Tag Archives: #RBA

All Will Reject

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Down Under the latest decision
To raise rates was made midst division
Inflation there’s rising
So, it’s not surprising
The two sides have had a collision

But elsewhere this week I’d expect
That central banks all will reject
A hike in their rate
As long as the Strait
Stays closed, though inflation’s unchecked

For a while now, I have been making the case that central bank activities, at least in the West, had a diminishing impact on market behavior, and that was before the war in Iran began.  My thesis had been based on the idea that fiscal policies had become so overwhelming that market participants realized that the odd 25 basis point rate move was not going to move the needle, at least not on a short-term horizon.  

Then, of course, at the beginning of the month, the Iran conflict began which garnered all the market’s attention, rightfully so.  But here we are, 17 days into the conflict and suddenly, investors seem far less concerned with the situation.  Naturally, the halting of ~20% of daily oil flows through the Strait remains a critical issue, but arguably, until something there changes, the market seems to have absorbed that in its price.  Consider the following screen shot of equity markets from 6:30 this morning.  it is very difficult to look at this and conclude there is any sense of panic.

Source: tradingeconomics.com

Sure, equity markets have slipped over the past month, but the magnitude of that decline has been pretty modest considering oil prices have jumped 50% during that period.   The lesson I take from this is that speculative positioning has been substantially reduced because, frankly, we have not seen nearly as much fear response as I would have anticipated heading into this situation.  If we look at the CNN Fear & Greed Index below, sure it says we are in extreme fear (below 25 on the chart), although this is nowhere near the lows seen during the past year as per the below chart from cnn.com

But if you go to the link above, it shows a series of charts covering different facets of the stock market, and frankly, none of them demonstrate to me that fear is that rampant, despite their labels.  After all, most of the charts show the current readings right in the middle of the range over the past year.

Which takes us back to, what is driving markets these days?  Two and a half weeks into the war, I presume that margin calls have been settled and those positions adjusted or reduced accordingly.  After all, margin clerks demand settlement immediately, not in two weeks’ time, so they are done.  Economic data has been underwhelming, although we are beginning to see the first inklings of war-related weakness with yesterday’s Empire State Manufacturing disappointment (-0.2 vs 7.1 last month and 3.2 expected), but even more so with this morning’s German and European ZEW Economic Sentiment Indices.

                                                                                                                Actual           Previous          Forecast

Source: tradingeconomics.com

This is the first March data we are seeing, and I suspect all of it is going to be lousy.  But again, that is already priced in, I believe, hence the relative lack of movement.

And so, I turn to the central bank community, with virtually the entire G7 having meetings this week.  While I don’t anticipate any rate movement other than last night’s RBA hike of 25bps, which was priced in before the conflict began, I expect that we are going to need to listen to what they all say as our best indication of current expectations of future behavior, and whether they will react to the oil price rise, or recognize higher rates will not open the Hormuz Strait.  At this point, especially since there has been insufficient inflation data to alter decisions, I expect a lot of talk about carefully monitoring the situation, but no promises to do anything.  And remember, knock-on effects of higher oil prices into other things take time to be felt, so given the completely reactive nature of all central banks, that is not going to be a reason to raise rates.  Ironically, central banks are back in the market discussion despite themselves!

Ok, let’s tour the markets and see how things have behaved overnight.  Yesterday saw a very solid US session, although as in the table above, this morning futures are very modestly lower.  In Asia, Tokyo (-0.1%) slipped a bit after Katayama-san, the FinMin, explained she was watching the yen closely and would consider “bold moves” (a euphemism for intervention) if deemed necessary.  Elsewhere in the region, though, only China (-0.7%) failed to follow the US with Korea (+1.6%), India (+0.75%), Taiwan (+1.5%) and Singapore (+1.2%) representative of the price action.  Other markets had lesser gains, but gains they were.

Meanwhile, European bourses are all in the green as well, albeit not as robustly as Asian exchanges showed.  Spain (+0.8%) is the leader, but 0.5% gains in France and the UK are also extant while Germany (+0.1%) is still trying to shake off that horrible ZEW number.

In the bond market, Treasury yields slipped again yesterday, down -3bps, and this morning, European sovereigns are showing similar activity, with yields sliding between -3bps and -5bps across the entire continent and the UK.  This is certainly odd behavior if the market believes that oil prices are going to remain higher for longer.  If I look at the combination of the early March data weakness and the fact that bond investors are not panicking in any sense, there is no indication that central banks are going to do anything for now, but I suspect that economic weakness will be the issue that arises going forward.  After all, inflation has not seemed to be their driver for a while now.

In the commodity space, yesterday saw oil prices slide about 4%, while this morning they are higher by 3.0%.  but a look at the chart tells me that for now, they have found a new equilibrium just below $100/bbl +/- a bit. 

Source: tradingeconomics.com

It is important to remember that despite the large jump in prices recently, on an inflation adjusted basis, the current level is still only half as high as the 2008 spike to $145/bbl.  In other words, I might contend that it is not the price of oil, so much, right now, but rather its availability that is going to be the key issue going forward.  Naturally, Europe has jumped in to explain that they believe high oil prices help them denounce the US removal of sanctions on Russian oil as they will not countenance such things despite the loss of their key suppliers.  I’m glad I don’t live in Europe.

As to the metals markets, Zzzzzzz is the only way to describe them.  While copper (-1.2%) has slipped, neither gold nor silver has moved overnight, and both remain essentially at their new homes of $5000/oz and $80/oz.

Finally, the dollar is also doing little this morning, essentially unchanged vs. most its major counterparts.  NOK (+0.6%) is enjoying oil’s rally while ZAR (-0.5%) is suffering from the lack of gold movement.  And otherwise, it is hard to get excited about anything with movement +/- 0.2% or less across both G10 and EMG currency blocs.

There is no primary data released this morning in the US.  The FOMC begins its two-day meeting and tomorrow at 2:00 we will learn that policy is unchanged, but all eyes will be on the dot plot and the SEP report to try to better understand the potential future path.  But for today, absent a major change in the Iran situation, I don’t imagine it is going to be very exciting anywhere.

Good luck

Adf

Just Won’t Evanesce

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The RBA left rates on hold
And sounded quite dovish, all told
Meanwhile in Brazil
Old Lula is ill
With something much worse than a cold
 
In Syria, things are a mess
In Taipei they’re feeling some stress
With all this unfolding
It’s no shock beholding
Risk assets just won’t evanesce

 

Risk is the topic du jour as pretty much everywhere one looks around the world, things are afoot that can inculcate fear (and loathing) rather than embrace those animal spirits.  Perhaps the least frightful, but most directly impactful regarding markets, was the RBA meeting last night at which the committee left rates on hold, as universally expected, but appeared to turn (finally) to the dovish side of the ledger.  The policy statement explained, “Some of the upside risks to inflation appear to have eased and while the level of aggregate demand still appears to be above the economy’s supply capacity, that gap continues to close.  The board is gaining some confidence that inflation is moving sustainably toward target.”   However, the proof is in the pudding and a quick look at the AUD (-0.7%) shows that the market has come to believe the RBA is finally joining the central bank rate cutting party.

Source: tradingeconomics.com

The trend seems pretty clear and it is hard to make a case for a reversal absent a massive spike in inflation Down Under forcing the RBA to change direction or something coming from the US focusing on weakening the USD, but given nothing like that seems likely until Mr Trump is officially in office, I am concerned that the Aussie dog will live up to its nickname and make new lows going forward, perhaps testing 0.6000 before this is over.

Speaking of currencies under pressure, elsewhere in the Southern Hemisphere we find the Brazilian real which has fallen to new historic lows, with the dollar now trading above 6.08.  For those of you who hate to pay away the points in USDBRL to hedge your balance sheet assets, the reason that you need to do it is very evident from the chart below.

Source: tradingeconomics.com

While there were several short-term dips in the dollar during the past year, the spot rate (at which you remeasure your balance sheet each month) moved from 4.92 to 6.08 in 12 months, nearly a 24% decline in the real.  A one-year forward would have cost far less, something like 40-45 big figures, or less than half the actual move, and would have given you certainty as to the cost.  Hedging matters!

Now, why, you may ask is this happening?  Well, news that Brazilian president Lula da Silva had emergency brain surgery has clearly not helped the currency.  Suddenly there are many questions over who is running the country and how they will address the ongoing fiscal issues that are extant.  As an aside, this is likely another deterrent to the idea of a BRICS currency appearing any time soon, if ever.

Turning our gaze elsewhere, the situation in Syria continues to unfold with no clear outcome although increased concerns over what will happen with the beleaguered people of that nation and whether it will foment yet another immigration wave into Europe and elsewhere in the Middle East.  However, right now, the oil market remains nonplussed over this issue as evidenced by yet another day of quiet trading and a slow drift lower in the price (-0.55%).

However, we cannot ignore Taiwan, where China is currently in the process of military maneuvers that appear to be simulating a naval blockade of the nation.  Price action here has shown the TWD (-0.4%) sliding further and pushing back toward its weakest level in more than 15 years (since the GFC), while the TAIEX stock index (-0.65%) is also feeling a little heat, although the story there has been one of consistent gains over the past several years, following the NASDAQ higher given the breadth of technology companies there, notably TSMC.

Putting it all together leaves one wanting with respect to their risk appetite this morning as today seems like another step closer to that Fourth Turning.  So, it should be no surprise that after a down day yesterday in the US, with all three major equity indices declining, we have seen far more red than green on the screens overnight.  The exception to this rule was in Korea, where the KOSPI (+2.4%) rose sharply as it appears that things are starting to revert to more normalcy there politically.  President Yoon is under pressure to resign and seems likely to be impeached and the government is back to functioning in more of its ordinary manner.  But elsewhere in Asia, Hong Kong (-0.5%), Australia (-0.5%) and most of the smaller regional bourses were lower although the Nikkei (+0.5%) rallied on the back of the yen’s renewed weakness, and mainland Chinese shares (+0.7%) seemed to begin to believe that more stimulus is, in fact, on its way.  We shall see about that.

In Europe, the bourses range from flat (DAX, IBEX) to down CAC (-0.5%), FTSE 100 (-0.5%) with both these nations suffering from their own political distress.  French President Macron is trying to form a government but categorically refuses to include Marine Le Pen’s RN party so has no chance of a majority with concerns growing over the fiscal situation there.  Apparently, if they cannot get a financing bill passed, the French will get to experience the heretofore unique American experience of a government shutdown.  Meanwhile, PM Starmer is watching his ratings circle the drain as his government continues to try to raise revenues by raising taxes on the rich and finding out that one thing rich people are really good at is creating new methods of operations to avoid paying higher taxes.  While there is no vote necessary in the UK for years (remember, Starmer won election just this past July 4th) it certainly feels like his government is going to fall sooner rather than later.  Meanwhile, US futures are little changed at this hour (7:30).

In the bond market, yields are rebounding with Treasuries higher by 3bps this morning after a 3bp rally yesterday.  In Europe, there is very little change except for UK Gilts (+4bps) with concerns over inflation rising there while in Asia, Australian yields slipped 6bps on the dovish RBA.  Generally speaking, the bond market has not been very exciting lately which is one reason, I believe, that things have not fallen apart.  If we start to see more volatility here, watch out.

In the commodity markets, aside from oil’s modest decline, gold (+0.65%) continues to find support in this risk-off scenario although both copper and silver are little changed this morning after solid rallies yesterday.

Finally, the dollar is higher again this morning, with the DXY well back above 106.00 and every G10 currency declining led by NZD (-1.0%).  This is suffering from the RBA’s dovishness which is expected to allow the RBNZ to maintain, or even increase, its own dovishness.  But the whole bloc is softer.  In the EMG bloc, there are a few currencies that are holding their own vs. the dollar this morning, but only just, with MXN (+0.2%) arguably the strongest currency around while CNY (+0.1%) is also relatively strong.  But elsewhere in this bloc, ZAR (-0.7%), PLN (-0.55%), and CLP (-0.4%) are indicative of the type of price action we are seeing across the board.  This is a dollar day, though, not really focusing on individual currency foibles.

On the data front, we see only Nonfarm Productivity (exp 2.2%) and Unit Labor Costs (1.5%) and that is really it.  There was nothing yesterday and all eyes are truthfully turned toward tomorrow’s CPI data.  Things don’t feel very positive right now, so I expect risk to remain on its back foot to start the day.  However, given the number of uncertain situations that abound, anything can happen to either change that view or reinforce it.  Once again, this is why you hedge, to mitigate the markets’ inherent volatility.

Good luck

Adf

Some Regrets

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Six central bank meetings this week
Will give us a new inside peak
At their dedication
To wipe out inflation
And just how much havoc they’ll wreak
 
Investors have made all their bets
And so far, today, risk assets
Show green on the screen
Ere any convene
Methinks, though, there’ll be some regrets

 

It is central bank week as we hear from more than half of the G10 between tomorrow and Thursday.  The BOJ kicks things off followed by the RBA, FOMC, Norgesbank, the SNB and finally the BOE.  A great deal of stock has been put into these meetings by both traders and investors as everyone is seeking clues for the future. Alas, looking for central banks, whose crystal balls are cloudier than most, to give solid clues is probably not the best idea.  But let’s take a quick look at each meeting and expectations:

BOJ – next to the Fed, this is the meeting that has gotten the most press both because Japan is the largest of the other economies, but also because there is much talk that they are going to raise their base rate for the first time in 17 years!  At this point, despite the most recent dovish comments from Ueda-san two weeks’ ago, the best indicator seems to be Nikkei News, which has had several articles (courtesy of Weston Nakamura’s Across the Spread substack) declaring that rate hike is coming.  Apparently, they have a perfect record in these forecasts, so it looks a done deal.

Arguably, the question is will they do anything else beyond moving from NIRP to ZIRP?  There are several analysts who believe they will adjust YCC as well, either eliminating it completely, or changing the terms to buy a fixed amount each period rather than responding to market conditions.  As well, they continue to buy equity ETFs and REITs so it is quite possible they end those programs.

The funny thing is so many believed that when the BOJ finally started their tightening cycle that would be the signal for selling JGBs and buying yen.  Well, if that has been your strategy going into the meeting, it has not worked out that well.  JGB yields (-3bps) have been consolidating around the 0.75% level virtually all year while the yen, which did have a little pop higher at the beginning of the month, is now back close to 150 again.  Regarding the yen, the driver in the currency continues to be US interest rates and the incremental adjustment by the BOJ is just not enough to move the needle absent a firm commitment by Ueda-san to hike regularly going forward.  And there is no evidence of that.  As to JGB yields, a slow grind higher seems possible, but a run up above 1.0% seems highly unlikely, especially given the economic cycle has just turned down with two consecutive quarters of negative real GDP activity.

RBA – there is no policy movement anticipated here for this meeting as both growth and inflation remain above targets but have not been relatively stable.  In fact, there is a minority looking for a cut, but that seems unlikely right now simply based on the inflation data.  Generically, I find it extremely difficult to believe that any central bank will be able to cut their rates with inflation running well above the target and, in most places, looking like it has found a bottom.  I realize there is a significant desire to cut rates by virtually all central bankers, but given the current economic situation, if they want to salvage whatever credibility they may have left, it is a hard case to make to cut right now.  

One other thing to remember is that Australia is more dependent on China than any other G10 nation and China last night published better than expected economic data with IP jumping to 7.0%, far better than expected and its fastest pace in two years.  If China is starting to pick up again, that will be a net benefit for Australia and put upward pressure on commodity prices and prices in general Down Under.  I think they remain on hold for a while yet.

FOMC – suffice to say no change in rate policy but we will discuss the other features tomorrow regarding the dot plot and potential guidance.

SNB – The Swiss may be the other central bank to move this time as inflation there has fallen to 1.2%, well below the ceiling of their 0% – 2% target range.  While the market consensus remains no change and the franc has softened nearly 4% vs. the euro so far this year, we cannot forget that it remains far stronger than its historic levels and the opportunity to weaken the currency a bit to help its export industries while inflation remains quiescent is something that may appeal to SNB President Jordan.  Keep an eye out here.

Norgesbank – No change here as inflation remains far too firm, ~5%, while oil’s recent rebound has helped the currency rebound.  I don’t think there is anything to be learned from this outcome.

BOE – Here, too, no change is expected and there is no press conference.  As such, the most interesting question will be the vote split.  Last time, the split was 1-6-2 for a cut, hold and hike respectively.  (Talk about not seeing things the same way!  How is it possible that two committee members can look at the same data and believe opposite conclusions?  Seems there is some ideology in play there.). At any rate, a change in the vote count will be a signal.  Recent data has shown that wages are still hot, but slowing down, while inflation is similarly hot but slowing.  The latest CPI data will be released on Wednesday so the BOE will have that to account for as well as everything else.  At this point, I’m in the no move camp with the same split of votes the outcome.

With that recap, let’s look at the overnight session briefly.  As mentioned above, equities are green everywhere with the Nikkei (+2.7%) leading the way around the world and pushing back close to the key 40K level.  But there was strength in every market in Asia.  Europe, too, is all green, albeit less impressively, with gains on the order of 0.25% while US futures are looking good at this hour (7:45) with the NASDAQ leading the way, up 1.0%.  (Here, many are counting on more amazing news from Nvidia as they have a weeklong conference starting today.)

After last week’s rush higher in yields on the strength of the hotter inflation prints from the US, this morning is seeing very little movement overall ahead of the central bank meetings this week.  Basically, every market is within 1bp of Friday’s closing levels, with a few higher and others lower.  One other thing I failed to mention was the PBOC will be revealing their 5-year Loan Prime Rate on Tuesday night, and while no change is forecast, it was last month when they cut this to help the property market that kicked off the idea more stimulus was coming.

Oil prices continue to perform well on the back of several different factors.  First, we have seen inventory draws much greater than expected in the US.  At the same time, Ukraine has damaged several Russian refineries thus reducing the supply of products and we still have OPEC+ maintaining their production restrictions.  Add to this China’s apparent rebounding growth supporting demand and that is a recipe for higher prices.  As to the metals markets, despite the dollar’s recent rebound, gold continues to hold its own and copper is still rising consistently.  In fact, the red metal is higher by 5% in the past week, a potential harbinger of better global growth.

Finally, the dollar is a touch softer this morning, but only a touch.  The biggest mover is ZAR (-0.6%) which is opposite the broader trend of very slight dollar weakness.  While South African equities have been drifting lower of late, today’s move feels more like an order in the market than a fundamental change.  Away from that, though, no currency of note has moved more than 0.2% on the day as traders await the onslaught of central bank news.

Speaking of news, we have other things beyond the central banks as follows:

TuesdayHousing Starts1.43M
 Building Permits1.50M
ThursdayInitial Claims216K
 Continuing Claims1815K
 Philly Fed-2.5
 Current Account-$209.5B
 Existing Home Sales3.95M
 Flash PMI Manufacturing51.7
 Flash PMI Services52.0
Source: tradingeconomics.com

In addition, starting Thursday, the first Fed speakers will be back on the tape to reinforce whatever message Chair Powell articulates on Wednesday.

From my vantage point, it appears that the BOJ’s rate hike has been accepted and priced in already, while the biggest surprise could be Switzerland.  However, the fate of the dollar lies in the hands of Powell, and that is an open question we will discuss tomorrow.  For today, don’t look for too much of anything in any market.

Good luck

Adf

Walk the Walk

Posted on by 
The Chinese are starting to feel
Recession could really be real
With PMI falling
Most pundits are calling
For policy help with more zeal

But so far, despite lots of talk
The Chinese will not walk the walk
One wonders how long
That they’ll sing this song
And when they’ll stop acting the hawk

Right now, the face of ‘all talk, no action’ is Chinese President Xi Jinping.  China’s economy has been slowing, or perhaps a better description is that the post-covid performance has been much less dynamic than had been widely anticipated.  Amongst the more concerning lowlights is the incredibly high youth unemployment rate there, with >21% of the population aged 18-24 unable to find work.  That is not the sign of economic dynamism.  You may recall the enthusiasm that greeted the news that the Covid lockdowns had ended suddenly in January and there was a widespread call for a rally in commodity prices in anticipation of the great reopening.  It never really happened.  Since then, things have been lackluster at best and the Chinese government has grown increasingly concerned.  However, they have not yet grown concerned enough to act in any significant way with fiscal policy support extremely narrow and inconsistent.

Last night simply reinforced these themes as the Caixin PMI Manufacturing data was released at 49.2, a full point below expectations and, of course, below the key 50 level indicating growth.  This was the lowest print since December, but a quick look at the numbers since then shows a very limited growth impulse in China.  The average reading in 2023 has been 50.1, hardly a sign of a rebound.  Now, the Chinese government did come out and say they are going to increase credit to private companies, focusing on small firms and the central government called on cities and provinces to do more to support the property markets.  But talk is cheap and until we see real money getting spent, it is hard to get excited about the Chinese economy.  Ultimately, while the PBOC is very concerned that the renminbi could fall sharply if they loosened their grip on the currency, I expect that a weaker CNY is going to be a theme for the rest of this year, and probably most of next year, as it offers the one release valve that they have available.  7.50 is still in the cards.

Away from the China story, the market’s focus on central banks intensified as the RBA left rates on hold at 4.10% despite market expectations of a 25bp rate hike.  The first casualty of this surprise was the AUD (-1.3%) which is the worst performing currency across the board today.  Apparently, their concern is that growth is faltering, and given the lack of growth in their largest export market, China, they believe that inflation pressures are ebbing and they have achieved their objectives.  Like all central banks these days, they claim to be data dependent and right now the data are telling them not to worry.  I guess that means when if inflation starts to reaccelerate, they will be back at the hiking game.  But for now, like central bankers all over the world, they are eager to claim victory over inflation.  

We heard this from the ECB last week, and it is quite possible that the BOE hints at that on Thursday as well, although inflation is much stickier in the UK than elsewhere.  My point is that the one central bank that is not satisfied is the Fed, where there is still a very wide consensus that the job is not done.  As long as US economic activity remains the best around, and that seems highly likely for another few months at least, it is hard to see any other central bank maintaining a more hawkish stance than the Fed.  Again, the underlying thesis of dollar strength is the Fed will be the most hawkish of all, and nothing we have seen today would contradict that theory.

How have markets responded to this news?  Well, yesterday saw a very late rally to take the US indices higher on the day, but only just, and while the Nikkei (+0.9%) had a good session, continuing its recent run, Chinese stocks, not surprisingly, were weighed down by the baggage of the PMI data.  Europe is also feeling the brunt of weak PMI data as the Manufacturing prints there were all in the low 40’s, except for Germany which managed to remain unchanged at 38.8!  Virtually all the markets on the continent are down by around 1% this morning in response to the data.  In fact, it is data like this that helped inform Madame Lagarde’s belief that the ECB is done, and who can blame her.  While inflation may be a problem, and the ECB’s only mandate, given she is a politician first and central banker second, the optics of tightening policy into a rapidly declining economy would be very difficult to explain.  Again, this bodes well for the dollar overall.  As to the US futures market, they are a bit softer this morning, not dramatically so, but it seems that there is some response to a generally softer tone in the earnings numbers released to date.

Interestingly, despite equity weakness, bond yields are higher in the US and across Europe by a few basis points.  For some reason, the bond market does not seem to agree with stocks, nor it seems, with most central bankers.  Inflation concerns remain top of the list for bond investors, and other than Down Under, where AGBs fell 8.6bps after the RBA left rates on hold, there seems to be a growing worry that the central banks are ending their fight too soon.  As to the US, once again the 10-year yield is approaching 4.0%, clearly a level of great import to the market.  I would also note that JGB yields edged ever so slightly lower overnight and remain below 0.60%.  However, it is still early days with respect to the policy changes there, so the eventual outcomes are still unclear.

Oil prices are very little changed today, consolidating their recent gains.  This must be a concern for the central banks as evidence of slowing economic activity is not leading to slowing demand for oil.  That is a key tenet of their policy structure.  The belief is weaker growth and recession will reduce demand for energy first, and then other things thus reducing inflationary pressures.  But if growth weakens and oil stays firm or rallies, they have a big problem.  Now, the metals complex is all softer this morning, behaving as would be expected in a weakening growth scenario, so it is oil that is the current outlier.

As to the dollar, it is king of the hill this morning.  While Aussie is the weak link, all the commodity currencies are under pressure, down between -0.6% and -0.9%.  But the yen (-0.5%) is also failing to find support on a risk-off day, which comes as a bit of a surprise to all those who continue to believe the BOJ is going to alter policy further.  Here, too, I see further weakness vs. the dollar as time progresses.  Just wait until the Fed hikes again and sounds hawkish as CPI data rebounds.

In the emerging markets, ZAR (-1.4%) has now edged ahead of the Aussie for title of worst of the day, as a response to the Chinese data, its own weak PMI reading and declining metals prices.  But virtually the entire bloc is weaker today with all three geographic areas feeling the pain.  

Yesterday’s US data was definitely soft with Chicago PMI at 42.8 and Dallas Fed at -20.0.  As well, the Senior Loan Officer Opinion Survey indicated that credit conditions for commercial and industrial loans had tightened further with reduced demand to boot.  In fact, the tightening is reaching levels last seen during the covid recession and the GFC.  This is not indicative of a soft landing, rather of a much harder one.  This morning we see Construction Spending (exp 0.6%), JOLTS Job Openings (9600K) and ISM Manufacturing (46.9) all at 10:00am.

And yet, despite the data and SLOOS, we heard from Goolsbee and Kashkari that they continue to believe a recession will be avoided.  This morning, Goolsbee is back on the tape, but we already know his view.  However, I do not believe he is in the majority at this point, though he is a voter, so come September, if they hike, perhaps we will have a dissent.

If the data is terrible, perhaps we will see the dollar cede some of this morning’s gains, but absent that outcome, let alone surprising strength, it feels like the dollar has further to rally.

Good luck

Adf

The Citizen’s Pain

Posted on by 
Last night, t’was Australia that showed
Employment growth had not yet slowed
And so, please expect
The central bank sect
To keep on the rate hiking road

They’ll not be content til they’ve slain
Inflation, and end this campaign
Yet, if all along
Their thesis is wrong
They’ll ne’er feel the citizen’s pain

On a very slow day in the markets, the most noteworthy news came from Down Under, where the Unemployment Rate fell back to 3.5% in a bit of a surprise while job growth continued at a speedier pace than analysts forecasted.  The market response was immediate with the Aussie dollar jumping sharply and it is now higher by 1.0% on the session, the leading gainer across all currencies, G10 or EMG today.  The rationale for the move is quite straightforward as market participants simply expect the RBA to maintain tighter policy than previously expected.  In the OIS market, the probability of a rate hike at the next RBA meeting on August 1st rose to 48% from just 27% prior to the release.  And correspondingly, Australian government bond yields jumped more than 8bps on the news.

Ultimately, the question that must be addressed is, does strong employment growth lead to higher prices overall?  As my good friend @inflation_guy has said consistently, we should all be ecstatic to have a wage-price spiral as the implication is prices rise AFTER our wages rise, so we are always ahead of the curve.  But we all know, and it has been made abundantly clear in this cycle, that wages follow prices higher.  One need only look at how prices continue to rise on a much more continuous basis than your salaries to see this clearly.  

However, this is gospel in the central banking sect of economists, that tight labor markets drive the general price level higher.  You may have heard of the Phillips Curve, which was a study done in 1958 regarding the relationship between the price of labor (i.e. wages) and the unemployment rate in the UK from 1861-1957.  William Phillips was the New Zealand economist who performed the analysis and basically it confirmed what we all learned in Economics 101, reduced supply of labor drove up wages while an increased supply of labor pushed wages lower.  Nowhere in the study did it discuss the general price level.  That came later with a litany of big name economists, finally with Milton Friedman explaining that in the long-run, there was no relation between wages and inflation, although on a short-term basis, it could evolve.

As so often happens in today’s world, it was easier to take the short-cut view, and that had an intuitive appeal, hence the current central bank mantra of we must bring wage growth down.  (Will they ever get concerned over bringing money growth down?  I fear not.).  At any rate, this is the widely accepted view of the world and so whatever its structural merits, when employment data shows a tighter labor market, the market response is to expect higher policy interest rates.  This was the story last night, hence the Aussie’s rally along with yields Down Under, and this has been the story consistently since the beginning of 2022, when global central banks embarked on the current round of policy tightening.  This is also why we consistently hear Chairman Powell explain that in order for the Fed to reach its 2% inflation target, there will need to be some pain, i.e. people need to lose their jobs.

But away from that, there has been very little of note ongoing.  Equity markets in Asia were unable to match yesterday’s modest gains in the US, with the Nikkei (-1.25%) the laggard of the bunch.  European bourses, however, have had a better go of it, with most of them higher on the order of 0.4% although Sweden’s OMX is down nearly -1.0% on the session bucking the trend.  US futures this morning are softer as there were several weaker than expected earnings numbers overnight including Netflix and Tesla.

In the bond market, Treasury yields have moved higher by 3bps this morning in the 10-year space, but even more in the 2-year space as the yield curve inversion gets deeper, now back above -101bps.  However, European sovereign bonds are little changed on the day with no data of note and the market trying to determine just how hawkish/dovish the ECB will be one week from today.  As to JGBs, their yields have stopped rising and they remain 5bps below the cap.  Do not expect any BOJ action next week.

Oil prices are a touch higher after a lackluster session yesterday, but remain above the key $75/bbl level.  Meanwhile, gold (+0.25%) continues to edge higher and is once again closing in on $2000/oz despite obvious catalysts or lower US interest rates.  As to the base metals, both copper and aluminum are nicely higher this morning as the entire commodity comlex is feeling some love.

Finally, the dollar is under pressure as not only is AUD firmer, but also NOK (+1.1%) on the back of oil’s gains, and virtually the entire bloc except for the pound (-0.3%) which still seems to be suffering from yesterday’s inflation data.  In the EMG bloc, CNY (+0.8%) is the leading gainer, a surprising outcome given its generally managed low volatility, but the fact that the PBOC did NOT reduce the Loan Prime Rate last night, in either the 1-year of 5-year term, was a bit of a surprise to the market as there is a growing belief the Chinese government will be adding more stimulus to a clearly slowing economy there.    But in this bloc, there are also a number of laggards with MXN (-0.4%) the worst of the bunch on what appears to be some profit-taking as traders start to position for the first rate cut since October 2020.

On the data front, yesterday’s housing data in the US was soft, with downward revisions to the previous month’s numbers.  This morning we see Initial (exp 240K) and Continuing (1722K) Claims as well as Philly Fed (-10.0), Existing Home Sales (4.20M) and Leading Indicators (-0.6%), the last of which have been pointing to recession for nearly a year.  However, once again, I expect the dollar will be beholden to the equity markets as none of these data points are likely to move the needle ahead of the FOMC next week.

For now, I think choppy price action is the likely outcome until we get more clarity from Powell and the Fed, as well as Lagarde and the ECB next week.  Who will be the most hawkish?  That is the $64 billion question.

Good luck
Adf

Policy Lies

Posted on by 
In China Xi’s growing concerned
That growth there will not have returned
Ere folks recognize
His policy lies
And seek changes for which they’ve yearned

So, last night they cut interest rates
While hoping it’s this that creates
The growth that is needed
So, Xi’s unimpeded
In ending all future debates

It has been another relatively dull session in markets as we are well and truly amid the summer doldrums despite solstice not arriving until tomorrow.  After an action-packed week with numerous central bank meetings as well as key inflation readings, this week is looking a lot less interesting.  From a market perspective, the most noteworthy news from overnight was the reduction in the Loan Prime Rate in China by 10 basis points, matching what we saw in their repo rates last week.  This is a very clear signal that there is a growing concern at the top in China regarding the growth trajectory of the country. 

 

Perhaps the most interesting part of this situation is the reversal of previous policy attempts to reduce property speculation with the latest message encouraging people to buy a second home!  It was only a few years ago when China, having massively leveraged its economy to generate their much vaunted 6% growth rate, realized that too much debt could turn into a problem.  This led to a policy change that discouraged property investment and ultimately led to the decimation of the property sector.  China Evergrande was the first major problem revealed, but there have been numerous other companies whose business model collapsed along with many people’s life savings. 

 

However, lately that story has been just background noise and represented just one of the many industries that the Xi government helped undermine.  You may recall the education (tutoring) companies that were turned into non-profits overnight, and the fight against the large tech companies like Alibaba and TenCent, which were deemed to be getting too powerful.  But a funny thing about a state-controlled economy is that business decisions made by government actors are typically abysmal and lead to further problems.  So, when the government decided that property speculation was bad, they cracked down hard.  But now that they are figuring out that much of the country’s wealth was tied up in the market they cracked down on, and that people reduced their economic activity accordingly, they realize that perhaps things were better with that speculation, at least politically.  Hence the reversal where the government is now encouraging that purchase of a second home.  You can’t make this stuff up.

 

At any rate, the one thing that is very clear is that the Chinese economy is continuing to drag and that the most natural outlet remains the renminbi, which weakened further last night (-0.3%) and continues to push toward the renminbi lows (dollar highs) seen in November 2022.  Given inflation remains extremely low there and given that the only model that the Chinese really know, the mercantilist export driven process, benefits from a weaker CNY, I would look for this trend to continue for quite a while going forward.

 

Otherwise, last night saw the release of the RBA Minutes which indicated that the surprise rate hike of a couple weeks ago was a much more closely debated outcome than previously thought.  This has led traders to downgrade their assessment of a rate hike next month and Aussie (-0.9%) fell accordingly.

 

Beyond those stories, though, there is precious little to discuss today.  Risk is on its back foot with equity markets in Europe mostly under pressures, and Chinese markets, especially, seeing weakness led by the Hang Seng’s -1.5% performance.  US futures are also a bit lower at this hour (7:30) following Friday’s lackluster session.  As discussed yesterday, there remains an active dialog between the bulls and the bears, with the bulls having the better of it for now, but the bears unwilling to give in.  My working assumption is we need that to occur before things can turn around, so we shall see.

 

As to the interest rate outlook, opposite the Chinese rate cuts, the Western markets continue to price in further rate hikes as inflation remains far above target levels throughout 6 of the G7 with only Japan maintaining their current QE/NIRP policies.  I think of greater concern for many economists is the fact that the inversion of the Treasury curve is not only substantial but has been increasing lately and is pushing back to -100bps for the 2yr-10yr spread.  Perhaps, after 11 months of this price action, the question needs to be asked if this is a natural occurrence and a clear signal for a recession in the not too distant future, or if there is something else happening, perhaps an artificial bid in the back end via Japanese QE, maintaining much lower than realistic long-term rates as a way to prevent the US government’s interest expenses from rising too rapidly.  With that as backdrop, though, it must be noted that European sovereign markets are much firmer this morning with 10-year yields all sharply lower, 6bp-7bp on the continent and 14bps lower in the UK after a new issuance with the highest coupon (4.5%) in decades drew substantial demand.

 

In the commodity markets, oil is relatively flat today having recaptured the $70/bbl level last month and to my mind seems to have found a bottom.  While gold is flat and continuing its consolidation, base metals markets are under a bit of pressure on this risk off day.

 

Finally, the dollar is generally a bit stronger, at least vs. its G10 counterparts, with only the yen (+0.4%) showing its haven characteristics while essentially the rest of the bloc has fallen about -0.35%.  In the emerging markets, the picture is more mixed with about half the currencies slightly stronger and half weaker but none having moved more than 0.3% in either direction, an indication that this is positional not newsworthy.

 

Looking ahead, this week brings mostly housing data but of more importance, we hear from Chairman Powell twice as he testifies to both the House Financial Services Committee and the Senate Banking Committee tomorrow and Thursday respectively.  We also hear from the BOE on Thursday with another 25bp rate hike expected there.

 

Today

Housing Starts

1400K

 

Building Permits

1425K

Thursday

Chicago Fed National Index

-0.10

 

Initial Claims

260K

 

Continuing Claims

1785K

 

Existing Home Sales

4.25M

 

Leading Indicators

-0.8%

Friday

Flash PMI Manufacturing

48.5

 

Flash PMI Services

54.0

 

Flash PMI Composite

53.5

Source: Bloomberg

 

I think we can expect Powell to continue the hawkish rhetoric and he will do so until either inflation is very clearly lowered, as measured by the regular data, or until the Unemployment rate starts to rise sharply.  However, the market is becoming of the opinion that Madame Lagarde and Governor Bailey will be more hawkish than Powell.  This has been the driver for the dollar’s relative softness over the past month.  In contrast, I remain quite confident that if Powell does pivot, it won’t be long before both the ECB and BOE do the same.

 

Good luck

Adf

Quite a Surprise

Posted on by

Down Under, in quite a surprise

The RBA did analyze

Inflation of late

And then couldn’t wait

To raise rates to multi-year highs

 

Explaining inflation’s been hot

The Governor and his team thought

If we don’t act now

We may well endow

The idea, our goal, we forgot

 

You know it is a dull day when the biggest news in the market is that the RBA surprised markets and raised their base rates by 25bps last night, taking the level to 4.10% and implying in their accompanying statement that more hikes were still on the table.  The money line from Governor Lowe was as follows, “The board remains alert to the risk that expectations of ongoing high inflation contribute to larger increases in both prices and wages, especially given the limited spare capacity in the economy and the still very low rate or unemployment.”   That does not sound like a central bank that has finished their hiking efforts and the market is now pricing a 50% probability of another rate hike by August.   It should be no surprise that the Aussie dollar (+0.6%) is the leading performer in the FX markets today, especially given that the dollar remains well bid overall.

 

In China, the PBOC

Has lately begun to agree

That growth’s in a slump

So, it’s time to pump

It up with a rate cut or three

 

The other interesting news overnight was that the PBOC has asked Chinese commercial banks, notably the big five banks, to cut deposit rates to their clients by 5bps in order to help encourage more spending, and correspondingly more growth.  Clearly, all is not well in the Middle Kingdom with respect to the economic situation although it is very interesting that the PBOC is not adjusting rates themselves.  Now, the big five state-owned banks are a critical part of Chinese monetary policy transmission, so a PBOC rate cut would feed through those institutions anyway, but I believe this is more theater in an effort to separate the government’s actions from direct support for the economy.  In the end, it’s all the same, as the Chinese rebound is very clearly under pressure.  One of the key drags remains the property sector and it is just not clear how the Chinese are going to solve that problem.  As of yet, like every government, they have simply kicked the can down the road a bit.  As to the renminbi, it continues to trade on the soft side, with the dollar above 7.10, although it is certainly not collapsing. 

 

However, after these two stories, there has been a dearth of news to drive things with just some desultory Factory Orders data from Germany (-0.4% M/M, -9.9% Y/Y) helping to remind everyone that the German economy, and by extension the Eurozone, has many issues yet to overcome after the loss of their cheap Russian energy.  So, let’s take a quick tour of markets and call it a day.

 

Yesterday’s big announcement from Apple regarding their new headset was less than scintillating to the trading community and we saw US equity indices slip a bit.  Overnight, while the Nikkei (+0.9%) managed a rally, the rest of the space generally fell and Europe, this morning is all in the red as well, albeit only on the order of -0.2%.  In fact, that -0.2% describes the US futures markets at this hour (7:30) too.

 

Bond yields have edged a bit lower on this modest risk off session with Treasuries (-1.1bps) consolidating their recent losses (yield gains) while European sovereigns have seen more demand with yields there lower by about -4bps across the board.  We haven’t touched on JGBs lately because there has been absolutely nothing happening in that market with the 10yr trading at 0.42%, still well below the YCC cap, and showing no pressure higher of note.

 

The one place where we have seen real movement this morning is commodity prices with oil (-2.2%) giving up almost all its post Saudi production cut gains.  The commodity market continues to be the leading proponent of a recession as can be seen in the base metals as well with both copper and aluminum under pressure today.  Meanwhile, gold (+0.1%) continues to hold its own despite pretty consistent dollar strength, definitely an unusual outcome and perhaps a commentary on general risk attitudes being heightened.

 

As to the dollar, it should be no surprise that NOK (-0.6%) is the G10 laggard given oil’s declines, but other than that and AUD’s gains, the rest of the G10 is split with modest gains and losses, although the euro (-0.2%) seems to be feeling a little heat from those lousy German numbers.  In the EMG space, though, there is a lot more dollar buying evident with both APAC and EMEA currencies under pressure.   Part of this movement seems to be related to some softer CPI prints encouraging the belief that interest rate rises are less likely, and part of this seems to be a bit of risk-off sentiment.

 

And that’s all there is today.  There is no US data to be released and, of course, the Fed is in their quiet period ahead of next week’s FOMC meeting.  As such, when it comes to the dollar, I expect that its recent underlying strength will remain barring a complete reversal in risk sentiment.

 

Good luck

Adf

 

Extinct

Posted on by

Down Under the RBA blinked
Regarding their policy linked
To Yield Curve Control
Which seemed, on the whole
To crumble and now is extinct

The question’s now how will the Fed
Address what’s become more widespread?
As prices keep rising
The market’s surmising
That rate hikes will soon go ahead

Here’s the thing, how is it that the Fed, and virtually every central bank in the developed world, have all been so incredibly wrong regarding inflation’s persistence while virtually every private economist (and markets) have been spot on regarding this issue?  Are the economists at the Fed and the other central banks really bad at their jobs?  Are the models they use that flawed?  Or, perhaps, have the central banks been knowingly trying to mislead both markets and citizens as they recognize they have no good options left regarding policy?

It is a sad situation that my fervent desire is they are simply incompetent.  Alas, I fear that central bank policy has evolved from trying to prevent excessive economic outcomes to trying to drive them.  After all, how else could one describe the goal of maximum employment other than as an extreme?  At any rate, as the saying goes, these chickens are finally coming home to roost.  The latest central bank to concede that their previous forecasts were misguided and their policy settings inappropriate was the RBA which last night ended its 20-month efforts at yield curve control while explaining,

“Given that other market interest rates have moved in response to the increased likelihood of higher inflation and lower unemployment, the effectiveness of the yield target in holding down the general structure of interest rates in Australia has diminished.”

And that is how a central bank cries ‘uncle!’

Recall, the RBA targeted the April 2024 AGB to keep it at a yield of, first 0.25%, and then after more lockdowns and concerns over the impact on the economy, they lowered that level to 0.10%.  Initially, it had success in that effort as after the announcement, the yield declined from 0.55% to 0.285% in the first days and hovered either side of 0.25% until they adjusted things lower.  In fact, just this past September, the yield was right near 0.0%.  But then, reality intervened and inflation data around the world started demonstrating its persistence.  On October 25, the yield was 0.125%, still behaving as the RBA desired.  By October 29, the end of last week, the yield had skyrocketed to 0.775%!  In truth, last night’s RBA decision was made by the market, not by the RBA.  This is key to remember, however much control you may believe central banks have, the market is still bigger and will force the central bank’s hand when necessary.

Which of course, brings us to the FOMC meeting that starts this morning and whose results will be announced tomorrow afternoon at 2:00pm.  Has the market done enough to force the Fed’s hand into adjusting (read tightening) policy even faster than they have expressed?  Will the Fed find themselves forced to raise rates immediately upon completing the taper or will they be able to wait an extended length of time before acting?  The latter has been their claim all along.  Thus far, bond traders and investors have driven yields in the front end higher by 25bps in the 2-year and 35bps in the 3-year over the past 6 weeks.  Clearly, the belief is the Fed will be raising rates much sooner than had previously been considered.

The problem for the Fed is that the economic data is not showing the robust growth that they so fervently desire in order to raise interest rates.  While inflation is burning, growth seems to be slowing.  Raising rates into that environment could easily lead to even slower growth while having only a minimal impact on prices, the worst of all worlds for the Fed.  If this is the outcome, it also seems likely that risk assets may suffer, especially given their extremely extended valuations.  One must be very careful in managing portfolio risk into this situation as things could easily get out of hand quickly.  As the RBA demonstrated last night, their control over interest rates was illusory and the Fed’s may well be the same.

With those cheery thoughts in our heads, a look at markets this morning shows that risk is generally being shed, which cannot be that surprising.  In Asia, equity markets were all in the red (Nikkei -0.4%, Hang Seng -0.2%, Shanghai -1.1%) as the euphoria over the LDP election in Japan was short-lived and the market took fright at the closure of 18 schools in China over the increased spread of Covid.  In Europe, equity markets are mixed with the DAX (+0.5%) and CAC (+0.4%) both firmer on confirmation of solid PMI Manufacturing data, but the FTSE 100 (-0.5%) is suffering a bit as investors grow concerned the BOE will actually raise the base rate tomorrow.

Speaking of interest rates, given the risk-off tendencies seen today, it should be no surprise that bond yields are lower.  While Treasury yields are unchanged as traders await the FOMC, in Europe, yields are tumbling.  Bunds (-3.5bps) and OATs (-5.6bps) may be the largest markets but Italian BTPs (-10.7bps) are the biggest mover as investors seem to believe that the ECB will remain as dovish as possible after last week’s ECB confab.  Only Gilts (-0.4bps) are not joining the party, but then the BOE seems set to crash it with a rate hike, so there is no surprise there.

Once again, commodity prices are mixed this morning, with strong gains in the agricultural space (wheat >$8.00/bushel for the first time since 2008) and NatGas also firmer (+3.0%), but oil (-0.35%). Gold (-0.1%), copper (-0.5%) and the rest of the base metals softer.  In other words, there is no theme here.

Finally, the dollar is having a pretty good day, at least in the G10 as risk-off is the attitude.  AUD (-0.85%) is the worst performing currency as positions get unwound after the RBA’s actions last night.  This has dragged kiwi (-0.7%) down with it.  But NOK (-0.6%) on lower oil prices and CAD (-0.3%) on the same are also under pressure.  In fact, only JPY (+0.35%) has managed to rally as a traditional haven asset.  In emerging markets, the outlier was THB (+0.6%) which has rallied on a sharp decline in Covid cases leading to equity inflows, while the other currency gainers have all seen only marginal strength.  On the downside, RUB (-0.5%) is feeling the oil heat while ZAR (-0.2%) and MXN (-0.2%) both suffer from the metals’ markets malaise.

There is absolutely no data today, nor Fed speakers as all eyes now turn toward ADP Employment tomorrow morning and the FOMC statement and following press conference tomorrow afternoon.  At this point, my sense remains that the market perception is the Fed will be the most hawkish of all central banks in the transition from QE infinity to the end of QE.  That should generally help support the dollar for now.  however, over time, the evolution of inflation and policy remains less clear, and if, as I suspect, the Fed decides that higher inflation is better than weakening growth, the dollar could well come under much greater pressure.  I just don’t think that is on the cards for at least another six months.

Good luck and stay safe
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Qui Vive!

Posted on by

“Inflation, inflation, inflation”
Lagarde explained might have duration
That’s somewhat extended
Before it has ended
But truly tis an aberration

Yet traders have come to believe
That Madame Lagarde is naïve
Though she’s been dogmatic
That rates will stay static
Investors are shouting qui vive!

It appears that, if anything, the gathering storm of interest rate hikes has done nothing but strengthen in my absence.  Inflation continues to be THE hot topic in markets, and central banks are finding themselves in uncomfortable positions accordingly.  Some, like the RBA, BOC and BOE, have either given up the ghost on the transitory idea and are moving or preparing to do so in order to address what has clearly become a much bigger problem.  Others, notably the ECB, remain ostrich-like and refuse to accept the idea that their policy responses to the pandemic induced government shutdowns and fiscal policy boosts have actually been quite inflationary.  In the face of the ever-increasing inflation numbers around the world, investors are flattening yield curves aggressively, with 2-year yields skyrocketing while 10-year and beyond yields drift lower.  At this point, yield curve inversion remains only a distant possibility, but one that is far more likely than had been the case just two weeks ago.  Ultimately, the market’s collective concern is that despite a slowing growth impulse, central banks will be forced to respond to the inflation data thus crimping future growth.  The major risk is they will ultimately slow growth with only a limited impact on prices thus exacerbating the situation.  Right now, it is not that much fun to be a central banker.

A quick recap shows that last week, Madame Lagarde pooh-poohed the idea that the market knew what it was doing by driving rates higher.  She whined that traders were not listening to the ECB’s forward guidance, which she claims shows rates are in no danger of being raised anytime soon.  However, futures traders in Europe are pricing in a 10bp rate hike by next summer, shortly after the PEPP expires.  Meanwhile, 10-year Bund yields, which have been negative since May 2019, have rallied to -0.10% and seem on the verge of returning to positive territory.  Of course, 2-year Bund yields have risen 30bps in the past 3 months as that curve flattens as well.  (As an aside, the FX market had a little hiccup here as well, with the euro rallying sharply after the Lagarde comments, only to give all that back and then some on Friday in the wake of higher than forecast PCE data from the US which has traders betting on more than 50bps of Fed Funds hikes in 2022 and another 100 basis points in 2023.

With that as backdrop, we have two major and one lesser central bank meetings this week, the RBA tonight, the FOMC on Wednesday and the BOE on Thursday.  While we will discuss the latter two at further length over the next several days, the current thinking is that the Fed will announce the timing of the tapering of QE while the market has the BOE as a 50-50 proposition to actually raise the base rate by 0.15%, returning it to 0.25%.

Beyond the central bank drama, we continue to see troubling economic statistics with US GDP growth slowing to 2.0% in Q3, a far cry from its 6.7% Q2 rate, while Chinese Manufacturing PMI fell to 49.2 and German Retail Sales fell -2.5% in September.  On the whole, the stagflation story continues to be the hottest ticket around both anecdotally and based on Google Trends.

As you can see, there is much to be discussed as the week progresses, but for now, let’s take a look at today’s markets.  Despite all the concerns over stagflation, which should theoretically be awful for equities, the US stock market knows no top and that continues to pull most other markets along for the ride.  In fact, last night, the only real issues were in China where the Hang Seng (-0.9%) and Shanghai (-0.1%) suffered as yet another Chinese real estate development company (Yango Group) is on the verge of defaulting on its debts.  However, the Nikkei (+2.6%) rallied strongly on the back of the LDP’s surprising retention of a majority (albeit reduced) of the Diet in weekend elections.  In Europe, though, there is nothing holding back equity investors with all markets in the green (DAX +0.85%, CAC +1.0%, FTSE 100 +0.5%) as bad data is ignored.  While Q3 earnings have been solid, it does seem that prospects going forward are more limited, however investors seem unconcerned for now.  And don’t worry, US futures are all firmly in the green, higher by around 0.4% at this point in the morning.

Given the risk on attitude that we have seen this morning, it is no surprise that bonds are selling off with yields backing up a bit.  Treasury yields (+2.3bps) are a bit higher but still well off the highs seen two weeks’ ago.  Across Europe, sovereign yields (Bunds +1.4bps, OATs +1.7bps and Gilts (+3.0bps) are also firmer in sync with the risk attitude as we see the entire continent’s bonds come under pressure.  One other noteworthy mover were Australian bonds (-18.3bps) which retraced 2/3 of the yield spike from last week as the market prepares for the RBA meeting tonight. You may recall that the RBA had been implementing YCC in the 3yr, seeking to hold that yield at 0.10%.  However, as inflation rose, so did that yield, finally spiking last week as market participants decided the RBA would change tactics, and the RBA did not push back.  Governor Lowe has his work cut out for him this tonight in explaining what the RBA will be doing next.

Turning to commodities, oil prices (+0.5%) are rising this morning and seem to be getting set to break the recent highs and start a new leg toward, dare I say it, $100/bbl.  Overall, however, the commodity complex is directionless today with NatGas (-1.4%) lower, gold (+0.2%) higher, copper (-0.1%) lower, the ags mixed as well as the other non-ferrous metals.  In other words, today seems to be far more noise than signal.

Finally, the dollar, too, seems confused today, with both gainers and losers abounding in both the G10 and EMG spaces.  In the G10, NOK (+0.25%) is the leader as it responds to oil’s rally, while JPY (-0.3%) is the laggard, I assume responding to the election results and the broader positive risk sentiment.  The rest of the bloc is well within those bounds and other than the data mentioned, doesn’t seem to have much short-term direction.

EMG currencies have shown a bit more movement, with TRY (+0.7%) the leader followed by CZK (+0.45%).  The Turkish story seems confused as the two data points showed PMI falling compared to last month and Inflation rising, neither of which would seem to benefit the lira, but there you go!  Meanwhile, the Czech budget deficit is expected to shrink somewhat as traders push the currency higher.  On the downside, there are a few more from which to choose as THB (-0.8%) is the worst performer followed by KRW (-0.7%) and ZAR (-0.6%).  The baht suffered as international investors sold stocks and bonds locally and repatriated currency.  Korea’s won seemed to suffer on broader based dollar strength despite decent export data, but talk is the future looks dimmer as growth around the world slows.  Meanwhile, the rand fell over ongoing concerns that the SARB, when it meets later this month, will disappoint on the rate rise front.

It is, of course, a big data week between the Fed and Friday’s NFP report:

Today ISM Manufacturing 60.5
IS Prices Paid 82.0
Wednesday ADP Employment 400K
ISM Services 62.0
Factory Orders 0.0%
FOMC Rate decision 0.00%-0.25%
Thursday Initial Claims 275K
Continuing Claims 2136K
Nonfarm Productivity -3.2%
Unit Labor Costs 6.9%
Trade Balance -$79.9B
Friday Nonfarm Payrolls 450K
Private Payrolls 400K
Manufacturing Payrolls 28K
Unemployment Rate 4.7%
Average Hourly Earnings 0.4% (4.9% Y/Y)
Average Weekly Hours 34.8
Participation Rate 61.8%

Source: Bloomberg

Obviously, the FOMC on Wednesday is the primary focus closely followed by Friday’s payroll report.  Before then, tonight’s RBA meeting will have the market’s attention and we cannot forget the BOE on Thursday.  All in all, it could be quite an eventful week.  As to the dollar, for now, especially against the euro, it feels like there is further room for appreciation as the market continues to see the Fed as far more hawkish than the ECB.  Quite frankly, I think both sides of that discussion will be comfortable with the outcome as a stronger dollar should help check inflation while a weaker euro can help rekindle the export engine.  Look for it to continue.

Good luck and stay safe
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Stop It

Posted on by

There are several central banks which
Are starting to look at a switch
From policy ease
To tight, if you please
As QE they now want to ditch

The Old Lady and RBA
Are two that seem ready to say
Inflation’s too high
And so we must try
To stop it ere it runs away

The dollar is under pressure this morning as investors and traders start to look elsewhere in the world for the next example of policy tightening.  The story of tapering in the US is, quite frankly, getting long in the tooth as it has been a topic of discussion for the past six months and every inflation reading points to the fact that, despite their protestations, FOMC members realize they need to do something.  But in essence, that is already a given in the market, so short of Chairman Powell explaining in his Friday appearance that the FOMC is likely to end QE entirely next month, this is no longer market moving activity.  The dollar has already benefitted from the relatively higher yields that are extant in the Treasury market, and expectations for a further run up are limited.

However, the same is not true elsewhere in the world as central bank plans are only recently crystalizing alongside the universally higher inflation prints.  So, the BOE, which has been more vocal than most, seems to be working hard to prepare markets for a rate hike and the market has taken the ball and run with it.  Thus, UK yields in the short end of the curve have moved rapidly higher with 3-year gilt yields higher by 53 basis points in the past 6 weeks and 15 bps in the past three sessions.  On Sunday we heard from BOE Governor Bailey that they will “have to act” soon to address rapidly rising inflation, and traders continue to push UK yields higher and take the pound along with it.  This morning, pound Sterling is higher by 0.75% and amongst the leading FX gainers on this ongoing activity.

Perhaps more interesting is the market reaction to the RBA Minutes last night, where discussion regarding rising real estate prices and the need to do something about them has encouraged the investment community to push yields much higher, challenging the RBA’s YCC in the 3-year AGB.  In fact, despite the RBA explicitly reiterating that conditions for raising rates “will not be met before 2024”, yields continue to rise sharply as fears that inflation will outpace current RBA expectations grow widespread.  Given this price action, one cannot be surprised that the Aussie dollar (+0.85%) has also risen quite sharply this morning.

The thing is, there are a number of conundrums here as well.  For instance, the euro is performing well this morning, up 0.4%, and there has been absolutely zero indication that the ECB is considering tighter monetary policy.  It is widely known that the PEPP will expire in March, but it is also very clear that the previous QE program, the APP, is going to be expanded and extended in some manner to make up for the PEPP.  The only question here is exactly what form it will take.  Similarly, there is no indication that the BOJ is even considering the end of QE or NIRP or YCC, yet the yen has managed to gain 0.3% this morning as well.

In fact, today’s price action is looking much more like broad-based dollar weakness abetted by some other idiosyncratic features rather than other stories driving the market.  This becomes clearer when viewing the commodity markets where virtually every commodity price is higher this morning led by oil (+1.25%), gold (+0.75%), copper (+1.15%) and aluminum (+1.6%).  Today is very much a classic risk-on type session with the dollar under pressure and other assets performing well in sync.

For instance, equity markets are in the green everywhere (Nikkei +0.65%, Hang Seng +1.5%, Shanghai +0.7%, DAX +0.2%, FTSE 100 +0.1%) with US futures also pointing higher by roughly 0.4% across the board.  At the same time, bond yields are creeping higher (Bunds +1.8bps, OATs +2.1bps, Gilts +1.8bps) as investors jettison their haven assets in order to jump on the risk bandwagon.  Treasury yields, though, are unchanged on the day although still trending higher from the levels seen late last week.

Adding it up; rising equity prices, rising commodity prices, falling bond prices, and a weaker dollar (with EMG currencies also firmer across the board) results in a clear risk-on framework.  This will warm the cockles of every central bankers’ heart as they will all see it as a vote of confidence in the job they are doing.  Whether that is an accurate representation is another question entirely, but you can’t fight the tape.  Risk is clearly in vogue today.

It is, however, worth asking if this positive attitude is misplaced.  After all, the recent data has hardly been the stuff of dreams.  Yesterday’s US releases were uniformly awful (IP -1.3%, Capacity Utilization 75.2%) with both significantly worse than forecast.  The upshot is that the Atlanta Fed GDPNow number fell to 1.165%, another step lower and an indication that despite (because of?) high inflation, growth is slowing more rapidly.  Meanwhile, Eurozone Construction Output fell -1.3% in August, continuing the down trend that began in March of this year.

I recognize it is earnings season and the initial releases for Q2 have been quite positive.  But I ask, is slowing growth and rising inflation really a recipe for continued earnings growth?  History tells us the answer is no, and I see no reason to believe this time is different.  Today’s price action seems anomalous to the big picture ideas, so be cognizant of that fact.  While markets can remain irrational longer than we can remain solvent, that does not mean it is sensible to go ‘all-in’ on risk because there is one very positive market day.  Tread carefully.

This morning’s US data brings Housing Starts (exp 1613K) and Building Permits (1680K) and that is all.  Though these are unlikely to get the market excited, we also hear from four Fed speakers, Daly, Barkin, Bostic and Waller, where efforts at recapturing the narrative will be primary.  It is growing increasingly clear that the Fed is annoyed that the persistent inflation narrative is gaining traction as it may force their hand in tightening policy before they would like.  Just remember, as important as the Fed is (and every central bank in their own economy), the market is much bigger.  And if the market determines that the Fed is no longer leading the way, or will soon need to change tack, it will force the issue.  On this you can depend.

While today everything is coming up roses, the lesson is that the Fed’s control over markets is beginning to wane.  Eventually that will be quite a negative for the dollar, but for now, despite today’s decline, I think the trend remains for a higher dollar.

Good luck and stay safe
Adf