have lost. While I am no insider, it looks very much to me like there will be a three-month delay and acceptance of the current deal. As to the pound in that case, it will depend if Governor Carney can keep his word regarding concerns over inflation. My view there is that slowing global growth will prevent any further policy tightening, and the pound will quickly run out of Brexit steam.

Elsewhere, data from the Eurozone shows that the economy continues to slow, albeit at a less intimidating rate. A series of Eurozone sentiment and confidence indicators all printed lower than last month, but not quite as low as had been feared expected. But the euro has been the beneficiary of the current focus on Fed dovishness and has been trading higher for the past two weeks. Of course, the extent of that move has been just 1.2%, with the single currency unchanged this morning. So, while the headlines are accurate to say the dollar has been slumping, the reality is that the movement has been quite limited.

Away from those stories, the FX market has seen relatively few events of note. INR is softer this morning by 0.5% after Pakistan’s air force allegedly shot down two Indian fighter jets in an escalation of tensions in the Kashmir region. That may well be weighing on global risk sentiment as well, but not in too great a manner. President Trump’s meeting with Kim Jong-Un has not seemed to impact the KRW, although a positive outcome there would almost certainly help the won significantly. And past that, nada.

On the data front this morning we see Factory Orders (exp 0.5%) and then Chairman Powell sits down in front of the House. The current trend remains for the dollar to soften as the market’s focus continues to be on the Fed turning dovish. As time passes, we will see every central bank turn dovish, and at that time, the dollar is likely to find more support. But for now, a slowly ebbing dollar remains the most likely outcome.

Good luck
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The Clear Antidote

Said Corbyn, the clear antidote
To Brexit is hold a new vote
Meanwhile the EU
Said they would push through
Delay, while they secretly gloat

For traders the news was elating
With Sterling bulls now advocating
The lows have been seen
And Twenty-nineteen
Will see the pound appreciating

The pound has topped 1.3220 (+1.0%) this morning as a result of two key stories: first Labour leader Jeremy Corbyn has agreed to back a second referendum. This increases the odds that one might be held, assuming there is a delay in the current process which dovetails nicely with the other story, that PM May is mooted to be about to announce a delay in the process. The EU has already essentially agreed that they will allow a delay with the question, as I discussed yesterday, really about the length of time to be agreed.

The two sides of this debate are either a short, three-month, delay, whereby PM May believes she can get the current deal approved or a long, twenty-one-month delay, which would allow enough time for a second referendum where the current belief is that the outcome will be different. Regarding the second referendum, while the press posits it is a slam-dunk the vote would be to remain, the latest polls show remain currently leads 53-47, hardly a landslide, and arguably well within the margin of error. If memory serves, that was the expectation leading up to the first vote! At any rate, I would contend the FX market is pricing in a very high probability of the UK ultimately remaining in the EU. What that says to me is that the upside for the pound is limited. Certainly, in that event, an initial boost is likely, but after that, I would argue a slow decline is the probable path.

As to the trade story, yesterday’s ecstasy seems to have abated somewhat as investors have not yet seen or heard anything new to encourage further expectations. The result has been that equity markets have slipped a bit, and now everybody is waiting for the next announcement or tweet to boost sentiment again. My gut tells me the market is far too sanguine about a successful conclusion to this process, but I am one voice in a million. However, for today, this doesn’t appear to be having a significant impact.

And finally, the third in our trio of key stories, the Fed, will get new impetus today when Chairman Powell sits down in front of the Senate Banking Committee this morning at about 9:45 to offer his semi-annual testimony on the state of the economy. Based on all we have heard lately, the Fed’s current stance appears to be that the economy remains solid, with some very positive aspects, notably the employment situation, and some softer concerns (housing and autos) with confusion over the consumption numbers after the latest Retail Sales data. There is clearly a camp in the Fed that believes further rate hikes are appropriate later this year, and a camp that would prefer to wait until inflation data is already running above target. It would be surprising if the opening comments were committal in either direction, but I expect that a number of Senators will try to dig into that very issue. However, given just how much we have heard from various Fed speakers over the past several weeks, it seems highly unlikely that we will learn much that is truly new.

One thing to watch for is any hint that there is a change in the stance on the balance sheet. As it stands right now, expectations are for a continued running down of assets for a little while longer this year before halting. However, and this is probably more a concern for tomorrow’s House testimony than today’s in the Senate, questions about MMT and the ability of the Fed to simply print funds and buy Treasuries without end may well cause a market reaction. Any indication that the Fed is considering anything of this nature would be truly groundbreaking and have some immediate market impacts, notably, significant dollar weakness, and likely immediate strength in both equities and bonds. Please understand I am not expecting anything like this but given the number of adherents that have gravitated to this concept, I do expect questions. Fortunately, thus far, there has not been any indication the Fed is considering anything like this.

On the data front today we see December Housing Starts (exp 1.25M) and Building Permits (1.29M) as well as the Case-Shiller House Price Index (4.5%) and finally, the only current data of note, February Consumer Confidence (124.7). Much of the data this week is out of date due to the government shutdown last month. But in the end, the morning will be driven by PM May and her Parliamentary speech, and the rest of the session will be devoted to the Fed and Chairman Powell. The dollar has been modestly offered for the past week, trading to the low end of its trading range, but we will need something new to force a breakout. As of now, it is not clear what that will be, so I anticipate another session of modest movement, perhaps this time edging toward strength in the greenback.

Good luck
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