Tag Archives: #trump

Open and Shut

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Kashakari, on Friday, explained
For US growth to be sustained
The case for a cut
Was open and shut
Since then, talk of fifty has gained

As the new week begins, last week’s late trends remain in place, i.e. limited equity market movement as uncertainty over the outcome of the Trump-Xi meeting continues, continued demand for yield as investors’ collective belief grows that more monetary ease is on the way around the world, and a softening dollar vs. other currencies and commodities, as the prevailing assumption is that the US has far more room to ease policy than any other central bank. Certainly, the last statement is true as US rates remain the highest in the developed world, so simply cutting them back to the zero bound will add much more than the stray 20bps that the ECB, which is already mired in negative territory, can possibly add.

It is this concept which has adjusted my shorter-term view on the dollar, along with the view of most dollar bulls. However, as I have discussed repeatedly, at some point, the dollar will have adjusted, especially since the rest of the world will need to get increasingly aggressive if the dollar starts to really decline. As RBA Governor Lowe mentioned in a speech, one of the key methods of policy ease transmission by any country is by having the local currency decline relative to its peers, but if everyone is easing simultaneously, then that transmission channel is not likely to be as effective. In other words, this is yet another central bank head calling for fiscal policy stimulus as he admits the limits that exist in monetary policy at this time. Alas, the herd mentality is strong in the central bank community, and so I anticipate that all of them will continue down the same path with a minimal ultimate impact.

What we do know as of last week is there are at least two FOMC members who believe rates should be lower now, Bullard and Kashkari, and I suspect that there are a number more who don’t have to be pushed that hard to go along, notably Chairman Powell himself. Remember, if markets start to decline sharply, he will want to avoid as much of the blame as possible, so if the Fed is cutting rates, he covers himself. And quite frankly, I expect that almost regardless of how the data prints in the near-term, we are going to see policy ease across the board. Every central bank is too committed at this point to stop.

The upshot of all this is that this week is likely to play out almost exactly like Friday. This means a choppy equity market with no trend, a slowly softening dollar and rising bond markets, as all eyes turn toward Osaka, Japan, where the G20 is to meet on Friday and Saturday. Much to their chagrin, it is not the G20 statement of leaders that is of concern, rather it is the outcome of the Trump-Xi meeting that matters. In fact, that is pretty much the only thing that investors are watching this week, especially since the data releases are so uninteresting.

At this point, we can only speculate on how things will play out, but what is interesting is that we have continued to hear a hard line from the Chinese press. Declaring that they will fight “to the end” regarding the trade situation, as well as warning the US on doing anything regarding the ongoing protests in Hong Kong. Look for more bombast before the two leaders meet, but I think the odds favor a more benign resolution, at least at this point.

Turning to the data situation, the only notable data overnight was German Ifo, which fell to 97.4, its lowest level since November 2014, and continuing the ongoing trend of weak Eurozone data. However, the euro continues to rally on the overwhelming belief that the US is set to ease policy further, and this morning is higher by 0.25%, and back to its highest point in 3 months. As to the rest of the week, here’s what to look forward to:

Tuesday Case-Hiller Home Prices 2.6%
  Consumer Confidence 131.2
  New Home Sales 680K
Wednesday Durable Goods -0.1%
  -ex transport 0.1%
Thursday Initial Claims 220K
  Q1GDP 3.2%
Friday Personal Income 0.3%
  Personal Spending 0.4%
  Core PCE 0.2% (1.6% Y/Y)
  Chicago PMI 53.1
  Michigan Sentiment 98.0

Arguably, the most important point is the PCE data on Friday, but of more importance is the fact that we are going to hear from four more Fed speakers early this week, notably Chairman Powell on Tuesday afternoon. And while the Fed sounded dovish last week, with the subsequent news that Kashkari was aggressively so, all eyes will be looking to see if he is persuading others. We will need to see remarkably strong data to change this narrative going forward. And that just seems so unlikely right now.

In the end, as I said at the beginning, this week is likely to shape up like Friday, with limited movement, and anxiety building as we all await the Trump-Xi meeting. And that means the dollar is likely to continue to slide all week.

Good luck
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Markets Are Waiting

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For right now most markets are waiting
To see if key risks are abating
Next week it’s the Fed
Then looking ahead
The G20 is captivating

The question is what we will learn
When Powell and friends next adjourn
The bond market’s sure
A cut has allure
To help them avoid a downturn

Markets this morning are pretty uninteresting as trader and investor focus turns to the two key upcoming events, next week’s FOMC meeting and the G20 meeting at the end of the month. At this point, it is fair to say that the market is pricing in renewed monetary ease throughout most of the world. While the Fed is in their quiet period, the last comments we heard were that they would act appropriately in the event economic growth weakened. Futures markets are pricing in a 50% chance of a cut next week, and a virtually 100% chance of a cut in July, with two more after that before the end of the year. While that seems aggressive to many economists, who don’t believe that the US economy is in danger of slowing too rapidly, the futures market’s track record is pretty good, and thus cannot be ignored.

But it’s not just the US where markets are pushing toward further rate cuts, we are seeing the same elsewhere. For example, last week Signor Draghi indicated that the ECB is ready to act if necessary, and if you recall, extended their rate guidance further into the future, assuring no rate changes until the middle of next year. Eurozone futures markets are pricing in a 10bp rate cut, to -0.50%, for next June. This morning we also heard from Banque de France President, and ECB Council member, Francois Villeroy that they have plenty of tools available to address slowing growth if necessary. A key pressure point in Europe is the 5year/5year inflation contract which is now pricing inflation at 1.18%, a record low, and far below the target of, “close to, but below, 2.0%”. In other words, inflation expectations seem to be declining in the Eurozone, something which has the ECB quite nervous.

Of course, adding to the picture was the news Monday night that the PBOC is loosening credit conditions further, targeting infrastructure spending. We also heard last week from PBOC Governor Yi Gang that the PBOC has plenty of tools available to fight slowing economic output. In fact, traveling around the world, it is easy to highlight dovishness at many central banks; Australia, Canada, Chile, India, Indonesia, New Zealand and Switzerland quickly come to mind as countries that have recently cut rates or discussed the possibility of doing so.

Once again, this plays to my constant discussion of the relative nature of the FX market. If every country is dovish, it becomes harder to discern which is the most hawkish dove. In the end, it generally winds up being a case of which nation has the highest interest rates, even if they are falling. As of now, the US continues to hold that position, and thus the dollar is likely to continue to be supported.

While the Fed meeting is obvious as to its importance, the G20 has now become the focal point of the ongoing trade situation with optimists looking for a meeting between Presidents Trump and Xi to help cool off the recent inflammation, but thus far, no word that Xi is ready to meet. There are many domestic political calculations that are part of this process and I have read arguments as to why Xi either will or won’t meet. Quite frankly, it is outside the scope of this note to make that call. However, what I can highlight is that news that a meeting is scheduled will be seen as a significant positive step by markets with an ensuing risk-on reaction, meaning stronger equities and a sell-off in the bond market, the dollar and the yen. Equally, any indication that no meeting will take place is likely to see a strong risk-off reaction with the opposite impacts.

Looking at the overnight data, there have been few releases with the most notable, arguably, Chinese in nature. Vehicle Sales in China fell 16.4%, their 11th consecutive monthly decline, which when combined with slowing monthly loan growth paints a picture of an economy that is clearly feeling some pain. The only other data point was Spanish Inflation, which printed at 0.8%, clearly demonstrating the lack of inflationary impulse in the Eurozone, even in one of the economies that is growing fastest. Neither of these data points indicates a change in the easing bias of central banks.

In the US this morning we see CPI data which is expected to print at 1.9% with the ex food& energy print at 2.1%. Yesterday’s PPI data was on the soft side, so there is some concern that we might see a lower print, especially given how rapidly oil prices have fallen of late. In the end, it is shaping up as another quiet day. Equity markets around the world have been slightly softer, but that is following a weeklong run of gains, and US futures are pointing to 0.3% declines at this point. Treasury yields are off their lowest point but still just 2.12% and well below overnight rates. And the dollar is modestly higher this morning, although I don’t see a currency that has moved more than 0.2%, indicating just how quiet things have been. Look for more of the same until at least next Wednesday’s FOMC announcement.

Good luck
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Oy Vey!

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The jobs report was quite the dud
And traders began smelling blood
If Powell and friends
Would not make amends
Then stocks would be dragged through the mud

Then later, down Mexico’s way
The tariff dispute went away
At least for the moment
Though Trump could still foment
More problems by tweeting, oy vey!

This morning, despite the confusion
The outcome’s a foregone conclusion
Stock markets will rise
While bonds scrutinize
The data, and fight the illusion

I’m not even sure where to start this morning. Friday’s market activity was largely as I had forecast given the weak payrolls report, just a 75K rise in NFP along with weaker earnings numbers, leading to a massive increase in speculation that the Fed is going to cut, and cut soon. In fact, the probability for a June cut of 25bps is now about 50/50, with a full cut priced in for the July meeting and a total of 70bps of cuts priced in for the rest of 2019. Equity markets worldwide have rallied on the weak data as a new narrative has developed as follows: weaker US growth will force the Fed to ease policy sooner than previously forecast and every other central bank will be forced to follow suit and ease policy as well. And since the reaction function for equity markets has nothing to do with economic activity, being entirely dependent on central bank largesse, it should be no surprise that stock markets are higher everywhere. Adding to the euphoria was the announcement by the Trump administration that those potential Mexican tariffs have been suspended indefinitely after progress was made with respect to the ongoing immigration issues at the US southern border.

This combination of news and data was all that was needed to reverse the Treasury market rally from earlier in the week, with 10-year yields higher by 5bps this morning, and the dollar, which had fallen broadly on Friday, down about 0.6% across the board after the payroll report, has rebounded against most of its counterpart currencies. The one outlier here is the Mexican peso, which after the tariff threat had fallen by nearly 3%, has rebounded and is 2.0% higher vs. the dollar this morning.

To say that we live in a looking glass world where up is down and down is up may not quite capture the extent of the overall market confusion. One thing is certain though, and that is we are likely to continue to see market volatility increase going forward.

Let’s unpack the Fed portion of the story, as I believe it will be most helpful in trying to anticipate how things will play out going forward. President Trump’s threats against Mexico really shook up the market but had an even bigger impact on the Fed. Consider, we have not heard the word ‘patient’ from a Fed speaker since Cleveland Fed President Loretta Mester used the word on May 3rd. When the FOMC minutes were released on May 22, the term was rampant, but the world had changed by then. In the interim, we had seen the US-China trade talks fall apart and an increase in tariffs by both sides, as well as threats of additional actions, notably the banning of Huawei products in the US and the restriction of rare earth metals sales by China. At this point, the trade situation is referred to as a war by both sides and most pundits. We have also seen weaker US economic activity, with Retail Sales and Housing data suffering, along with manufacturing and production. While no one is claiming we are in recession yet, the probabilities of one arriving are seen as much higher.

The result of all this weak data and trade angst was a pretty sharp sell-off in the equity markets, which as we all know, seems to be the only thing that causes the Fed to react. And it did so again, with the Fed speakers over the past two weeks highlighting the weakening data and lack of inflation and some even acknowledging that a rate cut would be appropriate (Bullard and Evans.) This drove full on speculation that the Fed was about to ease policy and futures markets have now gone all-in on the idea. It would actually be disconcerting if the Fed acted after a single poor data point, so June still seems only a remote possibility, but when they meet next week, look for a much more dovish statement and for Chairman Powell to be equally dovish in the press conference afterward.

And remember, if the Fed is turning the page on ‘normalization’ there is essentially no chance that any other major central bank will be able to normalize policy either. In fact, what we have heard from both the ECB’s Draghi and BOJ’s Kuroda-san lately are defenses of the many tools they still have left to utilize in their efforts to raise inflation and inflationary expectations. But really, all they have are the same tools they’ve used already. So, look for interest rates to fall further, even where they are already negative, as well as more targeted loans and more QE. And the new versions of QE will include purchases that go far beyond government bonds. We will see much more central bank buying of equities and corporate bonds, and probably mortgages and municipals before it is all over.

Ultimately, the world has become addicted to central bank policy largesse, and I fear the only way this cycle will be broken is by a crisis, where really big changes are made (think debt jubilee), as more of the same is not going to get the job done. And that will be an environment where havens will remain in demand, so dollars, yen, Treasuries and Bunds, and probably gold will all do quite well. Maybe not immediately, but that is where we are headed.

Enough doom and gloom. Let’s pivot to the data story this week, which is actually pretty important:

Today JOLTs Jobs Report 7.479M
Tuesday NFIB Small Biz 102.3
  PPI 0.1% (2.0% Y/Y)
  -ex food & energy 0.2% (2.3% Y/Y)
Wednesday CPI 0.1% (1.9% Y/Y)
  -ex food & energy 0.2% (2.1% Y/Y)
Thursday Initial Claims 216K
Friday Retail Sales 0.7%
  -ex autos 0.3%
  IP 0.1%
  Capacity Utilization 78.7%
  Michigan Sentiment 98.1

Clearly CPI will be closely watched, with any weakness just fanning the flames for rate cuts sooner. Also, after the weak NFP report Friday, I expect closer scrutiny for the Initial Claims data. This has been quite steady at low levels for some time, but many pundits will be watching for an uptick here as confirmation that the jobs market is starting to soften. Finally, Retail Sales will also be seen as important, especially given the poor outcome last month, which surprised one and all.

Mercifully, the Fed is in its quiet period ahead of their meeting next week, so we won’t be hearing from them. Right now, however, the momentum for a rate cut continues to build and stories in the media are more about potential weakness in the economy than in the strength that we had seen several months ago. If the focus remains on US economic activity softening, the dollar should come under pressure, but once we see that spread to other areas, notably the UK and Europe, where they had soft data this morning, I expect those pressures to equalize. For today, though, I feel like the dollar is still vulnerable.

Good luck
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Soon On the Way

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While Powell did not actually say
That rate cuts were soon on the way
He hinted as much
So traders did clutch
The idea and quickly made hay

If there was ever any doubt as to what is driving the equity markets, it was put to rest yesterday morning. Chairman Powell, during his discussion of the economy and any potential challenges said the following, “We are closely monitoring the implications of these developments for the U.S. economic outlook and, as always, we will act as appropriate to sustain the expansion.” Nowhere in that comment does he actually talk about cutting rates, but the market belief is that ‘appropriate action’ is just that. The result was a powerful equity market rally (DJIA and S&P +2.1%, NASDAQ +2.6%), a modest Treasury sell-off and further weakness in the dollar. At this point, Wall Street analysts are competing to define the terms of the Fed’s next easing cycle with most now looking for at least two rate cuts this year, but nobody expecting a move later this month. And don’t forget the futures market, where traders are pricing in 60bps of rate cuts before the end of the year, so two cuts and a 40% probability of a third.

All of this is ongoing in the face of continuing bombastic trade rhetoric by both the US and China, and with President Trump seemingly quite comfortable with the current situation. While it appears that he views these as negotiating tactics, it seems clear that the strategy is risky and could potentially spiral into a much more deeply entrenched trade war. However, with that in mind, the one thing we all should have learned in the past two plus years is that forecasting the actions of this President is a mug’s game.

Instead, let’s try to consider potential outcomes for various actions that might be taken.

Scenario 1: status quo, meaning tariffs remain in place but don’t grow on either side and trade talks don’t restart. If the current frosty relationship continues, then markets will become that much more reliant on Fed largesse in order to maintain YTD gains, let alone rally. Global growth is slowing, as is growth in trade (the IMF just reduced forecasts for 2019 again!), and earnings data is going to suffer. In this case, the market will be pining for ‘appropriate action’ and counting on the Fed to cut rates to support the economy. While rate cuts will initially support equities, there will need to be more concrete fiscal action to extend any gains. Treasuries are likely to continue to see yields grind lower with 2.00% for the 10-year quite viable, and the dollar is likely to continue to suffer in this context as expectations for US rate cuts will move ahead of those for the rest of the world. Certainly, a 2% decline in the dollar is viable to begin with. However, remember that if the economic situation in the US requires monetary ease, you can be sure that the same will be true elsewhere in the world, and when that starts to become the base case, the dollar should bottom.

Scenario 2: happy days, meaning both President’s Xi and Trump meet at the G20, agree that any deal is better than no deal and instruct their respective teams to get back to it. There will be fudging on both sides so neither loses face domestically, but the threat of an all-out trade war dissipates quickly. Markets respond enthusiastically as earnings estimates get raised, and while things won’t revert to the 2016 trade situation, tariffs will be removed, and optimism returns. In this case, without any ‘need’ for Fed rate cuts, the dollar will likely soar, as once again, the US economic situation will be seen as the most robust in the world, and any latent Fed dovishness is likely to be removed. Treasury prices are sure to fall as risk as quickly embraced and 2.50%-2.75% 10-year Treasuries seems reasonable. After all, the 10-year was at 2.50% just one month ago.

Scenario 3: apocalypse, the trade war escalates as both Presidents decide the domestic political benefits outweigh the potential economic costs and everything traded between the two nations is subject to significant tariffs. Earnings estimates throughout the world tumble, confidence ebbs quickly and equity markets globally suffer. While this will trigger another bout of central bank easing globally, the impact on equity markets will be delayed with fear running rampant and risk rejected. Treasury yields will fall sharply; 1.50% anyone? The dollar, however, will outperform along with the yen, as haven currencies will be aggressively sought.

Obviously, there are many subtle gradations of what can occur, but I feel like these three descriptions offer a good baseline from which to work. For now, the status quo is our best bet, with the chance of happy days coming soon pretty low, although apocalypse is even more remote. Just don’t rule it out.

As to the markets, the dollar has largely stabilized this morning after falling about 1% earlier in the week. Eurozone Services PMI data printed ever so slightly higher than expected but is still pointing to sluggish growth. The ECB is anticipated to announce the terms of the newest round of TLTRO’s tomorrow, with consensus moving toward low rates (-0.4% for banks to borrow) but terms of just two years rather than the previous package’s terms of four years. Given the complete lack of inflationary pulse in the Eurozone and the ongoing manufacturing malaise, it is still very hard for me to get excited about the euro rallying on its own.

This morning brings ADP Employment data (exp 185K) as well as ISM Non-Manufacturing (55.5) and then the Fed’s Beige Book is released at 2:00. We hear from three more Fed speakers, Clarida, Bostic and Bowman, so it will be interesting to see if there is more emphasis on the willingness to respond to weak markets activity. One thing to note, the word patience has not been uttered by a single Fed member in a number of days. Perhaps that is the telling signal that a rate cut is coming sooner than they previously thought.

Good luck
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Growing Concern

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The trade talks have taken a turn
Amidst markets growing concern
The story today
Is China won’t play
By rules which trade partners all yearn

The trade talks narrative is shifting, and markets are not taking kindly to the change. Prior assumptions had been that the talks were progressing well and that this week’s meetings in Washington were going to produce the final agreement. However, this morning the tone has changed dramatically. President Trump tweeted that the Chinese “broke the deal”, implying that items previously agreed by the two sides are no longer acceptable to China. To my reading, the key issue is the Chinese refusal to codify into law the changes being agreed regarding IP and forced technology transfer. It appears that the Chinese believe this too onerous and difficult to accomplish and instead will be giving guidance to local governments. (Perhaps somebody can explain to me how it is too onerous for a dictatorship to change its own laws.) Essentially, they want the US to trust that they will perform as expected. Simultaneously, it appears the Chinese have interpreted President Trump’s hectoring of the Fed to cut rates as an admission that the US economy is not strong, and that Trump needs to cut the deal. This has encouraged the Chinese to play hardball as they believe they have the upper hand now.

The upshot is that the odds of a successful conclusion of the talks have fallen sharply. At this point, my read is they are no more than 50:50, which is far lower than the virtual certainty the market had been pricing as recently as last Friday, and quite frankly far lower than the market is currently pricing. In fact, it is easy to make the case that at least half of the equity rebound since Christmas is due to the growing belief a trade deal would be agreed, so if that is no longer the case, a further repricing (read decline) is in the cards. As such, it should be no surprise that equities in Asia continue to retreat (Nikkei -0.95%, Shanghai -1.5%, Hang Seng 2.4%) and we are seeing weakness throughout Europe as well (DAX -0.9%, CAC -1.3%, FTSE -0.4%) given concerns that a failure in these talks will have a much wider impact spread across the investment community. Not surprisingly, US futures are pointing lower with both Dow and S&P futures -0.75% as I type.

Continuing with the risk-off theme, Treasury yields continue to decline, falling two basis points even after a very weak 10-year auction yesterday, while German bund yields have fallen another bp to -0.06%, their lowest level in two months. The flight to safety is beginning to gain some momentum here.

Finally, looking at the dollar, it should be no surprise it is having another good day. While it is little changed vs. the euro, it continues to trade near the lower end of its recent trading range. However, the pound has fallen a further 0.2% hindered not only by the modest dollar strength but by the realization that there will be no grand deal between the Tories and Labour regarding Brexit. Adding to the risk-off mood is the yen’s further appreciation, another 0.2%, taking it below 110 for the first time in three months.

In the EMG bloc, one cannot be surprised that CNY is weaker, pushing back toward 6.85 and touching its weakest level since January. On top of that, the offshore CNH is even weaker as speculation grows that a collapse in the trade talks will result in the Chinese allowing the renminbi to fall much more sharply. But it’s not just China under pressure here; we are seeing weakness in every area. For example, the Mexican peso has fallen 0.5%, Indian Rupee 0.3% and Korean won 0.85%. In other words, the carry trade is under pressure as the first investors search for a safe place to hide. Unless the talks get back on track, I expect that we will see further weakness in the EMG bloc especially.

On the data front, overnight we saw Chinese financing data which demonstrated that despite the PBOC’s efforts to add liquidity to the market, financing is not growing as rapidly as they would like. For example, New Yuan Loans increased a much less than expected CNY 1trillion (exp CNY 1.2 trillion), while Outstanding Loan Growth ebbed as well. The point is that like every other central bank, the PBOC is finding that their ability to control the economy is slipping.

This morning brings Initial Claims (exp 220K) along with the Trade Balance (-$50.2B) and PPI (2.3%, core 2.5%) all at 8:30. Also at that time, we hear from Chairman Powell, followed by speeches from Atlanta’s Rafael Bostic and Chicago’s Charles Evans later in the day. The thing is, it beggars belief that any of them are going to change their tune regarding the Fed’s patience as they watch the economy develop. At this point, the key question is, if the trade talks completely fall apart and new tariffs are imposed by both sides leading to a severe decline in the equity market, will the Fed start to contemplate cutting rates? At this point I am sure they would vehemently deny that is their thought process. But if recent history is any guide, the financialization of the US economy has forced the Fed to respond to any significant movement in the S&P. So I would answer, yes they will! But that is a story for another day. Unless there is positive news from the trade front today, look for the overnight trends to continue; weaker equities, stronger Treasuries and a stronger dollar.

Good luck
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Twixt Trade Adversaries

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A fortnight from now we will know
How Brexit is going to go
Can Minister May
Still carry the day?
Or will the vote, chaos, bestow?

Meanwhile, this week, in Buenos Aires
A meeting twixt trade adversaries
Has hopes running high
We’ll soon wave goodbye
To tariffs and their corollaries

The first thing you notice this morning in the FX markets is that the pound is under more pressure. As I type, it is lower by 0.7% as the flow of news from London is that the Brexit deal is destined to fail in Parliament. Perhaps the most damning words were from the DUP (the small Northern Irish party helping support PM May’s government), which indicated that they would not support the deal as constructed under any circumstances. At the same time, numerous Tories have been saying the same thing, and the general feeling is that there is only a small chance that PM May will be able to prevail. We have discussed the market reaction in the event of no deal, and nothing has changed in my view. In other words, if the Brexit deal is defeated in parliament in two weeks’ time, look for the pound to fall much further. In fact, it is reasonable to consider a move toward 1.20 in the very short term. Between now and the vote, I expect that the pound will be subject to every headline which discusses the potential vote outcome, but unless some of those headlines start to point to a yes vote, the pound is going to remain under pressure consistently.

Beyond Brexit, there are two other things that have the markets’ collective attention, Fed Chairman Powell’s speech tomorrow, and the meeting between Presidents Trump and Xi on Friday in Buenos Aires at the G20 gathering.

As to the first, the market narrative has evolved to the point where expectations for the Fed to raise rates at their December meeting remain quite high, but there are now many questions about the 2019 rate path. If you recall, after the September FOMC meeting, the consensus was moving toward four rate hikes next year. However, since then, the data has been somewhat less robust, with both production and inflation numbers moderating. Notably, the housing market has been faltering despite the lowest unemployment rate in more than 40 years. Ignoring the President’s periodic complaints about the Fed raising rates, the data story has clearly started to plateau, at least, if not roll over, and the Fed is quite aware of this fact. (Anecdotally, the fact that GM is shuttering 5 plants and laying off 15,000 workers is also not going to help the Fed’s view on the economy.) This is why all eyes will be on Powell tomorrow, to see if he softens his stance on the Fed’s expectations. Already the futures market has priced out one full rate hike for next year, and given there is still more than two weeks before the Fed meets again, Powell’s comments tomorrow, along with vice chairman Clarida today and NY Fed President Williams on Friday are going to be seen as quite critical in gauging the current Fed outlook. Any more dovishness will almost certainly be followed by a weakening dollar and rising equity markets. But if the tone comes across as hawkish, look for the current broad trends of equity weakness and dollar strength to continue.

And finally, we must give a nod to the other elephant in the room, the meeting between President Trump and Chinese President Xi at this weekend’s G20 meeting. Hopes are running high that the two of them will be able to agree to enough common ground to allow more formal trade talks to move ahead while delaying any further tariff implementation. The problem is that the latest comments from Trump have indicated he is going to be raising the tariff rate to 25% come January, as well as seek to implement tariffs on the rest of Chinese imports to the US. It seems that the President believes the Chinese are feeling greater pressure as their economy continues to slow, and they will be forced to concede to US demands sooner rather than later. And there is no question the Chinese economy is slowing, but it is not clear to me that Xi will risk losing face in order to prevent any further economic disorder. I think it is extremely difficult to handicap this particular meeting and the potential outcomes given the personalities involved. However, I expect that sometime in the next year this trade dispute will be resolved, as Trump will want to show that his tactics resulted in a better deal for the US as part of his reelection campaign.

And those are the big stories today. There are two data points this morning, Case-Shiller House Prices (exp 5.3%) and Consumer Confidence (135.9), but neither seems likely to have an impact on the FX market. However, as mentioned above, Fed vice-chairman Richard Clarida speaks first thing this morning, and his tone will be watched carefully for clues about how the Fed will behave going forward. My take here is that we are likely to hear a much more moderate viewpoint from the Fed given the recent data flow, and that is likely to keep modest pressure on the dollar.

Good luck
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Little Fear

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Much to all Free Traders’ chagrin
More tariffs are set to begin
But markets appear
To have little fear
This madness will cause a tailspin

As NY walks in this morning, there has been very limited movement in the dollar overall. While yesterday saw a modicum of dollar weakness, at least against the G10 currencies, we remain range bound with no immediate prospects for a breakout. It does appear that US data is turning more mixed than clearly bullish, as evidenced by yesterday’s Empire Manufacturing Survey data, which printed at 19, still solid but down from last month’s reading of 25.6 as well as below expectations of 23.0. A quick look at the recent history of this indicator shows that it appears to be rolling over from its recent high levels, perhaps signaling that peak growth is behind us.

At this point, it is fair to question what is causing this change in tone. During the summer, US data was unambiguously strong, with most releases beating expectations, but lately that dynamic has changed. The most obvious catalyst is the ongoing trade situation, which if anything worsened yesterday when President Trump announced that the US would be imposing 10% tariffs on an additional $200 billion of Chinese imports. In addition, these are set to rise to 25% in January if there is no further progress in the trade negotiations. As well, Trump threatened to impose tariffs on an additional $267 billion of goods, meaning that everything imported from China would be impacted. As we have heard from several Fed speakers, this process has grown to be the largest source of uncertainty for the US economy, and by extension for financial markets.

Yet financial markets seem to be quite complacent with regard to the potential damage that the trade war can inflict on the economy and growth. As evidence I point to the modest declines in US equities yesterday, but more importantly, to the rally in Asian equities overnight. While it is fair to say that the impact of this tariff war will not be directly felt in earnings results for at least another quarter or two, it is still surprising that the market is not pricing the potential negative consequences more severely. This implies one of two things; either the market has already priced in this scenario and the risks are seen as minimal, or that the rise in passive investing, which has exploded to nearly 45% of equity market activity, has reduced the stock market’s historic role as a leading indicator of economic activity. If it is the former, my concern is that actual results will underperform current expectations and drive market declines later. However, I fear the latter situation is closer to the truth, which implies that one of the long-time functions of the equity market, anticipating and discounting future economic activity, is changing. The risk here is that policymakers will lose an important signal as to expectations, weakening their collective hands further. And let’s face it, they need all the help they can get!

Turning back to the dollar, not only has the G10 has been dull, but EMG currencies are generally benign as well. In fact, the only substantive movement has come from everybody’s favorite whipping boy, TRY. This morning it is back under pressure, down 1.3% and has now erased all the gains it made in the wake of last week’s surprising 625bp rate hike. But in truth, beyond that, I can’t find an important emerging market currency that has moved more than 20bps. There are two key central bank meetings this week, Brazil tomorrow and South Africa on Thursday. Right now, expectations are for both to stand pat, leaving interest rates in both nations at 6.50%. However, the whisper campaign is brewing that South Africa may raise rates, which has undoubtedly helped the rand over the past two weeks as it has rallied some 4.5% during that time. We will know more by Thursday.

This overall lack of activity implies that traders are waiting the next important catalyst for movement, which may well be next Wednesday’s FOMC meeting! That is a very long time in the market for treading water, however, given the US data the rest of this week is second tier, and the trade situation is widely understood at this time, it is a challenge to see what else will matter until we hear from the Fed. And remember, the market has already priced in a 100% probability that they will raise rates by 25bps, so this is really all about updated forecasts, the dot plot and the press conference. But until then, my sense is that we are in for a decided lack of movement in the FX world.

Good luck
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The Tempo of Growth

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The President keeps on complaining
That higher Fed rates are constraining
The tempo of growth
But Powell is loath
To change things til prices are waning

Over the weekend, the President registered his dismay over recent Fed policy moves, apparently calling out Chairman Powell for raising rates too swiftly. His complaints centered on the fact that the Fed’s gradual removal of policy accommodation is helping to support the dollar and has been responsible for its recent strength. Recall that since the middle of April the dollar had rallied more than 8% before its recent modest pullback. So even with a 2% decline in the past week, the dollar remains far stronger than earlier this year. And that is what has the President upset. He sees the dollar’s strength through the lens of his trade policy and it is effectively undermining the tariff process.

Now, this is not the first time that the President has complained about the strong dollar (that occurred shortly after his election in 2016), but for some reason, the market has become far more concerned this time that it may impact the Fed’s actions. Perhaps adding to that sentiment was a speech yesterday by Atlanta Fed President, Rafael Bostic, where he explicitly stated that he would not knowingly vote for rate hike that would invert the yield curve. He is now the fourth Fed President to discuss that issue, although he is the only member of that group with voting privileges this year. The point is that there has been an increase in the discussion of whether the Fed will continue on its current rate hiking path which still seems slated for a hike in both September and December of this year and three more next year. Interestingly, though the dollar responded to the discussion, Fed funds futures remain unmoved and are still pricing in the same probabilities as last week, 90% for September and 60% for December.

So the question has become, will Powell ignore the President and act as he sees fit, or will he bow to political pressure? My money, at this point, remains on Powell. There has been no indication, as yet, that the US economy is doing anything but expanding at a solid clip. And more importantly, when looking at the Fed’s dual mandate, the current issue is clearly on the stable prices side rather than the unemployment side. While the Fed has decreed PCE is the key policy data point, there can be no mistake that Powell, an experienced pragmatist, is abundantly aware that CPI is running at its hottest level in more than a decade. The point is that inflation pressures continue to build and the Fed is not likely to ignore that situation. In fact, that is why Powell’s speech on Friday in Jackson Hole is arguably the most important news for the week. Everyone is waiting to hear if he has changed his tone, let alone his tune, about the economy and the proper Fed policy going forward.

Until then, though we will have to make do with tomorrow’s FOMC Minutes, where analysts will be looking for how much the trade story impacted their deliberations, and housing data tomorrow and Thursday.

Turning to the overnight session, the dollar has continued yesterday’s weakness and is lower by a further 0.35% this morning. The movement has been fairly uniform through the G10, with all of those currencies rallying between 0.2%-0.5%. And this has been a dollar story as there has been virtually no data of note from any one of those nations. In truth, the only G10 news of any sort came from Australia, where the Minutes from the last RBA meeting highlighted that increasing trade tensions could have a negative impact on the economy and currency, and that interest rates Down Under were unlikely to move at all during the next year.

Turning to the EMG bloc, we also see generic dollar weakness with just a few outliers. The Turkish lira continues to suffer, falling just under 1% this morning despite the dollar’s overall weakness, and we saw the Korean won slide 0.5% as well. But the rule has been a softer dollar today.

Given there is no US data to be released this morning, and there are no scheduled Fed speakers, it seems that the day is likely to follow the overnight pattern of mild further dollar weakness. Of course, given the apparent catalyst for this move, and the President’s penchant for doubling down, it would not be surprising to hear more from him if he felt it could push the dollar lower. However, history has shown that political wishes are just that, and the market will respond to policy changes, not talk. So even though further commentary by President Trump could lead to modest extra dollar weakness, as long as Chairman Powell maintains his current stance, this dollar move should be faded. Hedgers, take advantage of the opportunity to add to hedges at current levels, as my sense is that nothing at the Mariner Eccles building has changed. Higher US rates are on the way.

Good luck
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No Tariffs For Now

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Herr Juncker and Trump had their meeting
And what they both claimed bears repeating
No tariffs for now
As both sides allow
The current regime with no cheating

Whew! That pretty much sums up the market reaction to yesterday afternoon’s hastily arranged press conference with President Trump and European Commission President Jean-Claude Juncker. Both were all smiles as they announced that there would be no tariffs imposed at this time while the US and EU begin more serious trade negotiations with an eye toward reducing trade friction in manufactured goods. In addition, Europe would be seeking to purchase more US soybeans and LNG in a good faith effort to reduce the current trade imbalance. And finally, they would be addressing the current US tariffs on steel and aluminum imports from Europe. It can be no surprise that the market reacted quite positively to this news, with equities in the US finishing higher and European markets all performing well this morning. It should also not be that surprising that the euro jumped immediately upon the news, rising 0.25%, although this morning it has given back those gains after both French and German Consumer Confidence data extended their trend declines amid disappointing outcomes.

While it is still anybody’s guess how this will ultimately play out, the news is certainly an encouraging sign that there can be movement in a positive direction on the trade front. The same appears to be true regarding NAFTA negotiations with both Canada and Mexico reconfirming that a trilateral deal is the goal, and apparently making headway toward achieving those aims.

However, the same optimism is nowhere to be found regarding trade relations between China and the US, with no indication that the situation has shown any positive movement. In the meantime, China continues to respond to signs of weakening growth on the mainland, this time by further reducing capital requirements for banks’ lending to SME’s. While the PBOC has not specifically cut rates, generally seen as a broad monetary policy step, these targeted capital requirement and reserve ratio cuts can be very powerful tools for the targeted recipients, allowing them to expand their loan books and driving profits in the banking sector. But no matter how the easing of monetary policy is implemented, it is still easing of monetary policy and will have an impact on both Chinese equity markets and the renminbi’s exchange rate. While the currency weakened, as would be expected, falling 0.5% overnight, the Shanghai composite fell as well, which is somewhat surprising. Although, in fairness, the Shanghai exchange has rallied nearly 8% over the past two weeks, so this could simply be a case of “selling the news.” In the end, especially if the trade situation between the US and China remains fraught, I expect that USDCNY has further to run, and 7.00 remains on the radar.

The other big story this morning is the anticipation of the ECB meeting results, not so much in terms of policy changes, as none are expected, but in terms of the follow-on press conference where Signor Draghi will be asked about the timing of interest rate increases and the meaning of the term “through the summer” which was inserted into the last statement. Analysts have been debating if that means rates could be raised in August or September of next year, or if it implies a longer wait before a rate move. The futures market doesn’t have a full 10bp rate hike priced in until January 2020, significantly past the summer. The other question of note is how the ECB will handle reinvestment of their current portfolio, and whether they will seek to smooth the reinvestment program or simply wait until debt matures before purchasing more. The reason this matters is that their portfolio has a very uneven distribution of maturities, which could lead to more volatility in European Government bond markets if they choose the latter path.

In the end, given that Eurozone data continues to disappoint on a regular basis, it seems that whatever path they choose for rate hikes and reinvestment, it will seek to maintain as much support as possible for now. Other than the Germans, there does not appear to be a strong constituency to aggressively tighten monetary policy, and there are nations, like Italy and Greece, which would much prefer to see policy remain ultra accommodative for the foreseeable future. While the euro has been range trading for the past two months between 1.15 and 1.18, I continue to look for a break lower eventually.

Away from those stories, things have been less interesting. Most of the G10 is trading in a fairly narrow range, with Aussie the laggard, -0.4%, on the back of weaker metals prices. EMG currencies have similarly been fairly quiet with limited movement overall.

Yesterday’s US data showed that the housing market is starting to suffer a bit more consistently as New Home Sales fell to 631K, well below expectations and the lowest level since last October. Adding this to the miss in Existing Home Sales on Monday shows that the combination of still rising house prices and rising mortgage rates is starting to have a more substantial impact on the sector. This morning we see Durable Goods data (exp 3.0%, 0.5% -ex Transport) and the weekly Initial Claims data (215K), which continues to show the strength of the job market. However, regarding US data, all eyes remain on tomorrow’s first look at Q2 GDP, where the range of expectations is broad, from 3.8% to 5.2%, and traders will be trying to parse how the data will impact the Fed’s activities.

In the meantime, US equity futures are mixed this morning with the NASDAQ pointing lower after some weaker than expected earnings guidance from a FANG member, while Dow futures are pointing higher on the back of relief over the trade situation. As to the dollar, I expect that it will see modest weakness overall as positions continue to be adjusted ahead of tomorrow’s key GDP release.

Good luck
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Tired

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Speculation’s rife
Kuroda is tired of
JGB support

For the fifth consecutive session, the Japanese yen is rising amid growing speculation that the BOJ, when it meets next Monday and Tuesday, is going to adjust monetary policy tighter. During that run, which also included President Trump’s harangues on currency manipulation around the world, the yen has strengthened nearly 2%. My point is that the dollar has suffered somewhat overall during that period, so this movement is not entirely due to the BOJ story. But, as the meeting approaches, that is becoming the hottest topic in the market.

A quick look at the Japanese economy shows that inflation remains quiescent, with the latest core reading just 0.2%, a far cry from the 2.0% target the BOJ has been aiming for during the past five years. In addition, last night’s PMI data, (printing at 51.6, well below expectations of 53.2) has to give Kuroda and company pause as well. In other words, while Japan is not cratering, it doesn’t seem like there is any danger of overheating there either. However, with the Fed actively tightening, the BOE widely expected to raise rates in early August and the ECB highlighting its plans to end QE this year with interest rate increases to follow next year, the BOJ is clearly feeling somewhat left out of the mix. Apparently groupthink is a strong emotion for central bankers.

At any rate, whether justified or not, the story that is getting play is that they are going to tweak their operations, perhaps allowing (encouraging?) the long end of the JGB yield curve to see higher yields, although they will likely keep control of the 10-year space and below. But all the market needed to hear was that QE was going to be reduced and the reaction was immediate. JGB yields in the 10-year space jumped from 0.03% to 0.09%, at which point the BOJ stopped the movement by stepping in with an unlimited bid for bonds. Remember, they already own 42% of all outstanding JGB’s, and liquidity in that market is so thin that there have already been six days this year where there were absolutely zero trades in the 10-year JGB. The FX market was not going to be left out and seeing the prospect for less QE immediately added to the yen’s recent gains. It remains to be seen whether Kuroda-san will be able to actually implement any policy changes given the combination of slackening growth and still low inflation, especially with the prospects of a trade war having an even more deleterious impact on the economy. However, the market loves this story and is going to continue to run with it, at least until the BOJ announcement next Tuesday. So I would look for the yen to continue to trade slowly higher during that period.

The other big story overnight was the PBOC injection of CNY502 billion of liquidity into the market as part of their ongoing policy adjustments. It is becoming increasingly clear that the Chinese economy is having trouble dealing with the simultaneous deleveraging demanded by President Xi for the past two years and the increased trade issues that have arisen quite rapidly of late. Of course, the PBOC is no wallflower when it comes to taking action, and so having already cut reserve requirements three times this year; they decided that direct injection of funds into the market was a better method of achieving their goals. In addition the government created tax incentives for R&D, encouraged more state infrastructure spending and told banks to offer more credit to small firms. The market impact of these measures was immediate with the Shanghai Stock Exchange rallying 1.6% while the renminbi fell as much as 0.6% early, before retracing somewhat and now standing just 0.2% lower on the day.

When considering the CNY, the opposing forces are that a weaker yuan will certainly help support short-term growth due to the still significant reliance on exports by the Chinese economy. However, there is a feared tipping point at which a weak yuan may encourage significant capital outflows, thus destabilizing the Chinese economy and Chinese markets. We saw this play out three years ago, shortly after the PBOC surprised markets with its mini (2%) devaluation of the yuan. The ensuing global market sell-off was significant enough to prevent then Fed Chair Yellen to hold off on raising rates, despite having signaled that the Fed was ready to do so. However, it is not clear to me that Chairman Powell sees the world the same way as Yellen, and my take is that he would not be dissuaded from continuing the Fed’s current trajectory despite some increased global volatility. Of course, the Chinese instituted strict capital controls in the wake of the 2015 situation, so it is also not clear that the contagion can even occur this time. In the end, though, this is simply further evidence of the diverging monetary policies between the US and China, and continues to underpin my views of USDCNY moving to 7.00 and beyond before the year ends.

Away from those two stories, the dollar is modestly softer this morning despite mixed to weaker Eurozone PMI data (Germany strong, France weak, Eurozone weak), and US Treasury yields that gained nearly 10bps yesterday after the BOJ story broke. Yesterday saw weaker than expected Existing Home Sales (5.38M), which is the third consecutive monthly decline. While there is no important data today, we do see the critical first look at Q2 GDP on Friday, and of course, the ECB meets Thursday, so there is ample opportunity for more opinion changing information to come to market. But right now, the dollar remains largely trapped between the positive monetary policy story and the negative political story, and so I don’t anticipate it will be breaking out in either direction in the short run. However, as long as US monetary policy continues on its current trajectory, I believe the dollar has further to run. We have not yet evolved to a point where other issues are more important, although that time may well come in the future.

Good luck
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