Tag Archives: #treasuries

The Throes of Anguish

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The answer this morning is clear
The president starting next year
Is Donald J Trump
Who always could pump
Excitement when he did appear

The market response has been swift
With equities getting a lift
The dollar, too, rose
But bonds felt the throes
Of anguish while getting short shrift

The punditry was quite convinced that it would be a long time before the results of the election were clear as they anticipated significant delays in the vote count in the battleground states.  Fears were fanned that if Trump were to lose, he wouldn’t accept the election.  As well, virtually every pundit in the mainstream media portrayed the race as “tight as a tick’ (a somewhat odd expression in my mind).

But none of that is what happened at all.  Instead, somewhere around 3:00am NY time, Donald J Trump was called the winner of the presidential election, effectively in a landslide as he appears set to win > 300 electoral votes and, perhaps more importantly as a signal, the popular vote, and will be inaugurated as the 47thpresident of the United States on January 20th, 2025.  Congratulations are in order.

It ought not be surprising that the ‘Trump trade’ is back in full force early on with US equity futures rallying about 2%, Treasury bonds selling off sharply with 10-year yields jumping 20bps and the dollar exploding higher, jumping by about 1.5% as per the DXY, with substantial gains against virtually all its G10 and EMG counterparts.  Oil prices are under pressure as the prospect of ‘drill, baby, drill’ is the future and Bitcoin has exploded higher to new all-time highs amid the prospects of a pro-crypto Trump administration.

Much digital ink will be spilled over the next weeks and months as the punditry first tries to understand how they could have been so wrong, and then tries to create the new narrative.  However, if we learned nothing else from this election it is that the previous narrative writers, especially the MSM, have lost a great deal of sway and that it will be the new narrative writers, those independents on X and Substack and podcasters, who don’t answer to a corporate master, who will be leading the way imparting information and stories.  I’ve no idea how this will play out with respect to financial markets, but I am confident it will have an impact over time.

With all of the votes being tallied
While stocks and the dollar have rallied
We’ll turn to the Fed
Who soon will have said
On rate cuts, we’ve not dilly-dallied

With the election now past, at least as a point of volatility, all eyes will likely turn to the FOMC meeting, which starts this morning and will run until the statement is released tomorrow at 2pm with Chairman Powell’s press conference coming 30 minutes later.  The election result has not changed any views on tomorrow’s rate cut, with futures markets still pricing in a 98% probability, but the pricing as we look further out the curve has changed a bit more.  For instance, the December meeting is now priced at less than a 70% probability for the next 25bps, and if we look out to December 2025, the market has removed at least one 25bp cut from the future.

This makes sense based on the idea that a Trump administration is going to be heavily pro-growth and one consequence will potentially be more inflationary pressures.  Of course, if energy prices decline, that is going to help cap inflation, at least at the headline level, so the impact going forward is very hard to discern at this time.  As well, if that pro-growth agenda helps improve the employment situation, the Fed will be far less compelled to cut rates further.  In fact, the only reason to do so at that time would be to address the massive debt load and that cannot be ruled out, but my take is Powell is not inclined to try to help President Trump in any way, so will likely feign allegiance to the mandate when the situation arises.

But with all the election excitement today, my sense is the Fed is tomorrow’s market discussion, not today’s.  Rather, let’s see how markets around the world have responded to the news.

It seems that yesterday’s US markets foretold the story with a solid rally across the board.  Overnight, Japanese shares (+2.65%) were beneficiaries as the yen (-1.7%) weakened sharply along with all the other currencies.  Elsewhere in the region, China (-0.5%) and Hong Kong (-2.2%) both suffered on prospects of more tariffs coming and Korea (-0.5%) was also under pressure, but almost every other regional exchange rallied nicely.  As to Europe, green is the predominant color with the DAX (+0.9%), CAC (+1.5%) and FTSE 100 (+1.2%) all performing well although Spain’s IBEX (-1.5%) is underperforming allegedly on fears of some tax issues that will impact the Spanish banking sector.  But I would look at Spain’s Services PMI falling short of expectations as a better driver.

In the bond market, while US yields have rocketed higher as discussed above, in Europe, that is not the case at all.  Instead, we are seeing declines of between 4bps and 5bps across the continent as concerns grow that Eurozone economic activity may suffer with Trump in office as threats of tariffs rise.  The market has now priced in further rate cuts by the ECB and that seems to be the driver here.

Aside from oil prices falling, metals, too, are under severe pressure with the dollar’s sharp rally.  So precious (Au -1.3%, Ag-2.3%) and industrial (Cu-2.8%, Al -1.0%) are all selling off.  Now, this space has seen a strong rally overall lately so a correction can be no real surprise.  However, it strikes me that if the growth story is maintained, demand for industrial metals will expand and gold is going to find buyers no matter what.

Finally, the dollar just continues to rock, climbing further since I started writing this morning.  the biggest loser is MXN (-2.9%) which has fallen to multi-year lows amid concerns they will be an early target of tariffs.  While the dollar, writ large, is stronger across the board today, it is only back to levels last seen in July, hardly a massive breakout.  However, do not be surprised if this rally continues over time as investors learn more specifics of how President Trump wants to proceed on all these issues about the economy, taxes and tariffs.

The only meaningful data releases this morning are the EIA Oil inventories, which last week saw a large draw and are expected to see a further one today.  Otherwise, European Services PMI data, aside from Spain’s disappointing showing, was actually better than expected, probably helping equity markets there as well.  Of course, as the Fed doesn’t come out until tomorrow, there is no Fedspeak so traders will likely continue to push the Trump trade for now.  As such, look for the dollar to remain strong until further notice.

Good luck
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Another Mistake

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Said Janet, we need to watch out
‘Cause bank fraud is starting to sprout
So maybe I’ll make
Another mistake
And drive banking stocks to a rout

 

“I absolutely agree with the premise — which is that fraud is becoming a huge problem.”  These sage wordsfrom our esteemed Treasury Secretary have made headlines and also raised some alarms.  After all, was not Madam Yellen in charge of bank regulation not that long ago?  Did she not receive millions of dollars in speaking fees from those same banks before being named Treasury Secretary?  It is difficult to listen to the recent change in tone without considering the fact that she is concerned if the election results in a Trump victory, her time at Treasury may come under deeper scrutiny so she is starting to spill a few beans to show she was on the ball.

But arguably, the biggest issue is not that fraud is rampant in banking, with action around government checks being the most fertile area, the biggest issue remains the nonstop borrowing that continues as the US government debt continues to grow aggressively each day.  There have been several recent commentaries by some very smart guys, Luke Gromen and Bob Elliott,  regarding the coincidence of rising interest rates in the US and almost every other G10 economy despite significant differences regarding the economic situation and borrowing patterns.  One conclusion is that owning government debt from any western government, at least debt with any significant duration, is losing its luster quickly.  This is a valid explanation of why yields continue to rise despite the Fed’s, and other central banks’, recent rate cuts.  

Of course, there is another popular explanation about the recent rise in yields; the prospects of a Trump victory and corresponding sweep in the House and Senate is seen as growing substantially.  The thesis is that if that is the outcome, the budget deficit will grow even larger as the tax cuts due to expire next year will very likely be rolled over, and there is no indication there will be a reduction in spending (the Republicans merely have different spending priorities).  Hence, deficits will continue to grow, Treasury debt will continue to increase, and yields will increase as well.  At least, that’s the thesis.

One thing which is undoubtedly true is that if there is an increase in volatility in government bond markets, the dollar is going to be one of the beneficiaries.  Keep that in mind going forward.

Though views about Europe were dire
Today, GDP printed higher
While Italy sank
They’ve Germans to thank
For being the major highflier

The other story of note this morning is the Eurozone GDP report alongside GDP readings from several key nations.  At the Eurozone level, GDP surprised everyone with a 0.4% Q/Q print and a 0.9% Y/Y print, higher than the 0.2%/0.8% expectations.  Now, in the big scheme of things, those numbers are not that great, but better than expected is certainly worth something.  Germany was the key driver as they avoided a technical recession by growing 0.2% in Q3.  What is little noted is that Q2’s data was revised lower from -0.1% to -0.3%, so it is fair to say that things have not been great there.  In fact, below is a chart of the past 5 years’ worth of quarterly results in Germany and you can see that the concept of a growth impulse there, at least since the beginning of 2022, has largely been absent.

Source: tradingeconomics.com

Another telling sign that the headline may not be a true reflection of the situation on the ground there is that the Eurozone also released a series of sentiment indicators, almost all of which were weaker than expected, notably Economic Sentiment (95.6 vs. 96.3 last month and expected) and Industrial Sentiment (-13.0 vs. -11.0 last month and -10.5 expected).  Apparently, the growth was the product of greater than expected government spending, not really the best way to grow your economy.  However, the market did respond by pushing the euro (+0.15%) a bit higher although the recent downtrend remains in place as evidenced by the below chart.  It remains difficult to get too excited about the single currency given the growing divergence in views on the Fed and ECB, with the former being questioned about its policy easing while the latter is being called on to do more.

Source: tradingeconomics.com

And that was really the macro news for the evening so let’s see how markets overall behaved.  Yesterday’s mixed US session was followed by similar price action in Asia with the Nikkei (+1.0%) continuing its recent rally as the market gets comfortable with PM Ishiba putting together a minority government while Chinese shares (CSI 300 -0.9%, Hang Seng -1.55%) suffered as hopes for the ‘bazooka’ stimulus faded, at least temporarily.  As to the rest of the region, almost all the stock markets declined on the evening.  That negative price action is evident in Europe as well this morning with every major market in the red (CAC -1.4%, DAX -0.8%, IBEX -0.6%) as the better than expected GDP figures don’t seem to have been that enticing for investors.  In the UK, too, stocks are softer (FTSE 100 -0.3%), although there has been no data released.  The big story there today is the budget release upcoming with most pundits looking for a lot of smoke and mirrors and no progress on spending stability.  Meanwhile, US futures are a bit firmer this morning after solid earnings from Google after the close yesterday.

In the bond market, yields have backed off from their recent highs with Treasuries (-4bps) falling after yesterday’s 4bp decline.  Yesterday’s US data was a bit softer than expected (Goods Trade Deficit fell to -$108.23B, much larger than expected while the JOLTS data (7.44M) fell to its lowest level since January 2021 and indicates a rough balance in the jobs market.  As discussed above, European yields are following Treasuries lower with declines on the order of -3bps across the major economies with only Italy (+1bp) the outlier on higher than expected CPI readings.  Meanwhile, UK Gilts (-10bps) are the real outlier as bond investors seem intrigued over the potential budget.

In the commodity space, oil (+1.3%) is bouncing a bit although remains well below the $70/bbl level.  It appears that the worst is over for now and a choppy market is in our immediate future pending the election outcome.  Consider that if Trump wins, given his ‘drill, baby, drill’ plank in the platform, it is likely that oil will slide on the news while a Harris win is likely to see prices rise on the fear of a fracking ban.  Gold (+0.2%) continues its steady march higher with investors abandoning bonds and looking for a haven, although the other metals (silver -1.1%, copper -0.6%) are suffering this morning on the softer economic data.

Finally, the dollar is under very modest pressure this morning but remains at the high end of its recent trading range.  JPY (+0.25%) has managed a modest rally ahead of tomorrow’s BOJ meeting but we have seen a mixed picture overall with some gainers (AUD, NZD, KRW) and some laggards (SEK, GBP, HUF).  Ahead of the election, I continue to expect choppiness and a lack of direction but once that is complete, as I have said before, market volatility in other markets is likely to lead to a stronger dollar.

On the data front today, we start with ADP Employment (exp 115K) and then see the first look at Q3 GDP (3.0%) along with a key subcomponent of Real Consumer Spending (3.0%).  We also see the Treasury Refunding Announcement, with not nearly as much press given to this as today as we had seen over the past several quarters.  Expectations are running for no large increases although given the budget deficit continues to widen, I’m not sure how that math works.  Lastly, we see oil inventories where a modest build is anticipated.

While the election continues to dominate the discussion, we cannot ignore this data or what is to come tomorrow and Friday, as the Fed will not be ignoring it.  We will need to see a spate of much weaker data to change my long-held view that the dollar has further to climb, so let’s watch and wait.

Good luck

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A Brand-New World

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Even in Japan
Incumbency is questioned
It’s a brand-new world

 

Yesterday’s elections in Japan brought about the downfall of yet another incumbent government as people around the world continue to demonstrate they are tired of the status quo.  Recently appointed PM, Shigeru Ishiba called for a snap election within days of his appointment following the resignation of previous PM Kishida on the heels of a funding scandal.  Ishiba’s idea was to receive a fresh mandate from the electorate so he could implement his vision.  Oops!  It turns out that his vision was not in sync with the majority of the population.  Ultimately, the LDP and its key ally, Komeito, won only 215 seats in the Diet (Japan’s more powerful Lower House), well below the 233 necessary for a majority and even further from the 293 seats they held prior to the election.  The very fact that this occurred in Japan, the most homogenous of G10 nations, is indicative of just how strong the anti-incumbent bias has grown and just how tired people are of current leadership (keep that in mind for the US election).

Now, turning to the market impact, the tenuous hold any government formed from these disparate results means that Japan seems unlikely to have a clear, coherent vision going forward.  One of the key issues was the ongoing buildup in defense expenditures as the neighborhood there increasingly becomes more dangerous.  But now spending priorities may shift.  Ultimately, as the government loses its luster and ability to drive decisions, more power will accrue to Ueda-san and the BOJ.  This begs the question of whether the gradual tightening of monetary policy will continue, or if Ueda-san will see the need for more support by living with more inflation and potentially faster economic growth.The yen’s recent decline (-0.25% today, -8.5% since the Fed rate cut in September) shows no signs of slowing down as can be seen from the chart below.  As the burden of policy activity falls to the BOJ, I expect that we could see further yen weakness, especially when if the Fed’s rate cutting cycle slows or stops as December approaches.  If this process accelerates, I suspect the MOF will want to intervene, but that will only provide temporary respite.  Be prepared for further weakness in the yen.

Source: tradingeconomics.com
 
This weekend’s Israeli response
To missile attacks from Iran-ce
Left bulls long of oil
In massive turmoil
As prices collapsed at the nonce

The other major market story this morning was the oil market’s response to Israel’s much anticipated retaliation to the Iranian missile barrage from several weeks ago.  The precision attacks on military assets left the energy sector untouched and may have the potential to de-escalate the overall situation.  With this information, it cannot be surprising that more risk premium has been removed from the price of oil and this morning the black, sticky stuff has fallen by nearly 6% and is well below $70/bbl.  This has led the entire commodity sector lower in price with not only the entire energy sector falling, but also the entire metals sector where both precious (Au -0.6%, Ag -0.9%) and base (Cu -0.2%, Al -1.1%) have given back some of their recent gains.  While declining oil prices will certainly help reduce inflationary readings over time, at least at the headline level, I do not believe that the underlying fundamentals have changed, and we are likely to continue to see inflation climb slowly.  In fact, Treasury yields (+3bps) continue to signal concern on that very issue.

Which takes us to the rest of the overnight activity.  Friday’s mixed session in NY equity markets was followed by a lot more green than red in Asia with the Nikkei (+1.8%) leading the way on the back of both lower energy prices and the weaker yen, while Chinese stocks (+0.2%) managed a small gain along with Korea (+1.1%) and India (+0.8%).  However, most of the other regional markets wound up with modest declines.  In Europe, mixed is the description as well, with the CAC (+0.25%) and IBEX (+0.4%) in good spirits while both the DAX and FTSE 100 (-0.1%) are lagging.  Given the complete lack of data, the European markets appear to be responding to ECB chatter, which is showing huge variety on members’ views of the size of the next move, and questions about the results of the US election, with President Trump seeming to gain momentum and traders trying to figure out the best way to play that outcome.  As to US futures, this morning they are firmer by 0.5% at this hour (7:20).

Although Treasury yields have continued their recent climb, European sovereign yields are a touch softer this morning, although only by 1bp to 2bps, as clarity is missing with respect to ECB actions, Fed actions and the US elections.  My sense is that we will need to see some substantial new news to change the current trend of rising yields for more than a day.

Finally, the dollar is net, a little softer today although several currencies are suffering.  We have already discussed the yen, and we cannot be surprised that NOK (-0.4%) is weaker given oil’s decline, but we are also seeing MXN (-0.3% and back above 20.00 for the first time since July) under pressure as that appears to be a response to a potential Trump electoral victory.  But elsewhere, the dollar is under modest pressure with gains on the order of 0.1% – 0.3% across most of the rest of the G10 as well as many EMG currencies.  There are precious few other stories of note this morning.

On the data front, it is a very big week as we see not only NFP data but also PCE data.

TuesdayCase-Shiller Home Prices5.4%
 JOLTS Job Openings7.99M
 Consumer Confidence99.3
WednesdayADP Employment115K
 Q3 GDP3.0%
ThursdayInitial Claims233K
 Continuing Claims1880K
 Personal Income0.2%
 Personal Spending0.4%
 PCE0.1% (2.1% Y/Y)
 Core PCE 0.1% (2.7% Y/Y)
 Chicago PMI47.5
FridayNonfarm Payrolls180K
 Private Payrolls160K
 Manufacturing Payrolls-35K
 Unemployment Rate4.2%
 Average Hourly Earnings0.3% (4.0% Y/Y)
 Average Weekly Hours34.2
 Participation Rate62.5%
 ISM Manufacturing47.5
 ISM Prices Paid48.2

Source: tradingeconomics.com

Of course, with the FOMC meeting next week, we are now in the Fed’s quiet period, so there will be no more official commentary.  The one thing to watch is if something unexpected occurs, then look for an article from the Fed whisperer, Nick Timiraos of the WSJ.  But otherwise, this is shaping up as a week that starts slowly and builds to the back half when the data comes.

Regardless of the election outcome, I expect that the budget situation will only devolve into greater deficits.  I believe that will weigh on the bond market, driving yields higher and for now, I think that will likely help the dollar overall, but not too much.  It remains difficult for me to see the dollar reverse course lower absent a much more aggressive FOMC, and that just doesn’t seem to be on the cards.

Good luck

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Pulling All-Nighters

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As Harris and Trump try persuading
The voters, the markets keep trading
So, narrative writers
Are pulling all-nighters
To pump up the side that is fading
 
The latest attack is on Trump
Who’s blamed for the bond market slump
But what of the Fed
Whose rate cuts have spread
The fear that inflation will jump?

 

It appears we have reached the point in time when macroeconomic data is taking a backseat to the political situation.  Almost every story you can read in any of the mainstream media right now is about how the election is going to affect whatever subject an article is about.  The latest discussion, which I have seen across numerous sources like Bloomberg, the WSJ and Reuters, just to name a few, is that the bond markets recent decline is entirely Trump’s fault.  The logic is that as Trump’s election prospects improve, and those of fellow Republicans in both the House and Senate alongside him, the market is suddenly concerned that the government is going to spend a lot of money and run a large deficit.  You can’t make this up!

The federal government deficit under the current administration is pegged to be just shy of $2 trillion this fiscal year, and you have all heard about the fact that interest payments on the government’s nearly $36 trillion of debt have grown to be more than $1 trillion.  But that is not the driver according to the narrative.  The driver is the idea that the Republicans could sweep and that would mean large deficits because…Trump.

Now, I realize I am only an FX guy (FX poet I guess), but my rudimentary understanding of economics is that when economic activity is strong (like the current data implies) and the central bank then adds more liquidity to the system to goose demand, say by cutting interest rates in the front end of the curve, then demand can outstrip supply and prices will rise.  As such, bond investors, when they see a dovish Fed entering an easing cycle while economic activity continues to move along and the government is already running a large fiscal deficit, are concerned over higher inflation ahead and so demand higher yields to own Treasury securities.  Of course, that view doesn’t necessarily suit the narrative so desperately pushed by the mainstream media that Trump is the root of all evil, but it does seem to make more sense.

At any rate, for the next two weeks at least, and likely four years if Trump wins, I can assure you that every negative day in any financial market will be blamed on Trump and his policies, despite the fact that the Fed seems to be the one with far more direct impact on short-term economic outcomes.  A look at the below chart, showing 10yr Treasury yields and the Fed funds rate cannot help but show that it was the Fed’s rate cut that is coincident with the recent sharp rise in yields, and this took place long before the odds of a Trump victory improved.  Look through the narrative and instead at the data and Fed activities for the most important clues as to what is actually happening.  I would argue that this is a bond market that is concerned about returning inflation as the Fed’s policy prescription no longer matches the reality on the ground.

Source: tradingeconomics.com

One other thing.  If the Fed does continue to cut rates while US economic data continues to demonstrate solid growth, look for commodity prices to continue their ongoing rally, likely equity markets to continue to perform well, but the dollar is more nuanced as rising inflation ought to undermine the greenback, but given we are seeing more aggressive rate cuts elsewhere in the world (Bank of Canada just cut 50bps this week and the ECB and BOE are going to be cutting again next month), it is entirely possible the dollar holds its own despite macroeconomic fundamentals that should point to weakness.

Ok, let’s see what happened overnight.  Yesterday’s US sell-off, the third consecutive day of broad market weakness, seems to have been sufficient to wash out some of the froth in the market as US futures are pointing higher this morning, especially after Tesla’s better than expected earnings report.  But overnight, the trend from yesterday’s US session was intact with most Asian markets under pressure (Hang Seng -1.3%, CSI 300 -1.1%, KOSPI -0.7%) with only Japan (Nikkei +0.1%) bucking the trend.  In Europe, however, this morning’s color is green with all the major bourses showing life (CAC +0.75%, DAX +0.7%, FTSE 100 +0.5%). Now, there was data released in Europe with the Flash PMI readings out this morning.  The funny thing is that they did not paint a great picture, with continued softness almost everywhere.  My take is Europe is going through a ‘bad news is good’ phase where the weak PMI data implies there will be more aggressive rate cuts by the ECB going forward.  Certainly, Eurozone economic activity, led by Germany’s virtual stagnation, is lackluster at best.

In the bond markets, after several sessions of rising yields, Treasuries have seen yields slip back 5bps this morning with similar declines across the board in European sovereign markets.  Part of this is the weak PMI data I believe, but part of it is a simple trading response to a market that is likely somewhat oversold.  After all, for the past month, bonds have been under significant pressure so a bounce can be no surprise.

In the commodity markets, after yesterday’s rout, where there seemed to be a lot of profit taking of the recent rally, this morning the march higher continues.  Oil (+1.0%) is leading the energy complex higher and the entire metals complex (Au +0.5%, Ag +0.7%, Cu +0.5%, Al +0.9%) is back in gear as all the underlying drivers (rising inflation, solid demand, and for gold, ongoing geopolitical concerns) remain in place.

Finally, the dollar is a bit softer this morning, but this too seems like a response to what has been a strong rally.  Once again, using DXY as a proxy (see chart below) for the broad dollar, the rally over the past month has been quite strong, so a day of backing off is to be expected.  As I mentioned above, the future of the dollar is nuanced because while the macro indicators point to potential weakness, if the rest of the world eases monetary policy more aggressively, the dollar will still rally.

Source: tradingeconomics.com

As to today’s movement, currency gains have been between 0.2% and 0.5% with the commodity bloc the biggest beneficiary (ZAR +0.5%, NOK +0.4%, AUD +0.3%) and we have also seen the yen (+0.5%) regain a little of its footing amid declining US yields, although it remains far above the 150 level.  There are those who are looking for another bout of intervention, but I am not in that camp, at least not in the near-term.

On the data front, this morning brings the Chicago Fed National Activity Index (exp 0.2), Initial Claims (242K), Continuing Claims (1880K), Flash PMI (Mfg 47.5, Services 55.0) and New Home Sales (720K).  Yesterday’s Existing Home Sales data was weaker than expected at 3.84M, arguably a testament to the fact that mortgage rates have followed Treasury yields higher and are back above 7.0% again.  On the Fed front, we hear from new Cleveland Fed president Beth Hammack, but it feels like Fed speak is losing some momentum.  Nobody believes that they are going to stop cutting rates, and fewer and fewer analysts think they should continue amid strong growth.  The futures market is now pricing a 95% probability of a November cut but only a 71% probability of a December cut to follow.  I remain in the camp that they pause in December, especially in the event of a Trump victory.

While the dollar is under pressure today, I continue to believe it retains the ‘cleanest shirt in the dirty laundry’ appeal and will ultimately continue to rally.  

Good luck

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Nothing But Fearporn

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Said Logan, right now things are cool
With loads of reserves in the pool
And if I’m correct
The likely effect
Is rates will remain our key tool
 
As such, talk of balance sheet woes
Is nothing but fearporn, God knows
We’ll let bonds mature
Though we are unsure
Of how many we need dispose

 

“If the economy evolves as I currently expect, a strategy of gradually lowering the policy rate toward a more normal or neutral level can help manage the risks and achieve our goals,” explained Dallas Fed President Lorrie Logan on Monday. “However, any number of shocks could influence what that path to normal will look like, how fast policy should move and where rates should settle.”

In other words, we want to keep up appearances but we have no real idea how things are going to play out and so whatever we think our policies are going to be right now, they are subject to changes at any time.  It shouldn’t be surprising that the Fed doesn’t really know where things are going to go, after all, predicting the future is very hard.  But for some reason, many folks, both market focused and politicians, seem to believe they should be able to forecast well and control the outcomes.

Based on the market reaction to Logan’s comments, market participants, at least, are losing some of that confidence.  Treasury yields jumped 11bps in the 10-year dragging the entire yield curve higher along with all of Europe.  And perhaps more ominously for the Fed’s wish list, mortgage rates also rocketed to their highest level since July.  I might suggest market participants are losing their belief that the Fed is going to continue to cut interest rates as many had believed.  Fed funds futures have reduced their cut probabilities by nearly 10 points compared to yesterday as the latest example of this issue.  

And you know what else continues to benefit as those interest rates refuse to decline?  That’s right, the dollar continues to rally steadily against all comers.  Using the DXY as a proxy, the greenback has rebounded 3% from its levels around the time of the last Fed meeting as per the below chart.  I assure you, if I am correct that the Fed cuts 25bps in November and then doesn’t cut in December, the dollar will be much higher still.  Something to watch for!  

Source: tradingeconomics.com

In fact, there were four Fed speakers yesterday and three of them, including Logan, sounded more cautionary in their view of the future path of rates.  However, uber dove Mary Daly from the SF Fed is still all-in for many more cuts to come.  And this is the current situation at the Fed, I believe.  There are FOMC members who remain in the “we must cut rates at all costs” camp, who despite the evidence of the data they supposedly track remaining stronger than expected want lower rates, and there are those who are willing to reduce the pace of cuts, but still want lower rates.  This tells me that the Fed is going to continue to cut rates regardless, and so the bond market is going to become the arbiter of financial conditions.  Recent bond market movements seem more likely to be a harbinger of the future than an aberration, at least unless/until the economy weakens substantially.  In fact, you can see that the relation between bond yields and the dollar is quite strong now, something I suspect will remain true for a while going forward.

And that was really all that we had as the overnight session brought us virtually nothing new.  So, a quick recap of the overnight shows that after a lackluster session in the US on low volumes, Asia had more laggards than leaders with Tokyo (-1.4%) and Australia (-1.7%) dominating the story although China (CSI 300 +0.6%, Hang Seng +0.1%) managed to buck the trend.  The latter two, though, seemed like reactionary bounces from recent declines.  In Europe, bourses are all red this morning led lower by Spain’s IBEX (-1.1%) but seeing weakness everywhere (CAC -0.7%, FTSE 100 -0.7%, DAX -0.25%).  And, at this hour (7:45), US futures are lower by -0.5% or so.

After yesterday’s dramatic rise in yields in the US, we are seeing a continuation this morning with Treasuries edging higher by 1bp but European sovereigns all higher b between 4bps and 5bps.  That seems to be catching up to the last of the afternoon Treasury move yesterday.  As I mention above, I see the trend for yields in the US to be higher, and that should impact yields everywhere.

In the commodity markets, once again, demand is increasing and we are seeing gains in oil (+1.1%), gold (+0.6% and new all-time highs), silver (+1.7%) and copper (+0.9%).  The financial narrative is turning more and more to inflation concerns and the fact that commodities remain an undervalued and important segment in which to have exposure.  I am personally long throughout this space and believe there is much further to run here.

Finally, after the dollar’s blockbuster day yesterday, it has paused for a rest with the noteworthy gainers today all in the commodity bloc (AUD +0.5%, NZD +0.55%, MXN +0.2%, ZAR +0.2%, NOK +0.4%) with most other currencies actually a bit softer vs. the buck.  Keep an eye on JPY (-0.2%) which is now firmly above the 150 level and is likely to begin to see more discussion about potential intervention soon.

There is no data of note this morning although we do hear from Philly Fed president Harker.  It will be interesting to hear if he is in the dovish or uber dovish camp, as there appear to be no hawks left on the FOMC. 

Until the election in two weeks, I suspect that volumes will remain low but trends will remain intact, so higher yields and a higher dollar seem most likely to be in our future.

Good luck

Adf

Worries Abound

Posted on by

That smell in the market is fear
In truth, for the first time this year
As both bonds and stocks
Are now on the rocks
And no sign t’will soon disappear
 
The Fed is remaining on hold
Though elsewhere, rate cuts are foretold
But worries abound
As risk is unwound
That everything soon will be sold

 

It is very difficult to get excited about much in the markets these days as we see stocks, bonds and commodities all slide in price.  The fear in markets is palpable as investors and traders clearly remember 2022, when both stocks and bonds fell sharply and those holding the traditional 60/40 portfolio got crushed.  This is not to say that we are seeing the same thing right now, but the very fact that we can have both asset classes suffer simultaneously, even for a few days, is disconcerting to everyone.

It is difficult to pin down a specific driving force right now as opposed to the 2022 scenario when the Fed was raising the Fed funds rate aggressively amid a serious bout of inflation.  But currently, there are a relatively equal number of pundits and analysts on both sides of the inflation and growth debate.  With this as the case, it doesn’t seem logical that there would be a significant trend shift.

So, this morning let’s try to consider the current stories that may be driving this recent bout of investor skepticism.  On the macro side of things, while recent data hasn’t been awful, it has hardly been scintillating.  For instance, the recent Dallas Fed Manufacturing Index was quite weak, similar to what we saw with Philly and Empire State, but the Richmond number rebounded.  While we all await this morning’s second look at Q1 GDP (exp 1.3%, down from the initial reading of 1.6%), there is much more focus on tomorrow’s PCE data.  In fact, given the dour mood in the market, it is hard to remember that the CPI data earlier this month was seen as a slight positive.  

But bigger problems reside in the Retail Sales and consumption story on the micro side of things as we have been hearing from an increasing number of companies that customers are balking at higher prices.  Retail Sales were flat in April, hardly a sign of strength, and just this morning we had Walgreens say they will be cutting prices on 1500 items in their stores in an effort to stimulate sales.  We heard bad tidings from Target earlier this month, as well as McDonalds, Starbucks and Walmart.  

It is certainly difficult to hear these reports and come away feeling bullish about either the economy or the equity markets.  Yesterday’s Fed Beige Book was its usual mix of some good and some bad, but no strong trend in either direction.  Atlanta Fed president Bostic explained yesterday that “My outlook is that if things go according to what I expect — inflation goes slowly, the labor market slowly and orderly moves back into a sort of a weaker stance, but a stable-growth stance — I’m looking at the end of the year, the fourth quarter, as the time where we might actually think about and be prepared to reduce rates.”  That sounds like a December cut, a far cry from expectations just last week, let alone the beginning of the year.

In fact, I challenge you to come up with a bullish piece of news that may drive sentiment back toward overall risk bullishness.  Arguably, the only thing around is Nvidia, which is pretty thin gruel on which to sustain a global economy!  And ask yourself, how much of that is overdone?

Looking elsewhere in the world doesn’t make you feel much better either.  For instance, in Europe, while a rate cut next week seems certain, this morning’s Unemployment release showing a decline to 6.4%, the lowest level ever recorded, is hardly cause for the ECB to get aggressive in cutting rates further.  Similarly to the US, with unemployment so low, and inflation remaining well above target, please explain why any central bank would feel compelled to cut rates.

Summing up, it is quite easy to make the case that risk assets have gotten far ahead of themselves on the hope that the global interest rate structure was going to decline thus allowing the leverage that had been implemented during the post-Covid ZIRP and NIRP regimes to be refinanced at more attractive levels.  However, as the data continues to show more resilience than expected in both the employment and inflation regimes, central banks find themselves with few good reasons to cut rates despite their very clear bias to do so.  And now that each move and utterance they make is scrutinized so closely, they have limited incentive to act.  Here’s my take; while we may see some initial rate cuts by the ECB, BOE and BOC, do not look for a long cycle absent a significant decline in inflation or sharp rise in unemployment, neither of which seems imminent.

Ok, the negativity in the US yesterday followed through to Asia with all markets lower there, some by a bunch like the Nikkei (-1.3%) and the Hang Seng (-1.3%) while others were merely down by -0.5% or so.  However, in Europe this morning, bourses have edged a bit higher with one outlier, Spain’s IBEX (+1.25%) the biggest beneficiary after inflation numbers from that nation proved cooler than expected.  Alas, at this hour (7:30) US futures are lower by -0.5% or so after a weak Salesforce earnings report last night.

In the bond market, the last two days of higher yields has halted for now with Treasury yields lower by 2bps and European sovereigns trading in a similar manner.  Yesterday’s 7-year Treasury auction was also soft, although the bid-to-cover ratio was 2.37, not as low as the 5-year the day before.  However, confidence in the ability of the market to continue to absorb the number of Treasuries required to fund the government deficit appears to be slipping, at least a little.

In the commodity markets, oil is unchanged this morning, consolidating its recent gains as traders await the latest OPEC news from a meeting scheduled for next week.  In the metals markets, gold is also little changed this morning but both silver and copper are under pressure as they continue to give back some of their recent substantial gains.  For instance, even after today’s -2.2% performance in silver, it is higher by 4% in the past week and 17% in the past month.  

Finally, the dollar is under some pressure this morning following several days of strength on the back of the higher US yield story.  The biggest G10 movers are CHF (+0.7%) and JPY (+0.6%) as the former responds to comments from the SNB hinting that further rate cuts may be delayed over concerns of the franc weakening too quickly, while the latter looks mostly like a trading response as there were no comments or data to drive things. After all, despite the threat of intervention, the yen has been sliding consistently of late.  In the EMG bloc, it is a different story as the only noteworthy gainer is CNY (+0.25%) while ZAR (-0.7%) on the back of uncertainty regarding the election outcome, and KRW (-0.5%) on the back of continued weakness in the KOSPI index, cannot find any support today.

On the data front, in addition to the GDP data mentioned above, we see the weekly Initial (exp 218K) and Continuing (1800K) Claims as well as the Goods Trade Balance (-$91.8B).  Alongside the GDP data are a series of other indices like Final Sales (2.0%) and Real Consumer Spending (2.5%) which are important numbers to get a more holistic view of the economy.  Of course, it wouldn’t be a day ending in “Y” if we didn’t have more Fed speakers, with two more on the docket, Williams and Logan.

It is tough to fight a sentiment that is turning negative.  While I would expect the dollar to benefit from this, right now it is a mixed picture.  I doubt either Fed speaker will break new ground, so I fear that the overall negativity is going to be today’s key theme.  Lower stocks, lower bonds and a mixed dollar like we’ve seen overnight seem likely to be what we see in the US.

Good luck

Adf

Vaporized

Posted on by 
The powers-that-be are concerned
That Argentine voters have spurned
Advice they’ve provided
And rather decided
It’s time some new lessons were learned

And so, we cannot be surprised
The media pundits advised
Milei should step back
And take a new tack
Lest talking points get vaporized

It has been quite a slow session overnight.  There has been precious little new in the way of data or commentary of note with respect to the current economic story.  At the same time, the Thanksgiving holiday has trading desks thinly staffed and the Fed is noteworthy in its absence from the tape.  As such, the news cycle has been filled with the OpenAI saga, something far outside the scope of this poet, the ongoing political infighting that is a constant thrum in the background, and one very interesting thing, the mainstream response to the election of Javier Milei as president of Argentina.

Given the dearth of other news, and the fact that I believe this has the opportunity to be quite impactful going forward, I thought I would take a little time and discuss this further.

According to Wikipedia, which in this case I have no reason to disbelieve, Milei, while new to politics, is a serious economist.  He has earned two masters degrees in the subject, taught at university and is a widely published author on the subject.  The point is, he has very clear ideas on how economies work from a theoretical perspective and having grown up in Argentina during one of its earlier hyperinflations, from a practical aspect as well.

What makes all this so fascinating is the deluge of articles that have been published in the WSJ, Bloomberg, CNN, the New York Times, et al. which are quite keen to highlight that his views are highly unorthodox and will fail dramatically, dragging the nation into an even deeper hole.  In fact, I cannot find a single mainstream media source that believes his ideas will succeed.  However, 56% of the voters in Argentina, who are actually living through the economic disaster of the mainstream views, thought differently.

Perhaps the clearest signal of this disagreement is that the Merval, Argentina’s main equity index, rose 7.1% yesterday on the news of his election.  One need not be a conspiracy theorist to understand that if Milei is successful in righting the Argentine ship by throwing out the current orthodoxies, it will call into question everything that finance ministries throughout the G10 have been claiming and doing.  As I wrote yesterday, I believe this election has the potential to signal a beginning of a significant change in the make-up of governments around the world.  Do not be surprised when there is significant support for 3rd party candidates in the US; when AfD wins an outright majority in a state election or two in Germany; and if Mexico throws the ruling PRI out of office.  As Neil Howe and William Strauss wrote in their tour de force, The Fourth Turning, this is the time when major upheavals occur.  Be prepared for more volatility in financial markets as these changes make their way into the system.  In other words, stay hedged!

Ok, back to the markets as they currently sit.  Yesterday’s strong US equity performance found limited follow-through around the world.  Asian indices were mostly slightly lower and European indices are mixed with the DAX (+0.2%) edging higher while the CAC (-0.25%) and FTSE 100 (-0.5%) are both under pressure.  As to US futures this morning, at this hour (7:30), they are ever so slightly softer, -0.1%.

In the bond market, Treasury yields edged lower yesterday amid a relatively quiet session and are a further 1bp softer this morning.  European sovereign yields are also a touch softer, somewhere between -2bps and -4bps, generally speaking, while JGB yields fell a further 5pbps overnight and are now down to 0.69%.  This is certainly a far cry from the idea of tighter Japanese policy, although the yen continues to strengthen.  Two noteworthy aspects in the Treasury market are that the 20yr auction yesterday went off without a hitch as the tail was actually negative (the highest yield was lower than the when-issued price) and dealers only took down 9.5% of the auction.  This is a far cry from the terrible 30-year auction we saw last week.  But the other thing that is not getting much press is the fact that the yield curve continues to reinvert with the 2yr-10yr spread back to -48bps this morning.  Recall, this had fallen as low as -15bps and looked like it was about to normalize just a few weeks ago.  Arguably, investors are telling us that the prognosis for future growth is declining although they are still uncertain as to when the Fed will begin cutting rates.

Oil prices, which have rallied for the past several sessions, are a touch softer this morning as the market has become confused to the key drivers.  Does OPEC+ and its production matter more than economic activity?  Are supplies tight or loose?  I expect that we are going to continue to see uncertainty and volatile price action until something clearer shows up.  As to the metals markets, gold and silver have both rallied this morning with gold creeping back toward that $2000/oz level, although not yet breaking through.  But base metals are mixed with very minor movement.  While equity investors remain convinced the soft landing is a given, the commodity space is far less certain.

Finally, the dollar remains under pressure as sliding Treasury yields weigh on the greenback.  Once again JPY (+055%) is the leading gainer in the G10 and remarkably, CNY (+0.35%) is leading the way in the EMG space.  What is quite interesting here is that the spot USDCNY rate in the market has fallen below the fixing rate for the first time since June.  You may recall that the spot rate had been hovering at the 2% band limit for quite a while.  This is another indication that the near-term outlook for the dollar remains lower.

On the data front, we get the Chicago Fed National Activity Index (exp 0.02) and Existing Home Sales (3.9M) this morning and then the FOMC Minutes at 2:00 this afternoon.  You may recall that the Statement in the beginning of the month was seen as hawkish, but the press conference was seen as dovish and they talked about how financial conditions had tightened and helped the Fed along.  But now, those conditions have eased again.  Also, we have heard from so many Fed speakers in the interim, it is hard to believe that whatever they said three weeks ago is newsworthy.

So, with more eyes on the clock ,as folks want to get away for the holiday and are worried about travel conditions, than market conditions, I suspect today, and tomorrow and Friday, will be very quiet indeed.

Good luck

Adf

Somewhat Queasy

Posted on by 
Though markets appeared somewhat queasy
Said Janet, it’s really quite easy
To fund wars times two
But Moody’s said ooh
Your credit is now a bit wheezy

The combo of deficit growth
As well as a Congress that’s loath
To pass any bills
Has given us chills
So downgrading debt’s due to both

Under cover of night last Friday, Moody’s put US Treasury debt on Negative watch, citing, “…the risk that successive governments will not be able to reach consensus on a fiscal plan to slow the decline in debt affordability.”  Ultimately, they criticized the combination of rising interest rates and a concern that the current polarization in Congress will prevent anything from being done about constantly growing deficits and calls into question the ultimate value of the debt.  Moody’s is the last ratings agency to maintain the Aaa rating for the world’s risk-free asset, so this is quite a blow.  

Not surprisingly, the administration disagreed with the decision as Deputy Treasury Secretary Wally Adeyemo explained,” we disagree with the shift to a negative outlook.  The American economy remains strong, and Treasury securities are the world’s preeminent safe and liquid asset.”  I don’t believe anyone is concerned that repayment in full is in question, this is simply another shot across the bow of the idea that the value of the nominal dollars that are repaid will be anywhere near what they were when originally invested.

But that was just one of the many crosscurrents that have been afflicting the macro scene and markets of late.  For instance, in the past month, we have seen better than expected data from Retail Sales, IP, Capacity Utilization, New Home Sales, GDP, Durable Goods, Personal Spending, Nonfarm Productivity and Unit Labor Costs.  That’s quite an impressive listing of reports, and the characteristic they all share is they are ‘hard’ data.  In other words, this is not survey data, but rather these are measured statistics.

Meanwhile, the prognosis for the future continues to be far less optimistic with worse than expected outcomes in Empire State Manufacturing, ISM Manufacturing and Services, Leading Indicators and Michigan Sentiment.  The common thread here is these are all surveys and subject to the whims of the person answering the question.  In fact, the only ‘hard’ data points that were worse than expected were the Nonfarm Payrolls and Unemployment Rate.  I guess we can add the Moody’s downgrade to the list of worse than expected data, but it too is subjective rather than a hard data point.

Given the widely diverging data story, it should be no surprise that there are widely divergent views on how things are going to progress from here.  In fact, I read this morning that the two best known Investment Banks, Goldman Sachs and Morgan Stanley, have pretty divergent views on what the future holds.

The bullish argument remains that despite the gnashing of teeth and clutching of pearls by the faint-hearted, the data continues to perform well and that is the best measurement of the economy.  Certainly, the Fed is using this as their crutch to maintain their higher for longer stance and fight back against anyone who claims they have overtightened policy and need to cut rates.

However, all the hard data is backward looking, so describing what has already passed.  The bulls claim that there is autocorrelation in the data, so the past is prolog.  My observation is this is generally true in a trending market, but at inflection points, things become much murkier.

Meanwhile, the bears point to the ongoing weakness in all the survey data, which shows a dour view of the future with ISM in contraction, Michigan Sentiment falling to levels only surpassed during Covid, and inflation expectations continuing to rise.  

Another perfect analogy of this dichotomy is the S&P 500, where the median stock is -36% this year while the index is +14% given the extreme narrowness of breadth.  Absent the so-called Magnificent 7*, the index is actually lower on the year.  Now, those seven stocks are part of the index and so the reality is the S&P remains higher, but if looking for a signal on the economy, the case can certainly be made that broadly speaking, things are not great.

There is one potential reason for this dichotomy of survey vs. hard data, and that is the outside world.  After all, through the lens of the ordinary American, we see two hot wars ongoing, both of which we are spending money in supporting as well as a growing divide in the country along political party lines and sides in each conflict.  Perhaps Moody’s is onto something after all.  But with all that negativity in the press, it is easy to understand why surveys look so dismal.  However, people continue to spend money for things they need and want and given there is still so much money floating around in the wake of the pandemic stimulus efforts, business continues to get done.

There is, of course, one other thing that is part of the equation and that is the presidential election that is coming in one year’s time.  If history is a guide, you can be sure that the administration will be seeking to spend as much money as possible to support reelection, although with the House in opposition, it won’t be as much as they would like.  Nonetheless, at the margin, I expect that it will be substantial enough to continue to pressure yields higher which ought to weigh on equities and support the dollar, at least ceteris paribus.

Ok, so let’s look at how markets have behaved overnight as we start the week.  In the equity space, after a massive rebound rally on Friday in the US, only the Hang Seng in Hong Kong managed any love, rising 1.3%, but the rest of the space was flat to marginally lower on the day.  However, European bourses are all firmer this morning, about 0.5% or so.  As to US futures, they are pointing slightly lower, -0.25%, at this hour (7:20).

Turning to the bond market, Treasury yields are softer by 2bps this morning, but still well off the lows seen last week ahead of the lousy 30-year auction.  I still see higher yields in the future, but I am increasingly in the minority on this view.  European sovereigns are all bid today with yields declining between -3bps and -6bps despite a dearth of new data.  In fact, if anything, from the periphery we have seen firmer inflation data from Sweden and Norway and the market is now looking for both those central banks to hike again later this month.  That does not sound like a reason to buy bonds but it’s all I’ve seen.

Turning to the commodity markets, oil (+0.3%) is edging higher this morning but is just consolidating after a terrible week last week.  Gold, too, is in consolidation, unchanged this morning but having lost some of its recent luster.  Interestingly, both copper and aluminum are firmer this morning, arguably on discussion of further Chinese stimulus that may be coming soon.

Finally, the dollar is little changed this morning, with G10 currencies all within +/-0.2% of Friday’s levels while EMG currencies are showing a similar mixed picture, although with slightly wider ranges of +/-0.4%.  It appears traders are awaiting the next key piece of information, perhaps tomorrow’s CPI.

Speaking of which, after a week that was dominated by Fed speeches (18 of them I think), we are back to some hard data with CPI tomorrow and Retail Sales on Wednesday.  

TuesdayNFIB Small Biz Optimism89.8
 CPI0.1% (3.3% Y/Y)
 -ex food & energy0.3% (4.1% Y/Y)
WednesdayPPI0.1% (1.9% Y/Y)
 -ex food & energy0.3% (2.7% Y/Y)
 Retail Sales-0.3%
 -ex autos-0.1%
ThursdayInitial Claims220K
 Continuing Claims1848K
 Philly Fed-10
 IP-0.3%
 Capacity Utilization79.4%
FridayHousing Starts1.347M
 Building Permits1.45M

Source: tradingeconomics.com

As well as all the data, we hear from eight more Fed speakers across 14 different speeches, and that doesn’t include any off-the-cuff interviews.  Waller and Williams arguably highlight the schedule, and it will be quite interesting to see if anyone is going to try to adjust Powell’s themes from last week.  I kind of doubt it.

Putting it all together tells me that today is likely to see limited activity as everyone awaits both the CPI and Retail Sales data to see if the hard data is going to start to follow the surveys or not.  As such, I see little reason for the dollar to decline very far absent a big surprise lower in the data.

Good luck

Adf

*Magnificent 7 stocks = Apple, Amazon, Alphabet, Meta, Microsoft, Nvidia, Tesla,

The Bond, or Not the Bond

Posted on by 
The bond, or not the bond, that is the question:
Whether ‘tis nobler for the Fed to consider
That long-term yields have offered outrageous fortune,
Or to take Arms against a Sea of inflation
And in opposing it: hike rates yet again

(with deepest apologies to William Shakespeare)

For some reason, the ongoing cacophony of Fedspeak regarding whether the rise in long-term yields is helping the Fed in their efforts, or whether it is merely incidental, brought this famous soliloquy to mind.  We have had no less than eight different Fed speakers from the time Dallas Fed president Logan first mentioned the idea several weeks ago through yesterday discuss the subject with the majority continuing to latch on to the benefits for the Fed, although some dismiss the issue.  Now, in any definition of financial conditions I have ever seen, long-term yields are part of the construction, so it is perfectly reasonable to take them into account.  Clearly, the Fed is aware of this as QE was created entirely to ease financial conditions and consisted of simply buying bonds to lower long-term yields.  However, now that the Fed is in QT mode, their ability to control the long end of the curve has vanished.  In fact, if anything it is simply pushing those yields higher by removing themselves, a price-insensitive buyer, from the mix.

The problem for Chairman Powell is that whatever the Fed’s reaction function is with respect to data, the market’s reaction function to any hint that the Fed has finished tightening policy is well understood by one and all; BUY STONKS!!  The reason I believe this is a concern for Powell and co. is that they fear a rally in equities will signal an all-clear on the inflation front.  And it is abundantly clear that there is nobody on the FOMC who is prepared to claim victory over inflation.  That is exclusively the stance of the CNBC bulls and the administration sycophants who are paid to make that case specifically.  Reality, however, continues to demonstrate that inflation remains a feature of our everyday lives and I suspect that the FOMC mostly understands that.  Remember, too, that the Fed is data dependent, or so they say, which implies that they are not in a position to anticipate the death of inflation, rather they will only accept that premise when they see the body.

Where does this leave us now?  I suspect that the ongoing dance between the Fed and the markets with respect to the future of inflation will continue to play out for at least another year.  In fact, nothing has changed my view that inflation will remain well above their 2.0% target for the foreseeable future, likely finding a new home in the 3.5% +/- range.  And as long as Powell is Fed Chair, I see no indication he is willing to reverse course.  While the Fed may not hike rates again, certainly the market does not believe that is going to be the case with just a 9.6% probability of a hike in December now priced, I find it extremely difficult to believe they will cut rates anytime soon absent clear signs that we are already in a recession.

Though soft-landing bulls have all scoffed
The fact that the data was soft
In China implies
It cannot surprise
If growth worldwide can’t stay aloft

So, is a recession coming soon to an economy near you?  That is the $64 trillion question and one where there are myriad views expressed daily.  The most recent inkling that economic activity is slowing more sharply than had previously been thought was the surprisingly weak Chinese trade data, where not only did their trade surplus decline substantially (to a still robust $56.5B) but exports fell in absolute terms, they did not merely rise more slowly than imports.  The implication is that global growth is slowing more rapidly than the narrative explains.  

We already know that Europe is in a world of trouble with Germany the current sick man of the continent, but we also have seen the latest Atlanta Fed GDPNow data showing that growth in the US is slowing as well with the latest reading at 1.2%.  The UK is struggling as are many Asian nations, notably South Korea and Taiwan, or at least their export industries which are the key economic drivers there.

Another clue is the recent sharp decline in the price of oil, which has fallen -5.0% this week and ~-10% in the past month.  Clearly, a part of this price decline is based on the growing belief (hope?) that the Israeli-Palestinian conflict will not spread into a wider Middle East conflagration that affects oil production.  But part of this is the fact that oil inventories are building as are gasoline and diesel inventories with the result that prices are falling sharply.  Given it wasn’t that long ago when there were shortages in these products, it appears that demand is falling sharply as well.  Remember, diesel fuel is what drives the world as essentially no industry or commerce could continue without its use.  The fact that less is being used is a clear signal of slowing activity.

Putting it all together shows that amidst what appears to be a slowing global growth impulse, markets are pricing out further central bank monetary policy tightening.  Equity markets have been looking at the second part of that equation, less tightening and potential easing, while ignoring the first part, slower growth leading to lower profits.  It is very easy, at least for me, to accept the idea that markets have not yet understood that slower economic activity will lead to lower profits and subsequently, lower equity prices.  Alas, I understand that sequence so remain quite cautious overall.

Ok, how has this translated overnight?  Well, after a modest rally in the US yesterday, equity markets in Asia were a bit softer, declining on the order of -0.35% while European bourses are edging slightly higher this morning, maybe +0.1%.  US futures at this hour (7:45) are basically unchanged as we all await Chairman Powell’s dulcet tones at 10:15 this morning.

Bond yields are also quiet this morning with Treasuries (+2bps) one of the larger movers as European sovereigns are almost all unchanged right now.  It seems that the market has found a new temporary home around the 4.60% level and the yield curve inversion continues to deepen, now at -36bps.  JGB yields, which have fallen from their recent YCC-tweak induced highs, have edged up overnight by 3bps, but are at 0.85%, still far from the 1.00% target or cap or concept, whatever they are calling it now.

We already know that oil is under pressure, having fallen sharply yesterday and another -1.2% this morning.  In fact, at $76.35/bbl, it is trading at its lowest level since mid-July.  Gold, too, has been suffering, down -0.3% this morning and drifting further away from the $2000/oz level as those Middle East fears seem to dissipate.  Copper and aluminum are also under pressure on the slowing growth story worldwide.  Foodstuffs, however, are generally bid lately, as we can all discern every time we go grocery shopping.

Finally, the dollar is back to its dominant ways again, rallying vs. almost all its counterparts in both the G10 and EMG blocs.  USDJPY is marching back toward 151 this morning, the euro is back below 1.07 and the pound back below 1.23.  Meanwhile, in the EMG space, ZAR (-1.1%) is the laggard although it has competition from CLP (-0.9%), KRW (-0.7%) and HUF (-0.7%) as virtually the entire bloc is under pressure.  In fact, CNY (-0.15%) is about the best performer as the PBOC continues to prevent any significant further declines.

Aside from Powell’s speech this morning, we hear from Williams, Barr and Jefferson, but there is absolutely no data to be released.  Given the dearth of new data on the calendar, this week is going to continue to be all about the Fedspeak.  In fact, Powell speaks again tomorrow and there are 5 more speakers as well by Friday, so rather than data, this week is about parsing language.  Of course, Powell will set the tone today, and I am confident he will continue to push back on the idea the Fed is done.  But we shall see.

In the end, it still seems to me that a higher dollar is the path of least resistance.  Manage accordingly.

Good luck

Adf

Towel Throwing

Posted on by 
Did they sell?  Or not?
The new Mr Yen, Kanda
Explained, “No comment”

As is clear from the chart below (source tradingeconomics.com), there was a bit of movement in the USDJPY market yesterday morning.  The price action certainly had the feel of intervention, with a nearly 2% decline that occurred in seconds, but there has been neither confirmation nor denial of any BOJ trading activity.  Kanda-san, who is vice minister of international affairs which is the MOF role that deals with the currency, is the current Mr Yen.  His comments were certainly cryptic and as such, not very informative.  “We will continue with the existing stance on our response to excessive currency moves,” said Kanda. “While we are basically like a Gulliver in the market, we’re also coming and going as a market player, so usually we won’t say whether or not we’ve intervened each time,” Kanda said.  

The story that makes the most sense is that the BOJ reached out to the major Japanese banks in NY and London and checked rates.  The fact that the move happened minutes after the spot rate finally breeched the 150 level certainly was suspicious and indicated that contrary to yesterday’s comments by Watanabe-san, a former Mr Yen, the level really does matter, not just the speed of the move.  Others have tried to explain that breeching 150 triggered selling levels, but if there were exotic option barriers at 150, and I’m sure there were, the more typical move would be an acceleration higher as stop-loss orders by dealers were triggered.  The spike down, at least in my experience, is a sign of exogenous activity, not market internals.

Looking ahead, are we likely to see more of this type of activity?  You can never rule out currency support from any nation whose currency is weakening sharply, but there are G7 and G20 constructs that are supposed to limit these, and are designed to focus on volatility of movement, not levels.  This appeared contrary to those concepts, so we have much yet to learn.  At the end of the month, the BOJ will publish any intervention activity as part of their transparency initiative, but that might as well be next year for all the information it will provide.  Be wary of further movements like this, but the fundamentals continue to point to a higher USDJPY, especially given the accelerating rise in US Treasury yields.

The bond market rout keeps on going
As we see more folks towel throwing
The question at hand
Is can Powell stand
The pressure that’s certainly growing

Thus far, there’s no sign that the Fed
Is worried when looking ahead
More speakers were heard
To follow the word
That higher for longer’s not dead

Of course, away from the FX market, where the dollar has continued to show remarkable strength overall, the big story is the Treasury market.  After yesterday’s sharp move, the 10-year yield is higher by 23bps so far in October and it is only the morning of the third session of the month!  The yield curve inversion is down to -32bps and 30-year Treasury yields are pressing 5% now, a level not seen since summer 2007.  This sharp move has been the true driver of almost all markets and as long as it continues, there is going to be more pain for risk assets.  There has been no change in the fundamentals and yesterday’s move was ascribed to a much higher than expected JOLTS Job Openings number, which printed at 9.61M, far above the forecast 8.8M and a huge jump from last month’s outcome.  This seemed to encourage the Fed speakers to maintain their higher for longer attitude with a number still looking for one more rate hike this year.  Once again, I will point to Friday’s NFP number and its importance as a key driver of Fed policy.  If that number remains strong, and Unemployment remains low, the Fed can maintain this policy stance with limited fallout politically.

The rise in Treasury yields is being copied elsewhere around the world with yields following the US higher.  While today is seeing a bit of consolidation, with European sovereign and Treasury yields currently softer by 1bp-2bps, this is a trading effect, not a change of heart.  Interestingly, even JGB yields are getting dragged along higher as they closed last night at 0.80%, their highest level since 2012, the beginning of Abenomics.  But in the end, this is all about US yields with the rest of the world continuing to follow their lead.  I heard some analysts claiming this was a blow-off top in yields and we have seen the end.  Alas, I don’t believe that as history shows the yield curve will move back to a normal stance and with the Fed firmly in the higher for longer camp, 10-year yields have further to rise.  Yes, something is likely to break at some point, but so far, the few hiccups have been contained.

Not surprisingly, risk assets had a tough time in yesterday’s session with US indices all falling sharply, by -1.3% or more.  Yesterday’s European bourses were also under significant pressure and the Asian markets open overnight got hit hard as well with the Nikkei (-2.3%) and Hang Seng (-0.8%) the biggest movers.  However, this morning, Europe has a touch of green on the screen, with small gains on the order of 0.3% and US futures are also edging higher, +0.15% at this hour (7:45).  I wouldn’t read too much into this modest bounce and fear that there is further, and potentially much further, to go.  One of the remarkable things about the equity market is that earnings estimates for 2024 are for a rise of 12% on 2023 earnings.  Given the ongoing rise in energy costs and the increasing probability of a recession, those seem quite optimistic.  As they are revised lower, that, too, will weigh on equities, and by extension all risk assets.

Lastly, in the energy space, oil (-1.7%) is under further pressure this morning, although the fundamentals wouldn’t indicate that is the right move.  Not only did we see a further draw in inventories in the US, notably at the key Cushing, OK storage depot, but we heard from Russia that they are going to continue to restrict production by 300K bbl/day through the end of the year.  Meanwhile, the law in the US is set that the government cannot sell oil from the SPR when the inventory level falls below 330 million barrels.  Currently, it sits at 327 million, so that supply has ended.  Nothing has changed my view that oil has much higher to go, albeit not in a straight line.

Metals prices remain generally under pressure although gold (+0.2%) seems to be bouncing with other risk assets this morning on a technical trading basis.  However, both copper and aluminum are still sliding, typically a harbinger of weaker economic activity to come.

As to the dollar broadly, it, too, is a touch softer this morning, pulling back from highs seen yesterday in sync with all the markets.  But the same fundamentals driving the bond and stock markets are in play here, higher yields leading to more demand and a higher dollar.  Yes, this will end at some point, but we need to see a change in policy for that to happen.  The next real chance we have for something like that is on Friday with the payroll report.  A weak report, which seems unlikely at this time given the other employment indicators, would almost certainly change the market’s tone.  However, until then, look for positioning to continue to favor a stronger dollar, and for more and more dollar short sellers to get stopped out.

On the data front, this morning brings ADP Employment (exp 153K) as well as Factory Orders (-2.1%) and ISM Services (54.5).  the PMI Services data from Europe indicated that the worst may be over, but that there is, as yet, no real rebound.  We hear from a few more Fed speakers, but thus far they remain consistent, higher for longer is appropriate.

Today could see more consolidation of the recent moves across the board, but I do not believe that we have come to the end.  Calling a top or bottom is always impossible but remembering that the trend is your friend is likely to keep your activities in good shape.

Good luck

Adf