Tag Archives: #trump

A Trump Trope

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For one day the markets expected
That tariffs were roundly rejected
But late yesterday
Trump said the delay
Was short with two nations affected
 
The upshot is all of that hope
That saw the buck slide down a slope
Has largely reversed
As dollar shorts cursed
That tariffs are not a Trump trope

 

This poet feels vindicated in not trying to anticipate what President Trump is going to do that might impact markets after yesterday’s events.  Early in the day there was a story that tariffs would be delayed and were seen as negotiating tools, not punishment.  FX traders (mis)read the room and sold the dollar aggressively, with the greenback suffering declines of more than 1% against some currencies, notably MXN.  Then, Mr Trump was inaugurated, made a speech, where he promised to make many changes within the operating system of the US, signed a load of Executive Orders and mentioned in a press conference much later in the evening that 25% tariffs on Mexico and Canada would be coming on February 1st.  The chart of USDMXN below shows the price action with the peso having given back the bulk of yesterday’s gains.

Source: tradingeconomics.com

Once again, if we learned nothing from Trump’s first term, it is that anticipation of his moves is a very fraught and dangerous way to manage market risk.  Now, will those tariffs actually be implemented?  Will they be universal if they are?  Or does he anticipate changes from behavior by both nations in the next 10 days?  The answer is, nobody knows, probably not even Trump.  The upshot is if you have financial market risk, hedging is critical to maintaining acceptable outcomes.  And, oh by the way, look for implied volatility of all financial products to rise as market makers also have no idea what is going to happen so will require hedgers to pay up for protection.

In Davos, the world’s glitterati
Are meeting, and though they are haughty
They’re losing their splendor
And edicts they render
Are sinking in value like zloty

While there is a great deal more that President Trump has promised to do immediately, the bulk of it seems likely to only have potential longer-term impacts on financial markets.  Meanwhile, in Davos, the World Economic Forum is under way and the main message that I can discern from what I’ve read is that, the members really liked it when everybody listened to what they said and are now really unhappy that President Trump is essentially raining on their parade and devaluing their views and comments.  With Trump withdrawing from the Paris Climate Accords and the WHO, key global initiatives are severely hamstrung, which means the WEF is less important.  And all their pronouncements regarding the need free trade and global cooperation has far less impact if the US has decided to focus on itself rather than the world at large.  My forecast is that by the end of Mr Trump’s term, the WEF will be a sideshow, not a headline event.

And really, at this point, that is pretty much what is happening.  Yes, UK Unemployment rose to 4.4% while wages rose 5.6%, but this has simply put the BOE in a tougher spot.  The Old Lady has only an inflation mandate, but if Unemployment is rising, they cannot ignore that, and the market is now far more convinced (82% probability) that they will be cutting the base rate by 25bps at their meeting the first week of February.  While the pound (-0.8%) is lower this morning, that seems much more about the dollar’s overall strength than this weaker than expected data point as since the release, the pound has fallen only another 0.2%.

So, let’s look around the world and see how markets responded to Trump 2.0.  Equity markets in Asia were largely in the green as neither Japan nor China were mentioned on the immediate tariff list, although the late-night proclamation regarding Canada and Mexico implies that this story has not yet been completed.  Nonetheless, gains in Japan (+0.3%), Hong Kong (+0.9%) and China (+0.1%) showed the way for most of the region with only India (-1.6%) really suffering during the session on a variety of fears regarding tariffs and interest rates despite no mentions by Trump.  In Europe, only Spain’s IBEX (-0.5%) is showing any movement of note and that appears to be specific to some slightly softer than expected corporate earnings results.  Surprisingly, Germany and the rest of the continent are little changed, as is the UK.  As to US futures, at this hour (7:10) they are pointing higher by about 0.4% in anticipation of more earnings reports today and a generally positive attitude from the new president.

In the bond market, Treasury yields have fallen 5bps overnight, seemingly on the idea that because Trump announced the government would do all it can to reduce prices, and therefore inflation, it would magically work.  While I am optimistic things will get better, that is a heavy lift in my opinion and the Fed will need to be far more emphatic on its inflation fighting actions to see this through.  In Europe, yields are basically unchanged across the board and similarly, there was no movement in Asia overnight.  Once again, the world is looking toward the US for directional cues.

In the commodity markets, oil (-1.3%) is sliding back as Trump’s promise to open up more drilling spaces on federal land as well as his overall encouragement of ‘drill, baby, drill’ has traders concerned that supply is going to come around more quickly than demand.  Last January I wrote about my view that there is plenty of oil and it is merely political will that prevents it from being accessed.  I have a feeling that is what we are going to begin to see, a change in that political will which means potentially lower prices and increased demand accordingly.  In the metals markets, gold (+0.5%) is continuing to climb as we approach month end.  There are many in this market who believe the technical picture (see chart below) is pointing to a break to new all-time highs soon.  However another, and perhaps more accurate narrative, is that there is an arbitrage between the NY, London and Shanghai exchanges for physical metal and metal is flowing into NY for delivery which begins next Friday. (H/T Alyosha)

Source: tradingeconomics.com

As to the other metals, they are little changed this morning.

Finally, as mentioned at the top, the dollar is much firmer across the board this morning with the peso and NOK (-1.0%) leading the way lower although most currencies seem to be down by at least -0.5%.  (Yes, PLN is weaker by -0.6%).  This is all dollar-driven with no other idiosyncrasies of note right now.  We shall see how this evolves over time.

On the data front, the rest of the week looks like the following:

WednesdayLeading Indicators0.0%
ThursdayInitial Claims218K
 Continuing Claims1860K
FridayFlash Manufacturing PMI49.6
 Flash Services PMI56.6
 Existing Home Sales4.16M
 Michigan Sentiment73.2

Source: tradingeconomics.com

The Fed is in its quiet period so with the lack of data, I suspect that markets will have heightened awareness to every Trump pronouncement with volatility the new normal.  Remember, consistency is not his strong suit, at least when it comes to commentary about how he may respond to things.

From the market’s perspective, as long as tariffs are still seen as the likely outcome, look for the dollar to remain well bid while equities will see a mixed performance depending on the nature of the company/industry with importers likely suffering.  

Good luck

Adf

Trump 2.0

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Today begins Trump 2.0
And pundits are trying to show
Their ideas are sound
As how he’ll redound
On policies he will bestow
 
But this poet can’t comprehend
How anyone thinks what they’ve penned
Is likely to be,
To any degree,
Correct. ‘Stead, let’s look at the trend

 

As Donald Trump prepares to take the oath of office today, there has been a non-stop barrage of pundits putting forth their views as to how policy proposals that were made during the campaign, and even since the election, are going to impact the economy as well as equity, bond and FX markets.  But I would take exception to all these as, if we learned nothing else from Trump’s first term in office, we have no idea how he may try to do the things he says he is going to do.  Are tariffs a funding process?  Are they negotiating tactics?  Are they punishment?  Since we have no idea at this point (all three of those ideas have been floated by “insiders” and pundits), how can we meaningfully forecast the impact tariffs may have going forward?  So, I won’t even try.

Rather, I think there is much to be learned from looking at the long-term trends in markets and perhaps trying to come up with reasons that these trends may be changing, or not, going forward.  As such, take a look at the charts below, all from tradingeconomics.com, where I have tried to highlight the long-term trend in the dollar (EURUSD), the S&P 500, 10-Year Treasury Notes, oil and gold.

My first observation is that over the past twenty-five years, oil has traded both higher and lower with no discernible direction.  Certainly, we are higher now than 25 years ago, but we have been both much higher and lower in the interim.  Now, if Trump is successful at freeing up more drilling opportunities, removing the offshore drilling ban that Biden imposed last week, and reducing the regulatory structure such that the cost of drilling declines, my take is increased supply will result in some downward pressure.  As well, if he is successful at bringing an end to the Ukraine war, it seems probable that Russian oil may no longer be sanctioned, and that, too, would pressure prices lower.  But will he impose tariffs on Canada, a key source of sour crude used to refine diesel?  That could easily pressure prices higher.  And what of Venezuela?  As I said, no way to know.  In the end, my take is that the most likely outcome is that oil will continue to demonstrate its inherent price volatility given its price inelasticity.  I think you can equally make the case for $50 oil as well as $100 oil based on many idiosyncratic issues that have nothing to do with Trump.

The only noteworthy change we have seen is in 10-Year Treasury yields, which after a 40-year downtrend following the back-to-back recessions in 1980-1982 and Fed Chair Volcker’s policy tightening, look very clearly to have reversed course.  I am not the first to notice this but believe that it is an important feature of markets going forward.  There are virtually two generations of traders and investors who have only ever seen interest rates decline and have created their mental investment models on that underlying thesis.  If the future is going to bring about higher interest rates over time (and given my view that inflation is not going to disappear and that will be a key driving force), then investment models in a higher inflation, higher yield environment are going to be different than what we have seen up through 2022.  

One of the keys is that the idea behind the 60/40 portfolio, where declines in stock prices were offset by rises in bond prices, turns out to only really be true in a low inflation environment, sub 2.5%.  If inflation is going to run at 3.5% – 4.5% going forward, then all the strategies that incorporated that 60/40 basis are going to have an awfully difficult time, again, regardless of what Trump does.  The one caveat here is if he is successful in driving inflation back to that <2.0% level, but that seems highly unlikely in the near term given how sticky inflation has proven to be even without any new policies.

Now, if we look at the dollar, that trend has been very consistent and remains in place with the dollar seemingly set to continue to appreciate.  Given Trump’s stated desire to reshore American manufacturing and reduce the trade deficit, he almost certainly would like to see the dollar decline.  However, at this point, it’s not clear what policies are going to drive that.  Historically, loose monetary and tight fiscal policy will weaken a currency, and that could well be what we see, except that is likely to create a burst of inflation before the tight fiscal policy reins that in.  And you know as well as I that Trump will be very displeased with that outcome.

It is certainly possible that the Treasury could intervene to weaken the dollar, but that is also something that is exceedingly rare in this country.  Perhaps the most likely situation here would be a Mar-a Lago (?) Accord, or something like that akin to the Plaza Accord of 1985, where the G7 at the time all agreed that the dollar needed to decline.  Now, on the one hand, given the weakness in the other G10 economies currently when compared to the US, my take is those nations are pretty happy to have weak currencies to help support their domestic industries.  On the other hand, I suspect the EMG bloc who have funded themselves in USD are really interested in seeing a weaker dollar to help them get easier access to dollars to service and repay their debt.  My take is that until there is a definitive policy pronouncement, and this will require something like that as quiet policy adjustments are likely to be missed by the FX market, this trend will remain intact.

Finally, a look at both equities and gold shows basically the same chart, with both showing accelerating price increases and both now significantly above their long-term trend lines.  The question, of course, is can this continue?  Keynes was reputed to have told us that markets can remain irrational longer than you can remain solvent, implying just because market pricing doesn’t make fundamental sense doesn’t mean it cannot continue further.  But in the end, trees don’t grow to the sky, and corrections in these markets seem somewhat overdue.  Consider the S&P 500 chart, where we see the sharp decline in 2022.  Many remember that as the worst market since the GFC crash, and yet on the chart, it looks like a modest correction.  Consider also, that if the market were to decline to the trend line I have drawn, it would be nearly a 50% correction, and that just puts it back on trend!  Again, volatility seems the watchword going forward, but until we see something that is going to change opinions, the trend in both stocks and gold seems higher.

OK, as we await the official change in presidency here, let’s review the overnight price action, which was generally positive following Friday’s US equity rally.  Remember, too, it is MLK Day, and markets are closed in the US.

Asian markets saw broad gains with the Nikkei (+1.2%) and Hang Seng (+1.75%) leading the way while mainland shares (+0.45%) lagged but were still in the green.  Away from the major markets, there were far more gainers than laggards, but the biggest moves were on the order of 0.4%, nothing of real note.  Positive Japanese data was the driver in Tokyo (Machinery Orders +3.4%) while HK and Chinese shares benefitted from the news that Presidents Trump and Xi spoke, hopefully in a prelude to less tension.  In Europe, markets are essentially unchanged across the board this morning as it seems investors cannot discern whether Mr Trump will be beneficial for the continent or not.  Certainly, I continue to read about a number of European leaders who are unhappy at the prospects of a Trump presidency (specifically PM Starmer who has ostensibly said the US-UK relationship is destined to diminish).  While that may be true, my take is it will not help the UK very much.  And, while US markets are closed today, US futures are pointing modestly higher this morning.

In the bond market, yields are edging higher in Europe, up between 1bp and 2bps on the continent while UK Gilt yields are higher by 3bps.  Overnight saw JGB yields slip 1bp and, of course, with banks closed in the US, Treasury yields are unchanged in the cash market.  However, bond futures are pointing to a 1bp rise as well.

In the commodity markets, oil is little changed on the day while NatGas (-4.4% after a -6.0% decline on Friday) is falling on news that weather models, which had been calling for another cold spell in February, have changed and are now saying temperatures will be milder then.  In the metals markets, gold (+0.3%) is edging higher while both silver (-0.3%) and copper (-0.4%) are slipping a touch, but given their inherent volatility, arguably these are unchanged on the day.

Finally, the dollar is under some pressure this morning with then euro (+0.5%) leading the G10 higher although similar sized gains are seen across the board with only JPY (0.0%) failing to go along for the ride.  EMG currencies are also picking up led by HUF (+2.0%) as it seems there is excitement in Hungary regarding the inauguration as PM Orban seems to share many of President Trump’s views on various geopolitical issues.  But CZK (+0.9%) and PLN (+0.6%) are also rallying alongside KRW (+0.5%), although MXN (-0.3%) seems to be showing concerns regarding how that relationship will evolve.  Certainly, as I mentioned above, President Trump will not be unhappy to see the dollar slide a little, but I don’t see this as the beginning of a new trend.

With no data today, and a light week in general, and given how long this missive has already become, I will lay out the data releases tomorrow.  Today, all eyes will be on the ~200 Executive Orders President Trump will sign and I expect it will take a little time to digest it all, so we will see how things really begin tomorrow.

Good luck

Adf

In the “Know”

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According to those in the “know”
It’s certain that tariffs will grow
But now some are saying
The timing is straying
From instant to something more slow

 

In what has been a generally quiet evening in the markets, the story that President-elect Trump is considering imposing all those tariffs on a gradual basis, rather than instantaneously when he is inaugurated, was taken as a bullish sign by investors.  This seems to have been the driving force behind yesterday afternoon’s modest rebound in equity markets as the current market narrative is tariffs = bad, no tariffs = good.  From what I can determine, these are anonymous comments not directly attributed to Trump or his incoming economics team and, in fact, Trump denied that possibility.

But the market impact was real as not only did equity markets rebound a bit, but the dollar, which had soared yesterday, has given back some of those gains and is modestly lower this morning.  If we learned nothing else from President Trump’s first term, it should be clear that there is frequently a great deal of bombast emanating from the White House and responding to each and every comment is a recipe for exhaustion and disaster. While this cannot be ruled out, if one were to ascribe a Trumpian gospel it would be that tariffs are beautiful so slow-rolling them doesn’t really accord with that view.  I guess we will all find out more next week.

Now, turning to data releases
This week its inflation showpieces
Today’s PPI
Is tipped to be high
While Wednesday the core rate increases

Away from that story, though, there has been little else of note overnight.  As such, let’s focus on the PPI data this morning and CPI tomorrow as they ought to help inform our views on the Fed’s actions going forward. Expectations are for headline to rise to 3.4% Y/Y while core jumps to 3.8% Y/Y.  It is difficult to look at a chart of these readings and not conclude that the bottom is in and the trend is higher.

Source: tradingeconomics.com

This is not to say that we are going to see price rises like we did back in 2022 as the waves of Covid spending washed through the economy, but the Fed’s mantra that inflation is going to head back to 2.0% over time is not obvious either.  In fact, if I were a betting man, I would estimate that we are likely to continue to see inflation run between 3.5% and 4.5% for the foreseeable future.  There is just nothing around to prevent that in the short run.  Now, if we do see significant productivity enhancements, those numbers will decline, but my take is the best opportunity for that, more effective and widespread use of AI, is still several years away.

Remember, too, that the government writ large, whether headed by R’s or D’s is all-in on inflation as it is the only opportunity they have to reduce the real value of the outstanding government debt.  Perhaps the Trump administration will take a different tack, but it is not clear they will be able to do so.  The only time inflation is a concern is when it becomes a political liability.  For the two decades leading up to Covid, it was not a daily concern of the population and central banks around the world were terrified of deflation!  In fact, there are so many comments by folks like Yellen, Bernanke and other Fed governors and presidents decrying the fact that their key regret was not getting inflation high enough, it is difficult to count them.  But as evidenced by the chart below of CPI, we no longer live in that world.

Source: tradingeconomics.com

Summing up, the current situation is that inflation has likely bottomed, the government continues to run massive fiscal deficits and given the $36 trillion in debt outstanding, the government needs to reduce the interest rate they pay on their debt.  If pressed, I would expect that we will see synthetic yield curve control (YCC) enabled by regulatory changes requiring banks and insurance companies to own a greater percentage of Treasury notes and bonds in their portfolios to ensure there is sufficient demand for issuance.  That can have the effect of turning long-term real yields negative, exactly the outcome the government wants. Remember, from 1944-1951, the Fed enacted YCC directly and it worked wonders in reducing the debt/GDP ratio.  They know this tool and will not be afraid to use it.

Ok, let’s take a look at what little action there was overnight.  After yesterday’s late rebound resulted in a mixed close with the NASDAQ still lower but the other two indices closing in the green, Asian equity markets also had a mixed picture.  The Nikkei (-1.8%) was the laggard, seemingly following last week’s US market movement after reopening from a holiday weekend.  However, Chinese shares (Hang Seng +1.8%, CSI 300 +2.6%) rallied sharply on the latest news that more Chinese stimulus was coming soon.  This time the Ministry of Commerce claimed they would be looking to boost consumption this year, but neglected to mention how they will do so.  Regardless, investors liked the story and when added to the gradual tariff story, it was all green.

European bourses are also in fine fettle this morning with gains across the board (CAC +1.2%, DAX +0.8%, IBEX +0.6%) and even the FTSE 100 (+0.1%) has managed to rally a bit.  This price movement, and that of the rest of Asia where gains were seen, seems all to be a piece with the slower tariff story discussed above.  As to US futures markets, at this hour (6:40), they are pointing modestly higher, 0.45%.

In the bond market, the only place where yields have moved significantly today is in Japan, where JGB yields have jumped 5bps and are now at their highest point since February 2011.  This followed comments from Deputy Governor Himino that the board was likely to debate a rate hike at their meeting next week and market pricing has a 60% probability priced in for the move.  There is much talk of wage increases in Japan, and Himino-san also raised questions about what the Trump administration will do and how it will impact yields.  Interestingly, despite the more hawkish rhetoric, the yen (-0.25%) actually declined today, not necessarily what you would expect.  As to the rest of the bond market, everything is within 1bp of Monday’s closing levels.

In the commodity markets, oil (-0.3%), which has been rocking lately on the increased Russia sanctions, is consolidating this morning although remains higher by nearly 6% this week and 12% in the past month. (As an aside, I don’t understand the Biden theory that sanctions driving up prices is going to be a detriment to Putin as he will make up for the loss of volume with higher prices, but then, I’m not a politician.). Meanwhile, NatGas (-3.2%) has backed off its recent highs as storage concerns ebb, although the ongoing cold weather appears to have the opportunity to push prices higher again.  As well, the latest dunkelflaute throughout Europe is driving demand for LNG.  In the metals markets, yesterday’s declines have been arrested, and we are basically unchanged this morning.

Finally, the dollar is mixed this morning, edging higher against some G10 counterparts (GBP -0.3%, JPY -0.4%) but sliding against others (NZD +0.6%).  Versus the EMG bloc, again the picture is mixed today with gainers (ZAR +0.4%, KRW +0.3%) and laggards (CZK -0.2%) although overall, I would argue the dollar is a touch softer on the back of the gradual tariff story.

On the data front, this morning’s PPI data (exp 0.3% M/M, 3.4% Y/Y) headline and (0.3% M/M, 3.8% Y/Y) core is the extent of what is to come.  Interestingly, the NFIB Index jumped to 105.1, the highest print since October 2018, as small businesses are clearly excited about the prospects of a Trump administration and the promised regulatory cuts.

Right now, both the dollar and Treasury yields are pushing to levels that have caused market problems in the past.  If these trends continue, be prepared for some more significant price action.  That could manifest as a sharp decline in equity markets, or some surprising Fed activity as they try to address any potential market structural problems that may arise.  But there is nothing due to stop the trends right now.

Good luck

Adf

No Reprieve

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

 

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

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

Source: tradingeconomics.com

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

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

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

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

Source: tradingeconomics.com

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

Source: tradingeconomics.com

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

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

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

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

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

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

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

Good luck

Adf

Active De-Bonding

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Up north is a nation quite vast
Whose money, of late’s been, out, cast
But word that Trudeau
Is soon set to go
Has seen Loonies quickly amassed
 

One of the biggest stories over the weekend has been the sudden upsurge in articles and discussion regarding the remaining tenure for Canadian PM Justin Trudeau.  For the past several weeks, since his FinMin Krystia Freeland resigned and published a scathing resignation letter, pressure on Trudeau has increased dramatically.  It appears that it is coming to a head with articles from both Canadian and international sources indicating he may step down as soon as this week.  As well, his main political rival, conservative party leader Pierre Poilievre, is touted, according to the betting websites, as an 89% probability to be the next PM.
 
Now, we all know the dollar has been strong in its own right lately, and I suspect that while there will be bumps along the road, it will get stronger still over the year absent some major Fed rate cutting.  As such, USDCAD is higher along with everything else.  However, you can see in the chart below (the green line rising faster than the blue line since December) that it has been an underperformer for the past month, since that Freeland resignation, as investors have been shying away from Canada, given the combination of concerns over the incoming Trump administration imposing tariffs and no political leadership to address these issues.

 

Source: tradingeconomics.com

While no sitting politician is ever willing to cede power easily, and there are indications that Trudeau is going to go down kicking and screaming, ultimately, I expect that Poilievre will be the PM and will develop a strong relationship with the US.  As that becomes clearer, I expect to see the CAD appreciate modestly vs. the dollar, but much more so against other G10 currencies.

Once more, what the Chinese have said
Is stimulus is straight ahead
But so far, its talk
They ain’t walked the walk
So, bulls need take care where they tread

Another tidbit this morning comes from Beijing, where the economic planning agency there has indicated that they will expand subsidies for consumer purchases of electronic goods like cellphones, tablets and smart watches, as President Xi continues to watch his nation’s economy grind along far more slowly than he really needs to happen.  There was an excellent thread on X this morning by Michael Pettis, one of the best China analysts around, describing the fundamental problem that Xi has and why the slow motion collapse of the property market portends weakness for a long time going forward.  As is almost always the case, while tearing the proverbial band aid off quickly can hurt more at the instant, the pain dissipates more quickly.  President Xi believes he cannot afford to inflict that much pain, so their problems, which stem from decades of malinvestment in property that inflated a massive bubble, are going to last for a long time.  While CNY (+0.4%) is modestly firmer this morning, that is only because the dollar is weaker across the board, and in fact, it is significantly underperforming.

This week, the US Treasury’s Yellen
Much debt, will look forward to sellin’
The market’s responding
By active “de-bonding”
With dollars and bonds both rebellin’

The last big story of the day is clearly the upcoming Treasury auctions this week, where the US is set to sell $119 billion of debt, starting with $58 billions of 3-year notes today.  Arguably, market participants have been aware that this was going to be a necessary outcome given the massive deficits that continue to be run by the US.  Adding to the broad concept of deficits, the Biden administration appears to be trying to spend every appropriated dollar in the last two weeks in office and that requires actual cash, hence the auctions to raise that cash.  In addition, the debt ceiling comes back into force shortly, so they want to get this done before that serves to prevent further issuance.

Now, the yield curve has reverted back to a normal slope with the 2yr-10-yr spread at 34bps and 30yr bonds trading another 22bps higher than 10yr at 4.81% and bringing 5% into view.  Here’s the thing about the relationship between the dollar and yields; the dollar is typically far more correlated to short-term yield differentials, not long-term yields.  So rising 30yr bond yields is not likely to be a dollar benefit.  In fact, just the opposite as international investors will not want to suffer the pain of those bonds declining in price rapidly.  

And this is what we are witnessing this morning as the dollar, which rallied sharply at the end of last week, is correcting in a hurry today.  As mentioned above, CNY is the laggard with the euro, pound, Aussie, Kiwi and Loonie all firmer by 1% or more this morning and similar gains seen across the emerging markets, with some extending those gains as far as 1.35% or so.  Is this the end of the dollar?  I would argue absolutely not.  However, that doesn’t mean that we won’t see a further decline in the buck before it heads higher again.  A quick look at the chart below, which shows the Dollar Index, while it has just touched the steep trend line higher, it remains far above its 50-day and 100-day moving averages.  Howe er, it seems that the big story here comes from a report from the Washington Post that Trump is considering much less widespread tariff impositions with only some critical imports to be addressed.  As such, given the tariffs = higher dollar consensus, if this is true, you can understand the dollar’s retreat.

Source: tradingeconomics.com

However, today’s story is that of a weak dollar and strong equity markets, well at least in some places. Friday’s US equity rally was not followed by similar enthusiasm in Asia with the Nikkei (-1.5%) leading the way lower while both the Hang Seng (-0.4%) and China (-0.2%) also lagged.  Perhaps the mooted China stimulus helped those markets on a relative basis.  Europe, however, is in fine fettle (CAC +2.3%, DAX +1.4%, IBEX +0.9%) as PMI data released this morning was solid, if not spectacular, and the weaker dollar seems to be having a net positive impact.  US futures are also firmer, with NASDAQ (+1.1%) leading the way.

In the bond market, the big movement was in Asia overnight as JGBs (+4bps) sold off alongside virtually every other Asian bond market except China, which saw yields edge lower by 1bp to a new record low of 1.59%.  In Europe, there has been very little movement with yields +/- 1bp at most and Treasury yields, which had been firmer earlier in the overnight session, have actually slipped back at this hour and are lower by 2bps to 4.58%.

In the commodity markets, the weak dollar has helped support prices here with oil (+1.0%) continuing its rally (+9% in the past month) as the combination of Chinese stimulus hopes and cold weather seem to be providing support.  Speaking of cold weather, NatGas (+7.4%) is also in demand this morning as winter storm Barrie makes its way across the country.  In the metals markets, gold (+0.3%) is the laggard this morning with both silver (+2.3%) and copper (+2.4%) really taking advantage of the dollar’s weakness.

On the data front, there is a ton of stuff this week, culminating in NFP on Friday.

TodayPMI Services58.5
 PMI composite56.6
 Factory Orders-0.3%
TuesdayTrade Balance-$78.0B
 ISM Services53.0
 JOLTS Job Openings7.70M
WednesdayADP Employment139K
 Initial Claims217K
 Continuing Claims1848K
 Consumer Credit$12.0B
 FOMC Minutes 
FridayNonfarm Payrolls160K
 Private Payrolls134K
 Manufacturing Payrolls10K
 Unemployment Rate4.2%
 Average Hourly Earnings0.3% (4.0% Y/Y0
 Average Weekly Hours34.3
 Participation Rate62.8%
 Michigan Sentiment73.9

Source: tradingeconomics.com

In addition to all this, we hear from six more Fed speakers over seven venues with Governor Waller likely the most impactful.  Over the weekend, we heard from Governor Kugler and SF President Daly, both explaining that they needed to see more progress on inflation before becoming comfortable that things were ok.

Clearly, the tariff story is the current market driver in the dollar.  As I never saw tariffs as the medium-term driver of dollar strength, I don’t think it has as much importance.  Plus, this is a report from the Washington Post.  There are still two weeks before inauguration and many things can happen between now and then.  Nothing has changed my longer-term view that the dollar will be supported as the Fed, which is not tipped to cut rates this month and is seen only to be cutting about 40bps all year will ultimately raise rates as inflation proves far more stubborn than desired.  But that is the future.  Today, pick spots to establish dollar buys and leave orders.

Good luck

Adf

The Conundrum We Find

Posted on by

Tis nearly a month since the vote
When President Trump, Harris, smote
So maybe it’s time
To sample the clime
Of what all his plans now connote
 
To many, his claims are just talk
With pundits believing he’ll balk
But history shows
That Trump will bulldoze
Detractors as he walks the walk
 
So, tariffs are likely to be
The first part of his strategy
But if that’s the case
The dollar may chase
Much higher than he’d like to see
 
It seems the conundrum we find
Is not all his thoughts are aligned
And this, my good friends
Is why dividends
Are paid to a hedge, well designed

 

I have tried to stay away from forecasting how things will evolve once Mr Trump is inaugurated, but this weekend, listening to a podcast (Palisades Gold Radio) I got inspired as there was some interesting discussion regarding the dollar.  As I consider the issues, as well as what appears to be the current expectations, I thought it might be worthwhile to note my views, especially in the context of companies considering their hedging needs for 2025 and 2026.

Clearly, the watchword for Trump is tariffs as he has been boasting about implementing significant tariffs on trade counterparties on day 1.  The latest discussion is 25% on Canada and Mexico and 60% on China with Europe in the crosshairs as well.  (Remember, though, many believe these tariff threats are being used to encourage those countries to change their emigration policies and help stop the current influx of illegal immigration.  So, if countries do their part, those tariffs may never materialize.)

The classical economic view is that tariffs are a terrible policy as impeding free trade negatively impacts all players.  As well, you will hear a lot about how the countries in question will not pay them, but rather consumers in the US will pay those tariffs.  As such, there is a great deal of talk about how tariffs will feed immediately into inflation.  (Of course, this is in addition to the inflation that will allegedly come immediately on the heels of Trump’s promise to deport all illegal aliens in the country because it will decimate the workforce.  On this subject, simply remember that the deportation will result in a significant decline in demand for things like housing which remain quite sticky in the pricing process.)

But let’s consider what Trump’ stated goals really are.  I would boil them down to rebuilding America’s industrial capacity and creating good jobs throughout the nation for citizens and legal residents.  If he is successful, the result will be a dramatic reduction in the trade deficit which will reduce the need to import so much foreign capital to fund things.  And what are the knock-on effects there?  Well, classical economics tells us that tariffs will be met with foreign currency depreciation (higher dollar) in an effort to offset the higher prices of those imports.  However, one of Trump’s goals is to reduce the value of the dollar in order to make US exporters more competitive internationally while reducing demand for imports.  Now, it seems that those two goals are at odds.

I think the thing we need to consider, though, is that the timing of these changes is very uncertain.  My guess is Trump is thinking of a 4-year process, or at least a 3-year one, not a 6-month outcome.  After all, these are tectonic shifts which will take time to play out.  Based on his commentary, and I think we must pay it close attention as he is pretty clearly telling us what he wants to do, the market response to any tariffs imposed will likely be weakness in the currencies of the countries affected.  

But, over time, it would not be surprising to see Trump lean effectively on the Fed to reduce policy rates (remember, he was quite upset the Fed never went negative).  As well, if there is any success in the DOGE project, with significant reductions in spending and deficits, that seems likely to alleviate some of the concerns over the US fiscal stance.  After all, if debt grows more slowly than the nominal pace of the economy, it remains quite manageable and should help remove some of the current hysteria.  In fact, a look at the 10-year yield over the past month (see chart below) shows that it has fallen 25bps (although they are 4bps higher this morning) and may well be signaling a market that is willing to give DOGE a chance.  If that is the case, it seems quite possible that the dollar will eventually start to recede from its current loftier levels.

Source: tradingeconomics.com

Bringing this back to the hedging issue, I might suggest that given the uncertainty of the timing of any movements, receivables hedgers will be well-served by using optionality here, whether outright purchases or zero-premium structures as they look to address 2025 and 2026 exposures.  While the dollar may well continue its recent strengthening trend with the euro heading to parity or below for a time, and other currencies following, at some point in H2 25 or beyond, it is quite feasible that the dollar reverses course.  Consider what could happen if Trump convenes a Mar-a -Lago accord, similar to the Plaza Accord of 1985, which saw the dollar decline dramatically in the ensuing three years, falling nearly 50% against a broad mix of trading partners’ currencies by the end of 1987.

Source: tradingeconomics.com

In that situation, those out-month hedges will want to have optionality to allow the weaker dollar to benefit the revenue line.  Similarly, for those with payables hedges, care must be taken to hedge effectively there as well given the opportunity for much higher costs due to the potential dollar decline.  Current market pricing (implied volatilities) is quite reasonable from a long-term perspective.  While they are not near the lows seen in the past year, they very likely offer real value for hedgers of either persuasion.

I apologize for the extended opening, but it just seemed to be a good time to review the evolving Trump impact.  Now onto markets. The first thing to recall is that last Wednesday’s PCE data continued to show that inflation, even in this measurement, appears to have stopped declining and is beginning to head higher again.  This will continue to put pressure on the Fed as housing data was pretty dreadful last Wednesday.  Add to the data conundrum the unknown unknowns of a Trump presidency and Chairman Powell will have his hands full until his term ends.

Friday’s abbreviated session in the US saw two of the three major indices trade to new all-time highs (NASDAQ is < 1.0% below its recent high) and that seemed to help support the Asian time zone markets with green outcomes nearly universal.  Japan (+0.8%), China (+0.8%) and Hong Kong (+0.65%) all had solid sessions as did every regional exchange other than Indonesia (-0.95%) which has been suffering for the past several months in contrast to most other nations.  In Europe, the picture is more mixed with most bourses in the green (DAX +0.8%, IBEX +0.9%) although the CAC (-0.35%) is feeling pain from increased worries that the government there will fall, and the fiscal situation will be a disaster going forward.  French yields continue to climb vs. every other European nation as the country is leaderless for now.  For the rest of the continent, slightly softer PMI Manufacturing data seems to have investors increasing their bets that the ECB is going to become even more aggressive in their rate cutting going forward.  As to the US futures market, at this hour (7:00) it is mixed with the SPX (+0.5%) rising but the other indices little changed.

In the bond market, as mentioned above, US yields have rallied a bit although European yields are all lower by between -2bps and -4bps (France excepted at unchanged) as those hopes for an ECB rate cut are manifest here as well.  As to JGB’s, 10yr yields are higher by 2bps this morning as there is increasing chatter that Ueda-san will be hiking rates later this month.  One other interesting note here is that in the 30-year space, Chinese yields have fallen below Japanese yields for the first time ever.  This seems to be an indication that market expectations of a Chinese rebound (despite solid Caixin PMI data overnight at 51.5) are limited at best.

In the commodity markets, oil is little changed on the day, remaining below the $70/bbl level but potentially seeing some support after a story surfaced that China would be reducing its purchases of Iranian oil in an effort to avoid US sanctions and tariffs under the Trump administration.  If Trump is successful in isolating Iran again, that could well support prices.  In the metals markets, this morning is seeing a little profit-taking in the precious space after last week’s late rally, but industrial metals are little changed.

Finally, the dollar is stronger again this morning, rallying against all of its counterparts in various degrees.  The euro (-0.5%) is lagging along with SEK (-0.65%) in the G10 space as concerns over slowing growth weigh on the single currency.  But the dollar is stronger across the board.  In the EMG bloc, BRL (-0.75% and back above 6.00) is leading the way lower but we have seen declines across the board with MXN (-0.4%), KRW (-0.7%), ZAR (-0.6%) and HUF (-1.1%) just some of the examples.  Despite that hotter than expected PCE data last Wednesday, the market is still pricing a nearly 62% probability of a cut by the Fed later this month.

On the data front, there is much to learn this week, culminating in NFP data on Friday.

TodayISM Manufacturing47.5
 ISM Prices Paid55.2
TuesdayJOLTS Job Openings7.48M
WednesdayADP Employment150K
 ISM Services55.6
 Factory Orders0.3%
 Fed’s Beige Book 
ThursdayInitial Claims215K
 Continuing Claims1905K
 Trade Balance-$75.1B
FridayNonfarm Payrolls195K
 Private Payrolls200K
 Manufacturing Payrolls15K
 Unemployment Rate4.2%
 Average Hourly Earnings0.3% (3.9% Y/Y)
 Average Weekly Hours34.3
 Participation Rate62.6%
 Michigan Sentiment73.3

Source: tradingeconomics.com

In addition to all the data, we hear from 10 different Fed speakers, most notably Chairman Powell on Wednesday afternoon.  Given that the recent data does not seem to be going according to their plans, at least not the inflation data, it will be very interesting to hear what Powell has to say about things.

As the end of the year approaches with many changes certain to come alongside the Trump inauguration, I will once again express my view that hedging is crucial for risk managers here.  While I see the dollar benefitting in the near term, as discussed above, the longer-term situation is far less certain.

Good luck

Adf

Think More Than Twice

Posted on by

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

 

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

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

Source: tradingeconomics.com

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

Source: tradingeconomics.com

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

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

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

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

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

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

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

Source: tradingeconomics.com

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

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

Good luck

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Kind of a Ruse

Posted on by

The central bank mantra worldwide
Is ‘flation is set to subside
So, rate cuts remain
The path they’ll maintain
With alternate views all denied
 
But weirdly, despite these strong views
The data just seems to refuse
To show ‘flation slowing
In fact, it keeps showing
Their comments were kind of a ruse

 

Ask any central banker around the world their view on the path of inflation and I assure you they will claim it is slowing and will return to their 2% goal over time.  They will point to obscure signals some months, and headline inflation prints other months, but nothing will dissuade them from this view.  

Now, I am just an FX guy and so clearly don’t have the same expertise in econometric modeling that all those PhD’s in all those central banks have but…it does sort of seem like all their models simply have 2% as one side of the equation and they use goal-seek in Excel to create their outcomes. And anyway, how did 2% become the “natural” rate of inflation?  After all, that inflation rate was literally pulled out of thin air by RBNZ Governor Donald Brash back in 1990 and has been copied by virtually every other central bank around the world since.  

But, whatever the history, that is the goal and recent data from countries throughout the G10 show that prices are not really converging to this rate.  The UK is the latest to release data with the Headline CPI rising 2.3%, a tick more than expected and Core rose 3.3%, 2 ticks more than expected.  It seems that the same problems the Fed is having with services ex-shelter are being felt in many places around the world.  This is the portion of the CPI basket that is most directly impacted by wages and wages continue to rise (which is a good thing for most people), just not necessarily quickly enough to keep up with inflation.  For example, Eurozone Negotiated Wage Growth rose 5.42% in Q3, its fastest rise since the Eurozone was formally created as per the chart below.  It strikes me that the ECB is going to find it very difficult to push prices lower absent causing a deep enough recession where layoffs are widespread, and wages fall.  And my guess is that is not one of their goals.

Source: tradingeconomics.com

Of course, we all know the situation here in the States, where the CPI data has formed a base above 3% and seems far more likely to rise than fall, also absent a major recession. 

Ultimately, it begs the question why we care about this data (other than the obvious reason we all have to live with rising prices) from a market perspective.  To the extent that monetary policy is a key driver of markets around the world, and relative monetary policy is an important input into the value of different currencies, the relative inflation rates are a critical piece of the puzzle to try to figure out what is happening and how one can hedge their exposures.  So, if inflation rates everywhere are slow to return to that sacred 2% level, then different central banks are going to behave differently in order to achieve their goals.

For instance, earlier this week we saw the Minutes of the RBA’s meeting where they were distinctly hawkish regarding the fact that inflation does not seem to be falling the way they hoped prayed for expected based on their models.  As such, markets adjusted their pricing for interest rates to remain higher for longer and that helped support the AUD on a relative basis.  This morning, amidst a broad-based dollar rally, the pound (-0.25%) is the second-best performer in the G10, after the dollar, as the higher than forecast CPI data has traders expecting the BOE to slow the pace of rate cuts to address the issue.  And this is why we care.

Remember, too, while there is currently an extraordinary amount of digital ink being spilled as pundits around the world try to anticipate what President-elect Trump is going to do regarding fiscal policy and tariffs and how that is going to impact relative trade flows as well as monetary policy responses to these actions, my take is that is an enormous waste of time.  The first thing we know is that nobody, not even Trump himself, really knows how this is going to play out as there are so many potential paths down which he can tread.  And second, the situation seems akin to Keynes’ famous analogy to a beauty contest where you need to select the person who the crowd thinks is the most beautiful, not the one you may think fits that description.  In other words, trying to predict the outcome implies understanding what everyone else is expecting, and right now, expectations are widely disparate. 

It is for this reason that hedging is so critical, and having a consistent hedging plan is key.  None of us has a crystal ball, and managing risk is far more about mitigating big drawdowns than capturing big gains.

Ok, a little long-winded this morning so let’s zip through the overnight market activities.  Mixed is the best description for yesterday’s US session, with the DJIA sliding while the other two major indices rallied a touch. It also describes the Asian session overnight as the Nikkei (-0.2%) slipped along with Australia (-0.6%) while China and Hong Kong both managed modest 0.2% gains.  The PBOC left Loan Rates unchanged last night, as widely forecast and I expect they will not do anything until Trump is in office and has his team in place.  As to European bourses, they are all in the green this morning, but just barely so, with gains between 0.1% and 0.3%, hardly exciting.  As to US futures, they are edging higher this morning by 0.1% or so as the most important news in the world, Nvidia earnings, are due to be released after the close today.

In the bond market, yesterday’s yield declines are being almost perfectly reversed this morning with Treasury yields higher by 3bps and European sovereign yields rising between 4bps and 6bps.  Certainly, the higher inflation print in the UK has not helped sentiment and I suppose there is some reaction to some of Trump’s recently announced Cabinet picks, notably the Commerce Secretary choice, Howard Lutnick, who is by all accounts a major proponent of tariffs.

In the commodity markets, oil (+0.5%) is holding its recent gains although WTI remains below $70/bbl.  My take is that a Trump presidency is going to be quite negative for the price of oil as reduced regulations on drilling along with access to more sites will see production increase.  As to the metals markets, gold (-0.2%) has slowed its recent rebound, as has silver (-1.2%) although copper (+0.6%) is holding its own this morning.  The last week has seen the metals markets recoup a substantial portion of the recent drawdown although all of them remain lower than levels seen a month ago.

Finally, the dollar is back in fine form this morning, rising against all its counterpart currencies.  The laggards in the G10 are NOK (-0.8%) and SEK (-0.8%) although the euro (-0.5%) is under severe pressure again as it continues to probe toward the key 1.0500 technical level.  In the EMG bloc, HUF (-1.0%) is the laggard although most of the bloc is softer by between -0.3% and -0.5%.  We continue to see CNY (-0.25%) slide as the dollar pushes back above 7.25 this morning.  That is the level that has held things in check for the past 5 years, and many believe that when Trump takes office, we could see the renminbi weaken much further once tariffs are imposed.  Of course, one of the things the PBOC has been fighting for a long time is a chaotic slide in the renminbi as that does not suit President Xi’s goals of stability to encourage more use by other parties.

The only US data today is the EIA oil inventories with a modest build expected after last week’s large draws.  Yesterday’s housing data was a touch weaker than expected and we have heard very little from Fed speakers since Powell explained he was sauntering toward the next rate cut rather than hurrying there.  As of this morning, the market probability of that cut happening in December sits at 57%, which is the lowest it has been since the previous meeting.

There are many cross currents in the market narrative at this time with nothing remotely clear.  The one thing we know about Donald Trump is he has the capacity to surprise absolutely everyone with his actions, regardless of his words.  Again, this is what informs us that a consistent hedging program is the only way to mitigate against major surprises.

Good luck

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Whining and Bleating

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In Rio, the G20’s meeting
With typical whining and bleating
No progress was made
On tariffs or trade
And Trump, though not there, took a beating
 
Seems leaders in most of these nations
Are fearful of future relations
With Trump and the States
Which just demonstrates
How low are their own expectations

 

I guess the idea of these broad talking shops is rooted in a desire to keep open lines of communication between parties with different views on the way things should be in the world.  But, boy, the G20 has really deteriorated over time.  Probably, this is merely a symptom of the underlying changes in international relations.  Remember, the G20 is an outgrowth of the Group of 7 nations (US, Germany, UK, Japan, France, Canada and Italy) and only began in 1999.  The idea was to help develop the globalization initiative by creating an organization that included both developed and developing nations.  It was this group that led to China joining the WTO in 2001 and, ironically, which laid the groundwork for its own slow disintegration.

This is not to say that these leaders are going to stop meeting each year, just that the opportunity for substantive policy proposals has likely passed us by.  And understand, this has been the case for a while now as the Chinese mercantilist policy has seemingly reached the end of its global acceptance.  While President-elect Trump tends to get the most bashing for this, one need look no further than Europe to see tariff and non-tariff barriers rising quickly.  Below, I will allow Bloomberg’s reporters to summarize some of the key issues highlighting the lack of agreement on anything.

  • Germany’s Olaf Scholz and France’s Emmanuel Macron are pushing for tougher language in the summit communique against Hamas and Russia on the wars. Brazil doesn’t want to reopen the text, fearing that it will reignite battles over other issues too. 
  • UK Prime Minister Keir Starmer irritated Chinese officials by raising human rights and the issue of Taiwan with President Xi Jinping at their first bilateral meeting.
  • The potential impact of Donald Trump’s impending return to the White House on trade and diplomatic relations hung over many of the day’s bilaterals. 
  • The rivalry between host Brazil’s Luiz Inacio Lula da Silva and Argentina’s Javier Milei was on full display on everything from the role of the state in fighting poverty to climate change, with the latter leader maintaining his contrarian stance to some of the key points in the summit’s statement.
  • There was even drama around the traditional family photo, which US President Joe Biden, Canada’s Justin Trudeau and Italian Prime Minister Giorgia Meloni somehow missed.

As I said, I expect that these meetings will continue but their usefulness is very likely to continue to deteriorate.  One way you know that this process has reached the end of the road is that no financial markets have reacted to any commentary from anyone at the meeting.  In the past, the G20 statement or comments from leaders on the sidelines would move markets as they implied policy shifts.  No longer.  Remember, too, that at least four of these leaders are lame ducks (Biden, Macron, Scholz and Trudeau) and will be out of office within a year.

Away from the photos and sun
Investors see fear and not fun
Ukraine’s getting hotter
Midst greater manslaughter
While pundits, new stories, have spun

However, if we step away from the glitz (?) of the G20 meeting, markets are demonstrating a fearful tone this morning.  Yesterday saw US equities with a mixed session as investors continue to try to determine the impacts of President Trump’s return.  Will there be tariffs?  If so, how big and on what products?  And which companies will benefit or be hurt by the process.  Generally speaking, the thought has been small-cap companies would be the big beneficiaries while both Big Pharma and Big Food would feel pressure from this new administration.  But how has that impacted other nations and other markets?

In truth, I have a feeling one of the key issues this morning is that President Biden’s change in policy to allow Ukraine to fire long-range missiles into Russia is now a growing concern.  Russia has altered their nuclear response policy, essentially threatening that if this keeps up, they will both blame the US and NATO and respond with nuclear weapons if they determine that is appropriate.  Funnily enough, investors, especially those in Europe, have determined that may not be a positive outcome for European companies.  Hence, bourses across the continent are all lower this morning with declines greater than -1.1% everywhere with Poland (-2.1%) the laggard.  As to Asian markets overnight, they were broadly firmer as the potential escalation in Europe is likely to have a smaller impact there.  But US futures are under pressure this morning, -0.4% across the board at this hour (6:30).

That risk off feeling is being felt in bond markets as well, with yields falling everywhere as investors switch from stocks to bonds.  Treasury yields have fallen -6bps and we are seeing similar declines, between -4bps and -6bps, across the continent as well.  Fear is palpable this morning here.

This fear is clear in the commodity markets as well where oil (-1.0% after a 3.3% rally yesterday) is softer along with copper (-0.7%) but precious metals (Au +0.8%, Ag +0.5%) are both in demand.  The one other noteworthy move this morning is NatGas (+0.6%), bucking the oil trend as despite the oft-feared global boiling (to use UN Secretary General Antonio Guterres term), Europe is feeling an unseasonable cold spell with rain and temperatures just 40° Fahrenheit, some 15° below normal.

Finally, the dollar is back on top this morning as fear has driven investors and savers to holding the greenback despite all its problems.  Using the Dollar Index (DXY) as our proxy, you can see from the below chart that despite all the huffing and puffing that the post-election climb of the dollar had ended last Thursday, in fact, we have only seen a very modest correction of the sharp election move and my take is we have higher to go from here.

Source: tradingeconomics.com

Adding to the risk-off thesis is the fact the JPY (+0.4%) is firmer and CHF (0.0%) has not declined with both of those traditional havens holding up well.  One other note is AUD (-0.2%) is one of the better performers after the RBA Minutes last night indicated that the central bank Down Under is also in no hurry to cut rates with fears of inflation still percolating there.  A quick look across the EMG bloc shows us that virtually all these currencies are softer with PLN (-0.8%) and ZAR (-0.65%) the laggards.  I guess given the concerns over Poland and a potential escalation of the war in Ukraine, it is no surprise the zloty is under pressure.

On the data front, this morning brings Housing Starts (exp 1.33M) and Building Permits (1.43M) as well as Canadian inflation (1.9% headline, 2.4% Median).  There are no Fed speakers scheduled today and quite frankly; it doesn’t strike me that Housing data is critical to decision making right now.  Fear is in the air and that is likely to continue to drive markets.  With that in mind, a deeper equity correction along with continued USD strength seem like the best bets for the day.

Good luck

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A Policy Tweak

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Some mornings there’s nothing of note
Upon which this poet can dote
The news cycle’s turned
To what folks have learned
While still up in arms o’er the vote
 
So, data last night and this week
Is not very likely to wreak
Much havoc on prices
Unless there’s a crisis
That starts from a policy tweak

 

On the macroeconomic front, there has been very little new news to discuss since I last wrote.  Friday’s Retail Sales data was a bit stronger at the headline level, and there was also a revision higher to the previous month, although the ex-autos number was soft.  Perhaps more impressive though, was the Empire State Manufacturing Index which jumped from -11.90 to +31.20, the highest reading since December 2021 and the biggest one-month jump on record.  It appears there is some excitement about the election results.  But all that was Friday, and markets have priced it in.  Since then, crickets.

Which takes us to the story that seems to be getting more press than anything else, although it seems only tangentially related to how markets may behave, at least so far.  This is the news that President Biden has given permission for Ukraine to use long-range missiles supplied by the US and Europe to attack Russia directly.  Now, I am not a geopolitical analyst, but this seems unusual on two counts.  First, given President Biden is the dictionary definition of a lame duck, it is hard to understand the perceived benefit of this move, especially given that President-elect Trump has been quite clear in his goal to end the war, or at the very least the US activities there. And second, what possible good can come from raising the specter of increased hostilities with a nuclear power?  

Beyond the very obvious reasons that we all should care about this as nobody wants a nuclear conflagration, it has been interesting to observe the market response to this news.  We ought not be surprised that safe havens have rallied which helps explain the rebound in gold (+1.1%) and silver (+1.6%) this morning.  As well, oil (+0.5%) and NatGas (+1.8%) seem to be benefitting as a serious increase in fighting there could well have a negative impact on production.  While many had been focused on the Middle East being the likely hot spot for an oil production halt, perhaps this will surprise folks.

Perhaps it is also no surprise that the dollar is holding its own this morning, slightly higher vs. most G10 currencies with the yen (-0.5%) the laggard.  In one way, that is unusual as the yen is typically seen as a haven in its own right, but last night, BOJ Governor Ueda spoke and said the following, “The actual timing of the adjustments [rate hikes] will continue to depend on developments in economic activity and prices as well as financial conditions going forward.  Gradually adjusting the degree of accommodation in line with improvement in economic activity and prices will support long-term economic growth and contribute to achieving the price stability target in a sustainable and stable manner.”  In other words, while rate hikes may be necessary, it is still too soon to determine if that is the appropriate policy going forward and what the timing may be.  Meanwhile, in the EMG bloc, only ZAR (+0.5%) is bucking the trend of dollar strength and that seems to be based on the rebound in precious metals prices.

Finishing up with other markets, bond yields are climbing higher across the board, with Treasury yields higher by 3bps and European sovereign yields rising between 4bps and 7bps as concerns grow that central bank policy is out of step with the potential inflation outcomes.  Consider that, other than the BOJ, the rest of the G10 are cutting interest rates and inflation’s decline appears to be abating everywhere.  In that situation, it should be no surprise that investors are demanding higher yields to own sovereign debt.  But honestly, it is very hard to link today’s price action here to the change in Ukraine policy.

Finally, equity markets are confused mixed.  Friday’s US selloff was followed in Japan (-1.1%) despite the yen’s weakness which generally helps equities there.  Hong Kong (+0.75%) managed a gain although mainland shares (-0.5%) continue to leak oil.  There is a story that the government in China will allow some regions to bring forward that debt swap to get things started sooner, but the more widely read story is that the Chinese population is set to shrink by >50 million by the end of the decade, an unenviable situation in which President Xi finds himself.  After all, inward migration to China is non-existent.  European bourses are mostly softer, but only modestly so (DAC -0.2%, CAC -0.2%, IBEX -0.1%) as investors await the ongoing news from the US and the presidential transition.  ECB speakers have begun to harp on the issue of primary budget deficits across the Eurozone and how that will impair growth opportunities going forward, although will not dampen inflation.  As to US futures, at this hour (7:30) they are basically unchanged.

The fact there was limited data overnight was a harbinger of the upcoming week, where there is also limited data.

TuesdayHousing Starts1.34M
 Building Permits1.43M
ThursdayInitial Claims223K
 Continuing Claims1875K
 Philly Fed8.0
 Existing Home Sales3.93M
FridayFlash Manufacturing PMI48.8
 Flash Services PMI55.3
 Michigan Sentiment73.5

Source: tradingeconomics.com

Interestingly, it appears that the Fed has started their Thanksgiving break early as there are only three speeches slated, and Chicago Fed president Austan Goolsbee is making two of them.  However, Powell’s comments on Thursday about no hurry remain the market’s guiding light for the time being.  Futures markets are continuing to price about a 62% probability of a cut next month and are only pricing a total of 75bps of cuts by the end of 2025.  Once again, if you want to understand the dollar’s resilience, look no further than this situation.

For now, I expect that every announcement by Trump regarding cabinet positions, especially the Treasury role, is going to be of far more significance than any of the economic data set to be released.  Perhaps the only other noteworthy thing this week is Nvidia is due to report earnings Wednesday after the close, and of course, that will get pulses quickening.

Nothing has changed my long-term view that the dollar remains best placed to perform well.  Here’s hoping that there is no nuclear war!

Good luck

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