Tag Archives: #tradetalks

At the Nonce

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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
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The Clear Antidote

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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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Tariffs Can Wait

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Said Trump, for now tariffs can wait
Since talks with the Chinese are great
When this news emerged
The stock market surged
While dollars and bonds did deflate

In what cannot be a very great surprise, last evening President Trump announced that there has been substantial progress in the trade negotiations with China and that the mooted tariff increases on March 2nd are going to be delayed indefinitely while the talks continue. It was pretty clear that neither side really wanted to see tariffs rise again, but if the reports are accurate, there has been some real movement in terms of the negotiations. Given the focus by all markets on this story, the reactions cannot be a great surprise. That said, the fact that Shanghai closed higher by 5.6% and other global markets are higher by just 0.2%-0.4% hints at just how much more important this issue is for China than for the US.

But in fairness, there was another driver for Chinese stocks, the ‘official’ end of the deleveraging campaign of the past two years. Despite the fact that Chinese debt levels have barely slowed their growth, the fact that the economy has clearly been under pressure from slowing global growth, and the fact that the trade situation has clearly hampered recovery attempts has led to a decision to open the credit spigots again. Two years ago, the Chinese recognized that their financial structure was wobbling due to significant growth in off balance sheet leverage. After a two-year effort to reduce those risks, the imperative of supporting the broad economy is now far more important than worrying about some arcane financial statistics. In the end, every government, whether liberal or totalitarian, can only address structural issues for short periods of time before the pressure grows too great to support growth in any way they can. As to the renminbi, it has strengthened a bit further, rising 0.3% and now trading at its strongest levels since last July. If, as has been reported, the trade deal includes a currency portion, it seems appropriate to look for the renminbi to trade back toward the 6.20 level, another 5%-7% stronger, over time.

Though wily, Prime Minister May
Might soon find she’s nothing to say
‘bout any new terms
As Parliament firms
Support for a Brexit delay

Of the other two stories that have been market drivers, let’s discuss Brexit first. PM May met with other EU leaders in Egypt over the weekend and there are now two competing theories as to what might happen. May has postponed the vote on her deal until March 12, basically daring Parliament to vote no and cause a no-deal Brexit. At the same time, while talk in Parliament has been about voting for a three-month extension, the EU has now discussed a 21-month extension as the only alternative under the theory that three months is not enough time to get anything done. Of course, for the pro-Brexit forces, 21 months is unpalatable as well since that would give enough time to hold a second referendum, which based on all the recent polling, would result in a remain vote. The pound has drifted higher by 0.2% this morning, back to the high end of its recent trading range, but until there is more clarity on the outcome, it will remain locked in a fairly narrow range. For the past seven months, the pound has traded in a range of 1.25-1.32. It seems unlikely to break out until a more definitive outcome is clear with Brexit.

Finally, regarding the third major market driver, the Fed, there were several stories in the WSJ over the weekend about how the Fed is now reevaluating its inflation target. It seems that they have become increasingly unhappy with their inability to achieve the 2.0% target, as measured by PCE. The prevailing view is that because they have been so successful at moderating inflation, people’s inflation expectations have now fallen so much that inflation cannot rise. That feels a little self-serving to me, especially since the ‘feel’ of inflation appears much higher than what is measured. At least in my world. Ask yourself if it feels like inflation is running at 1.8%, as you consider things like education, the cost of health insurance and property taxes. The point, however, is that they seem to be laying the ground to maintain easier monetary policy for a much longer period. If they are not constrained by inflation rising above their target, then rates can stay lower for longer. Frighteningly, this seems to be the Fed’s attempt to embrace MMT. In the end, if the Fed modifies their policy targets in this manner, it will be a decided dollar negative. In fact, I will need to reevaluate the premises underlying my market views. Unless, of course, all the other major central banks do the same thing, which is a fair bet.

At any rate, with the trade discussion today’s biggest story, risk appetite has returned, and we are seeing higher equity markets along with a weaker dollar and falling bonds. That said, the dollar’s decline is not substantial, on the order of 0.2% overall, although it has fallen against most of its counterparts. Turning to the data story, this week brings a fair amount of information, as well as Congressional Testimony by Chairman Powell and a number of other Fed speakers:

Tuesday Housing Starts 1.25M
  Building Permits 1.29M
  Case-Shiller Home Prices 4.5%
  Consumer Confidence 124.7
Wednesday Factory Orders 0.5%
Thursday Initial Claims 220K
  Q4 GDP 2.3%
  Chicago PMI 57.0
Friday Personal Income 0.3%
  Personal Spending -0.2%
  PCE 0.0% (1.7% Y/Y)
  Core PCE 0.2% (1.9% Y/Y)
  ISM Manufacturing 55.5
  Michigan Sentiment 95.7

In addition to Powell’s testimony, he speaks again Thursday morning, and is joined by five other Fed speakers throughout the week. Unless the data is extraordinarily strong, it is clear that there will be no discussion of further rate hikes. In fact, given this new focus on the inflation target, I expect that will be the topic of note amongst the group of them. And as all signs point to this being yet another way to justify easy money, look for a consensus to quickly build. If I am correct about the Fed’s turn regarding how they view inflation, the dollar will suffer going forward. This will force me to change my longer term views, so this week will be quite important to my mind. For today, however, it seems evident that risk appetite will help push the dollar somewhat lower from here.

Good luck
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A Lack of Pizzazz

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This week, central banks, numb’ring three
Released information that we
Interpreted as
A lack of pizzazz
So, don’t look for tight policy

Yesterday’s release of the ECB Minutes from their January meeting didn’t garner nearly as much press as the FOMC Minutes on Wednesday. However, they are still important. The topic du jour was the analysis necessary to help them determine if rolling over the TLTRO’s was the appropriate policy going forward. Not surprisingly, the hawks on the committee, like Austria’s Ewald Nowotny, said there is no hurry and a decision doesn’t need to be taken until June when the first of these loans fall below twelve months in their remaining term. I am pretty sure that he is against adding any more stimulus at all. At the same time, given the recession in Italy and slowing growth picture throughout Germany and France, and given that Italian and French banks had been the first and third most active users of the financing, in the end, the ECB cannot afford to let them lapse. I remain 100% convinced that these loans will be rolled over in an effort to ‘avoid tightening financial conditions’, not in order to ease them further. However, the market impact of the Minutes was muted at best, as has been this morning’s data releases; one confirming that German GDP was flat in Q4, and more importantly, the decline in the Ifo Business Climate indicator to 98.5, its lowest level in four years. Meanwhile, Eurozone inflation remains absent from the discussion with January’s data confirmed to have declined to a 1.4% Y/Y rise. Nothing in this data indicates the ECB will tighten policy in 2019, and quite frankly, I would be shocked to see them move in 2020 as well.

The other central bank information of note was the Bank of Canada, where Governor Poloz spoke in Montreal and explained that while the current policy setting (base rates are 1.75%) remain below their range of estimates of the neutral rate (2.5%-3.5%), current conditions dictate that there is no hurry to tighten further, especially with the ongoing uncertainty emanating from the US and the overall global trade situation. So here is another central bank that had been talking up the tightening process and has now backed away.

In virtually every case, the central banks continue to hang their hats on the employment market’s strength, and the idea that a tight jobs market will lead to higher wages, and thus higher inflation. The thing is, this Phillips Curve model has two flaws; first it only relates lower unemployment to higher wages, not higher general inflation; and second, it is based on an analysis of the UK from 1861-1957, which may not actually be a relevant timeline compared to the global economy in 2019. And one other thing to remember is that employment is a lagging indicator with respect to economic signals. This means that it is backward looking and has been demonstrated to have limited predictive power. My point is that despite a clearly strong employment situation, it is still entirely possible that global growth can slow much further and much more quickly than policymakers would have you believe.

Back to the currency markets, the upshot of all the new information was that traders have essentially left both the euro and the Loonie unchanged for the past two days. In fact, they have left most currencies that way. This morning’s largest G10 mover is the pound, which just recently has extended its losses to -0.40% after it became clear that the EU was NOT going to make any concessions regarding the backstop issue as had been believed just yesterday. The latest story is that the UK is going to ask for a three-month extension, which is likely to be granted. The thing is, the problem is not going to get any easier to solve in three months’ time than it is now. This will simply extend the time of uncertainty.

Of course, the other story is the trade talks and the positive spin that we continue to hear despite the information that there remain wide differences on key issues like enforcement of any deals as well as the speed with which the Chinese are willing to open up their markets. It is all well and good for the Chinese to say they will buy more corn, or more soybeans or more oil, but while nice, those pledges don’t address the question of IP protection and state subsidies. I remain concerned that any deal, if it is brokered, will be much less impactful than is claimed. And it is quite possible that the US will not remove any of the current tariffs until they have validation that the Chinese have upheld their side of any deal. I feel like the market is far too optimistic on this subject, but then again, I am a cynic.

While FX markets have been slow to respond to these stories, we continue to see equity markets wholeheartedly embrace the idea that a deal is coming soon and there is no reason to worry. Last night, Chinese equity markets rallied sharply (Shanghai +1.9%), although the Nikkei actually slipped -0.2%. European markets this morning are higher by around 0.4%-0.5%, as they, too, seem bullish on the trade picture. Certainly, it is not based on the economic picture in the Eurozone.

But as we have seen for the past several weeks, central banks, Brexit and trade are the only stories that matter. Right now, investors and traders are giving mixed signals, with the equity markets feeling positive, but currency and bond markets much less so. My money is on the bond market vs. the stock market as having correctly analyzed the situation.

Good luck and good weekend
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Carefully Looking Ahead

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The Minutes explained that the Fed
Was carefully looking ahead
But so far it seems
The hawks’ fondest dreams
Of hiking again might be dead

As well, when it comes to the size
Of the Fed’s balance sheet, in their eyes
It’s likely to stay
Quite large like today
Not shrink while they, debt, monetize

Markets are little changed this morning after a lackluster session yesterday when the Fed released their Minutes from the January meeting. Overall, the tone of the Minutes seemed to be slightly less dovish than the tone of the Powell press conference that followed the meeting, as well as much of the commentary we have heard since then. Apparently, Cleveland’s Loretta Mester is not the only one who believes rates will need to be raised further this year, as the Minutes spoke of “several’ members with the same opinion. Of course, that was offset by “several” members who had the opposite view and felt that there was no urgency at all to consider raising rates further this year. Patience continues to be the watchword at the Mariner Eccles building, and I expect that as long as the economic data does not differ dramatically from forecasts, the Fed will be quite happy to leave rates on hold. They specifically mentioned the potential problems that could derail things like slowing global growth, a poor outcome in the US-China trade talks or a disruptive Brexit. But for now, it appears they are comfortable with the rate setting.

The balance sheet story was of even more interest to many market participants as the gradual running off of maturing securities has seemingly started to take a bite out of available liquidity in markets. And in fact, this seems to be where the Fed minutes indicated a more dovish stance in my eyes. While there is still a thought that rates might be raised later this year, it was virtually unanimous that shrinking the balance sheet will end this year, leaving the Fed with a much larger balance sheet (~$3.5-$4.0 trillion) than many had expected. Recall, prior to the financial crisis the Fed’s balance sheet was roughly $900 billion in size. To many, this is effectively a permanent injection of money into the economy and so should support both growth and inflation going forward. However, the risk is that when the next downturn arrives (and make no mistake, it Will arrive), the Fed will have less room to act to support the economy at that time. This is especially true since even with another one or two rate hikes, Fed Funds will have topped out at a much lower level than it has historically, and therefore there will be less rate cutting available as a policy tool.

Adding it up, it seems rate guidance was mildly hawkish and balance sheet guidance was mildly dovish thus leaving things largely as expected. It is no surprise market activity was muted.

This morning, as the market awaits the ECB Minutes, we see the dollar little changed overall, although there have been some individual currency movements. For example, AUD has fallen 0.7% (and dragged NZD down -0.5%) after a well-respected local economist changed his rate view to two RBA rate cuts later this year due to the rapidly weakening housing market. Prior to this, the market had anticipated no rate movement for at least another 18 months, so this served as quite a change. And all this came despite strong Australian employment data with the Unemployment rate remaining at 5.0% and job growth jumping by 39K.

Meanwhile, mixed data from Europe has leaned slightly bullish as surprisingly strong French Composite PMI data (49.9 vs 49.0 expected) offset surprisingly weak German Manufacturing PMI data (47.6 vs 49.7 expected). I guess the market already knows that Germany is slowing more rapidly than other nations in the Eurozone (except for Italy) due to the ongoing trade friction between the US and China. But despite the ongoing Gilets Jaune protests, the French economy managed to find some strength. At any rate, the euro has edged higher by 0.15% after the reports. At the same time, the pound has also rallied 0.15% after releasing the largest budget surplus on record (since 1993), and perhaps more importantly, on some apparent movement by the EU on Brexit. PM May is hinting that she may be able to get a legally binding way to end the backstop in a codicil to the Brexit negotiations, which if she can, may allow cover for the more euro skeptical members of her party to support the deal. There is no question the pound remains completely beholden to the Brexit story and will continue to do so for at least another month.

Pivoting to the trade talks, there are several stories this morning about how negotiators are preparing a number of memos on separate issues with the idea they will be brought together at the Trump-Xi meeting to be held in the next several weeks. There is no question that the market continues to view the probability of a deal as to be quite high, but I keep looking at the key issues at stake, specifically with regards to IP and the coercion alleged by US companies, and I remain skeptical that China will back away from that tactic. The Chinese do not view the world through the same eyes as the US, or the Western World at large. As per an article in the WSJ this morning, “We must never follow the Western path of constitutionalism, separation of powers and judicial independence,” Mr. Xi said in an August speech. That comment does not strike me as a basis for compromise nor enforcement of any deal that relies on those issues. But for now, the market continues to believe.

And that’s pretty much the stuff that matters today. We do get most of our data for the week this morning with Initial Claims (exp 229K), Durable Goods (1.5%, 0.3% ex transport), Philly Fed (14.0) and Existing Home Sales (5.00M). While individually, none of them have a huge impact, the suite of information if consistently strong or weak, could well lead to some movement given the broad sweep of the economy covered. There are no Fed speakers on the docket today, and so it doesn’t appear that there is much reason to expect real movement today. Equity markets around the world have seen limited movement and US futures are flat to slightly lower. Treasury yields are slightly firmer but remain at the bottom end of their recent trading range. Overall, it seems like a dull day ahead.

Good luck
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No Magical Date

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March 1st is no magical date
Said Trump, while investors fixate
On whether a deal
On trade will be sealed
By then, or if tariffs can wait

After a day where there was mercifully little discussion of the ongoing trade negotiations, they have come back to the fore. Yesterday, President Trump indicated that the March 1st deadline for a deal was now far more flexible than had previously been indicated. Based on the reports that there has been substantial progress made so far, it seems a foregone conclusion that tariffs will not be rising on March 2nd. However, key issues remain open, notably the question of forced technology transfer and IP theft. Of course, as the Chinese maintain that neither one of those things currently occur, it is difficult for them to accept a resolution and change their methods. On the flip side, both Trump and Xi really need a deal to remove a major economic concern as well as to demonstrate their ability to help their respective nations.

One of the things that appears to be on the agenda is a Chinese pledge to maintain a stable yuan going forward, rather than allowing the market to determine its value. Looking back, it is ironic that the IMF allowed the yuan to join the SDR in 2016 to begin with, given that it continues to lack a key characteristic for inclusion in the basket; the ability to be “freely usable” to make payments for international transactions. And while the PBOC had been alleging that they were slowly allowing more market influence on the currency in their efforts to internationalize it, the results of the trade talks seem certain to halt whatever progress has been made and likely reverse some portion of it. It should be no surprise that the yuan strengthened on the back of these reports with the currency rallying 0.8% since yesterday morning. If currency control is part of the deal, then my previous views that the renminbi will weaken this year need to be changed. Given the continued presence of financial controls in China, if they choose to maintain a strong CNY, they will be able to do so, regardless of what happens in the rest of the world.

Meanwhile, away from the trade saga, the ongoing central bank activities remain the top story for markets. This has been made clear by comments from several central bankers in the past 24 hours. First, we heard from Cleveland Fed President Mester who, unlike the rest of the speakers lately, indicated that she expects rates to be higher by the end of the year. her view is that 3.00% is the neutral rate and that while waiting right now makes sense, the growth trajectory she expects will require still higher rates. However, while the FX market paid her some attention, it is not clear that the equity market did. Two things to note are that she is likely the most hawkish member of the Fed to begin with, and she is not a voting member this year, so will not be able to express her views directly.

Remember, too, that at 2:00 this afternoon, the FOMC Minutes of the January meeting will be released. Market participants and analysts are all very interested to see the nature of the conversation that led to the remarkable reversal from ‘further rate hikes are likely, to ‘patience is appropriate for now’ all while economic data remained largely unchanged. Until that release, most traders will be reluctant to add to any positions and movement is likely to be muted.

Across the pond, ECB Member Peter Praet continues to discuss the prospect of rolling over TLTRO’s which begin coming due in June of next year. Remember, one of the key issues for the Eurozone banks who availed themselves of this funding is that once the maturities fall below one year, it ceases to be considered long term funding and impacts bank capital ratios. Banks will then either have to call in loans that were made on the basis of this funding, or raise loan interest rates, or see their profits reduced as they pay more for their capital. None of these situations will help Eurozone growth. So, despite claims that banks must stand on their own, and TLTRO’s will only be rolled over if there is a monetary policy case to be made, the reality is that it is quite clear the ECB will roll these loans over. If they don’t, it will require the restarting of asset purchases or some other easing measure.

Once again, I will highlight that given the current growth and inflation trajectories in the Eurozone, there is a vanishingly small probability that the ECB will allow policy to get tighter than its current settings, and a pretty large probability that they will ease further. This will not help the euro regardless of the Fed’s actions. Yesterday saw the euro rally on the back of the updated trade story, but that has been stopped short as the market begins to accept the idea that the ECB is not going to tighten policy at all. Thus, this morning, the euro is unchanged.

The final story of note is, of course, Brexit, where the most recent word is that PM May is seeking to get a subtle change in the EU stance on the backstop plan thus allowing a new vote, this time with a chance of passing. The pro-Brexit concern is that the current form of the backstop will force the UK to be permanently attached to the EU’s trade regime with no say in the matter, exactly the opposite of what they voted for. May is meeting with EU President Juncker today, and it is quite possible that the EU is starting to feel the pressure of the ramifications of a no-deal Brexit and getting concerned. The Brexit outcome remains highly uncertain, but the FX implications remain the same; a Brexit deal will help the pound rally initially, while a no-deal Brexit will see a sharp decline in Sterling. Yesterday there was hope for the deal and the pound rallied. This morning, not so much as the pound has given back half the gain and is down 0.2% on the day.

Elsewhere, the dollar has been mixed with gainers and losers in both the G10 and the EMG blocs as everybody awaits the Minutes, which is the only data for the day. It is hard to believe there will be much movement ahead of them, and afterwards, it will depend on what they say.

Good luck
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Two Countries that Fought

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There once were two countries that fought
‘bout trade as each one of them thought
The other was cheating
Preventing competing
By champions both of them sought

They sat down to seek a solution
So both could avoid retribution
But talks have been tough
And not yet enough
To get a deal for execution

The US-China trade talks continued overnight, and though progress in some areas has been made, clearly it has not yet been enough to bring in the leadership. The good news is that the talks are set to continue next week back in Washington. The bad news is that the information coming out shows that two of the key issues President Trump has highlighted, forced technology transfer and subsidies for SOE’s, are nowhere near agreement. The problem continues to be that those are pillars of the Chinese economic model, and they are going to be loath to cede them. As of this morning, increased tariffs are still on the docket for midnight, March 2, but perhaps next week enough progress will be made to support a delay.

Equity markets around the world seemed to notice that a deal wasn’t a slam dunk, and have sold off, starting with a dull session in the US yesterday, followed by weakness throughout Asia (Nikkei -1.1%, Shanghai -1.4%). Interestingly, the European markets have taken a different view of things this morning, apparently attaching their hopes to the fact that talks will continue next week, and equity markets there are quite strong (DAX +1/0%, FTSE +0.4%). And the dollar? Modestly higher at this time, but overall movement has been muted.

Asian markets also felt the impact of Chinese inflation data showing CPI fell to 1.7% last month, below expectations and another indication that growth is slowing there. However, the loan data from China showed that the PBOC is certainly making every effort to add liquidity to the economy, although it has not yet had the desired impact. As to the renminbi, it really hasn’t done anything for the past month, and it appears that traders are biding their time as they wait for some resolution on the trade situation. One would expect that a trade deal could lead to modest CNY strength, but if the talks fall apart, and tariffs are raised further, look for CNY to fall pretty aggressively.

As to Europe, the biggest news from the continent was political, not economic, as Spain’s PM was forced to call a snap election after he lost support of the Catalan separatists. This will be the nation’s third vote in the past four years, and there is no obvious coalition, based on the current polls, that would be able to form. In other words, Spain, which has been one of the brighter lights in the Eurozone economically, may see some political, and by extension, economic ructions coming up.

Something else to consider on this issue is how it will impact the Brexit negotiations, which have made no headway at all. PM May lost yet another Parliamentary vote to get the right to go back and try to renegotiate terms, so is weakened further. The EU does not want a hard Brexit but feels they cannot even respond to the UK as the UK has not put forth any new ideas. At this point, I would argue the market is expecting a delay in the process and an eventual deal of some sort. But a delay requires the assent of all 27 members that are remaining in the bloc. With Spain now in political flux, and the subject of the future of Gibraltar a political opportunity for domestic politics, perhaps a delay will not be so easy to obtain. All I know is that I continue to see a non-zero probability for a policy blunder on one or both sides, and a hard Brexit.

A quick look at the currency markets here shows the euro slipping 0.2% while the pound has edged higher by 0.1% this morning. Arguably, despite the Brexit mess, the pound has been the beneficiary of much stronger than expected Retail Sales data (+1.0% vs. exp +0.2%), but in the end, the pound is still all about Brexit. The sum total of the new economic information received in the past 24 hours reaffirms that global growth is slowing. Not only are inflation pressures easing in China, but US Retail Sales data was shockingly awful, with December numbers falling -1.2%. This is certainly at odds with the tune most retail companies have been singing in their earnings reports, and given the data was delayed by the shutdown, many are wondering if the data is mistaken. But for the doves on the Fed, it is simply another point in their favor to maintain the status quo.

Recapping, we see trade talks dragging on with marginal progress, political pressure growing in Spain, mixed economic data, but more bad news than good news, and most importantly, a slow shift in the narrative to a story of slowing growth will beget the end of monetary tightening and could well presage monetary ease in the not too distant future. After all, markets are pricing in rate cuts by the Fed this year and no rate movement in the ECB (as opposed to Draghi’s mooted rate hikes later this year) until at least 2020. The obvious response to this is…add risk!

A quick look at today’s data shows Empire State Manufacturing (exp 7.0), IP (0.1%), Capacity Utilization (78.7%) and Michigan Sentiment (94.5). We also have one last Fed speaker, Raphael Bostic from Atlanta. Virtually all the recent Fed talk has been about when to stop the balance sheet runoff, with Brainerd and Mester the latest to discuss the idea that it should stop soon. And my guess is it will do just that. I would be surprised if they continue running down the balance sheet come summer. The changes going forward will be to the composition, less mortgages and more Treasuries, but not the size. And while some might suggest that will remove a dollar support, I assure you, if the Fed has stopped tightening, no other nation is going to continue. Ironically, this is not going to be a dollar negative, either today or going forward.

Good luck and good weekend
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The Market’s Malaise

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Said Trump we might wait sixty days
Before, Chinese tariffs, we raise
Since talks have gone well
There’s no need to sell
Thus ended the market’s malaise

The US-China trade talks continue to dominate the news cycle with the latest news being President Trump’s comments that a sixty-day delay before imposing further tariffs is being considered. While this had been mooted by many analysts, including me, it still was sufficient to help boost the equity market in the US yesterday afternoon. Interestingly, it also seemed to boost the dollar, which rallied throughout yesterday’s session. Clearly, if the Chinese trade situation gets settled, which I continue to believe is quite difficult, it is a net positive for the global economy. But don’t forget that the President is also looking at tariffs on the European auto sector, as well as is maintaining tariffs on imported aluminum and steel, so all is not clear yet. But certainly, the China story has received top billing of late.

The other big story, Brexit, has had less press lately (at least outside the UK) as the ongoing machinations of the British Parliamentary process remain obscure to almost everyone else. The current argument seems to be that a bloc of EU skeptics wants to ensure that the option of a no-deal Brexit remains on the table as a negotiating tactic. You can’t really blame the EU for getting frustrated as the UK has not yet provided a united front as to their demands. But with that said, ultimately it will come down to the Irish backstop and how that can be tweaked to get enough support by the UK. It’s still a game of chicken. Elsewhere in the UK, MPC member Gertjan Vlieghe, one of the more dovish by reputation, commented that a hard Brexit was unlikely to require higher rates as Governor Carney had mentioned previously. That has been my stance all along, and I continue to see the UK leaning toward cutting rates as growth continues to ebb there.

Speaking of ebbing growth, German GDP in Q4 printed at 0.0%, no growth at all. If you recall, Q3 growth there was -0.2%, so they barely avoided a technical recession. While many analysts continue to point to a series of one-off circumstances that drove the poor performance, it remains pretty clear that the underlying growth impulse is under downward pressure. We saw this when the IMF and the European Commission both significantly reduced their forecasts for 2019 GDP growth in Germany, as well as throughout the Eurozone. Today’s data did nothing to change any views on that issue. Regarding the impact on the euro, while it is unchanged today, that is after a 0.5% decline yesterday and a more than 2% decline this month. In the end, the relative situation continues to favor the dollar over the euro in my view.

Japan released GDP data last night as well, with Q4 growth rebounding to a 1.4% annual rate after a sharp decline in Q3. Here, too, Q3 was blamed on idiosyncratic features, but the underlying features of this report show slowing consumption and softening external demand. The yen has been moving in lock-step with the euro, having fallen pretty steadily all month and is down a bit more than 2.0% as well. The difference between the euro and the yen, however is that the yen retains its haven status, and if the deterioration of economic growth continues and we start pushing toward recession, I see the yen outperforming going forward.

Stepping back and looking at the broad picture of the dollar this morning, it is modestly higher, with gains against some EMG currencies (INR, RUB, BRL), but weakness against both Aussie and Kiwi. In the end, the major currencies have done little although it seems the dollar continues to have legs, even in the short term.

On the data front, yesterday’s CPI data came in just a touch firmer than expected, with the core number unchanged at 2.2% rather than the expected 0.1% decline. This morning brings PPI, which nobody is really going to care about given we already got CPI, and Retail Sales, which have been delayed by the shutdown. Expectations there are for a 0.2% rise with a 0.1% rise ex autos. Yesterday we also heard from three Fed speakers, all of whom expressed confidence the economy was solid, and today we hear from one more. As I have recently written, the Fed message has been very consistent lately, growth is solid, inflation pressures remain tame and there is no reason to raise rates further. As long as that remains the case, it will support asset markets, and likely the dollar.

Good luck
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Great Apprehensions

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In England the rate of inflation
Has fallen despite expectation
By Carney and friends
That recent price trends
Would offer rate hike validation

But markets have turned their attentions
To news of two likely extensions
The deadline on trade
And Brexit charade
Have tempered some great apprehensions

Two key data points lead the morning news with UK inflation falling below the BOE’s 2.0% target for the first time since the Brexit vote while Eurozone IP fell far more sharply than expected. Headline CPI in the UK declined to 1.8% while core remained at 1.9%, with both printing lower than market expectations. Given the slowing economic picture in the UK (remember the slowest growth in six years was reported for Q4 and 2018 as a whole), this cannot be that much of a surprise. Except, perhaps, to Governor Carney and his BOE brethren. Carney continues to insist that the BOE may need to raise rates in the event of a hard Brexit given the possibility of an inflation spike. Certainly, there is no indication that is likely at the present time, but I guess anything is possible. Granted he has explained that nothing would be done until the “fog of Brexit” has lifted but given the overall global growth trajectory (lower) and the potential for disruption, it seems far more likely that the next BOE move is down, not up. The pound originally sold off on the news but has since reversed course and is higher by 0.3% as I type. Overriding the data seems to be a growing belief that both sides will blink in the Brexit negotiations resulting in a tentative agreement of a slightly modified deal with a few extra months made available to ratify everything. That’s probably not a bad bet, but it is by no means certain.

On the Continent, the data story was also lackluster, with Eurozone IP falling a much worse than expected -0.9% in December and -4.2% Y/Y. It is abundantly clear that Germany’s problems are not unique and that the probability of a Eurozone recession in 2019 is growing. After all, Italy is already there, and France has seen its survey data plummet in the wake of the ongoing Gilets Jaunes protests. However, despite this data, the euro has held onto yesterday’s modest gains and is little changed on the day. The thing is, I still cannot figure out a scenario where the ECB actually raises rates given the economic situation. Even ECB President Draghi has recognized that the risks are to the downside for the bloc’s economy, and yet he is fiercely holding onto the idea that the next move will be higher rates. It won’t be higher rates. The next move is to roll over the TLTRO’s and interest rates will remain negative for as far as the eye can see. There is a growing belief in the market that because the Fed has halted its policy tightening, the dollar will fall. But since every other central bank is in the same boat, the relative impact still seems to favor the US.

Away from those stories, the market continues to believe that a US-China trade deal is almost done. At least, that’s the way equity markets are trading. President Trump’s comment that he would consider extending the March 1 tariff deadline if there was sufficient progress and it looked like a deal was in the offing certainly helped sentiment. But as with the Brexit issue, where the Irish border situation does not offer a simple compromise, the US requests for ending forced technology transfer and IP theft as well as the reduction of non-tariff barriers strike at the heart of the Chinese economic model and will not be easily overcome. It seems that the most likely outcome will be a delay of some sort and then a deal that will have limited long-term impact but will get played up by both sides as win-win. In the meantime, the PBOC will continue to add stimulus to the economy, as will the fiscal authorities, as they seek to slow the rate of decline. And you can be sure that no matter how the economy actually performs, the GDP data will be firmly above expectations.

And those are the big stories. The dollar has had a mixed performance overnight with two currencies making substantial gains, NZD +1.25% and SEK +0.6%, both of which responded to surprises by their respective central banks. The RBNZ left rates on hold, as universally expected, but instead of offering signs of further rate cuts, simply explained that rates would remain on hold for two years before likely rising. This was taken as hawkish and the currency responded accordingly. Similarly, the Riksbank in Stockholm explained that they still see the need for rates to rise later this year despite the current slowing growth patterns throughout Europe. As I had written yesterday, expectations were growing that they would back away from any policy tightening, so the krone’s rally should be no real surprise. But beyond those two stories, movement has been much less substantial in both the G10 and EMG blocs.

This morning’s data brings CPI (exp 1.5% headline, 2.1% core) which will be closely watched by all markets. Any further weakness will likely see another leg higher in equity markets as it will cement the case for the Fed having reached the end of the tightening cycle. A surprise on the high side ought to have the opposite impact, as concerns the Fed might not yet be done will resurface. There are also three Fed speakers, but for now, that message of Fed on hold seems pretty unanimous across the FOMC.

Absent a surprise, my money is on a directionless day today. The dollar’s recent rally has stalled and without a new catalyst will have a hard time restarting. However, there is no good reason to think things have gotten worse for the buck either.

Good luck
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Progress Is Real

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In Beijing, talks focused on trade
Continue as both sides conveyed
That progress is real
With hopes for a deal
Increasing, or so it’s portrayed

Once again, the market is embracing the idea that a trade deal is coming and coming soon. Talks in Beijing have restarted and while yesterday President Trump indicated he would not be meeting Chinese President Xi by month’s end, as had been suggested last week, this morning, Mr Trump expressed a desire to meet with him “very soon”. Investors have taken this to mean that while a deal may not be completed by the initial March 1st deadline, there will be an extension of the truce and no tariff increases at that time. It should be no surprise that the equity market has taken this news well, with Asian stocks generally rallying (Nikkei +2.6%, Shanghai +0.7%), European stocks following suit (DAX + 1.3%, CAC + 1.1%) and US equity futures pointing higher (DJIA + 0.8%, S&P + 0.7%). Adding to the bullishness has been the news that there is a tentative deal in Congress to avoid a second government shutdown. So, all the stars have aligned for the bulls today.

And yet, the data continues to be lackluster with limited prospect to improve in the short run. A random sampling of recent releases shows that UK growth (as mentioned yesterday) was the weakest in six years and shows no signs of picking up ahead of Brexit. But also, Norwegian inflation is sinking along with Mexican IP and the Australian housing market. South African Unemployment remains near a record 27.5% and even the NFIB Survey here at home has fallen to its lowest level since November 2016 (Trump’s election), although it remains much closer to its historic highs than its lows. The point is that despite soothing words from central bank officials that recent weaker data is temporary, it is looking nothing of the sort. I’m not sure when temporary morphs into long-term, but we are now pushing into our fifth consecutive month of slowing global data and the trend shows no signs of abating.

So, what is an investor or a hedger to conclude from all this? Is the trade deal more important? Or is it the ongoing data story? While both of those may have short-term impacts, the reality remains that it is still the central banks that exert the most influence on markets. The Fed’s complete conversion from hawk to dove in six weeks has been THE dominant force in markets since December. Not only has that conversion helped the US markets, but it has dramatically reduced pressure on other nations to maintain their own hawkishness. This can be seen in the BOE, where earlier talk of needing to hike rates in the event of Brexit has abated. It can be seen in the ECB where the conversation has changed from raising rates in the autumn to what other measures of stimulus can they provide given the current negative rates and bloated balance sheet. (TLTRO’s will absolutely be rolled over.) In Scandinavia, both Norway and Sweden have seen inflation data decline and are now seen as far more likely to leave rates on hold rather than raising them as had been expected just a few months ago. And not to be outdone, the PBOC, which had been in the midst of a two-year program to reduce excess leverage in China, has handily turned far more dovish, injecting significant liquidity and ‘encouraging’ banks to make loans to SME’s there. So, in the end, while the trade story may garner headlines for a few more weeks, it remains a central bank controlled world.

As to today, the dollar is dipping slightly after a continued solid rally during yesterday’s session. This has been more evident in the EMG space than in G10. For example, MXN (+0.4%) and BRL (+0.95%) are leading the way in LATAM while INR (+0.7%) and CNY (+0.3%) have benefitted from the dollar’s lackluster performance. And of course, the dovish turn by the Fed has had an especially beneficial impact on EMG currencies since so many companies located there borrow in dollars. The idea that US rates have stopped rising has been one of the biggest changes we have seen.

However, it is important to remember that on a relative basis, US policy remains tighter than that anywhere else in the world, and as it becomes clearer that other central banks will turn more dovish, the dollar should retain its footing.

We have already seen the NFIB data print weaker than expected, and the only other data point today is the JOLT’s Jobs report (exp 6.90M), however, we do hear from Chairman Powell at 12:45 this afternoon, so all eyes will be on him. The thing is, given the data we have seen since the Fed changed course has continue to be weak, I would argue the only surprise can be dovish. In other words, comments hinting that the Fed will end the balance sheet roll-off, or a reevaluation of the neutral rate lower would be the type of thing to start a big rally. In the event that something like that were to occur, look for equities to rocket and the dollar to fall. But given the sudden increase in stories about prices rising in consumer products (yesterday’s WSJ talking about cat litter and detergent, today’s about Whole Foods raising prices), it seems hard to believe that a more dovish tone is likely.

In the end, the dollar has had a good run over the past two weeks. If that is ending, it is entirely reasonable, but don’t look for a collapse.

Good luck
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