Absorbing The Fed’s Message

June 1, 2021 — Mitul Kotecha

Markets absorbed a high inflation reading in the form of US core Personal Consumption Expenditure (PCE) price index without flinching at the end of last week, further acknowledgement that the Fed’s “transitory” inflation message is belatedly sinking in to the market’s psyche.  Core PCE inflation exceeded expectations for April, surging 0.7% m/m after a 0.4% gain in March (consensus: 0.6%). On a y/y basis, core PCE inflation surged to 3.1%—its highest level in almost three decades. High inflation readings are likely to persist over the near-term, if for no other reason than base effect, but price pressures will likely ease by the end of the year. 

The market’s sanguine reaction has helped US Treasury yields to continue to consolidate.  Also helping to restrain yields is the fact that positive US economic surprises (data releases versus consensus expectations) are close to their lowest level since June 2020 and barely positive (according to the Citi index), in contrast to euro area economic surprises, a factor that is helping to support the euro.

Cross-asset volatility measures remain very low, with the glut of liquidity continuing to depress volatility across equities, interest rates and FX.  Given that markets’ inflation fears has eased, it is difficult to see what will provoke any spike in volatility in the near term.  All of this this does not bode well for the USD.  Sentiment as reflected in the latest CFTC IMM speculative data on net non-commercial futures USD positions, remains downbeat.  This is corroborated in FX options risk reversal skews (3m, 25d) of USD crosses. 

In particular, USDCNY will be closely watched after strong gains in the renminbi lately.  Chinese officials are trying to prevent or at least slow USD weakness vs. CNY. The latest measure came from China’s central bank, the PBoC instructing banks to increase their FX reserve requirements by 2% to 7% ie to hold more foreign currency as a means of reducing demand for the Chinese currency.  Expect official resistance to yuan appreciation pressures to grow.      

Data so far this week has been mixed. China’s May NBS manufacturing purchasing managers index released yesterday slipped marginally to 51.0 from 51.1 previously (consensus 51.1) while the non-manufacturing PMI increased to 55.2 from 54.9 previously. Both remained in expansion, however indicative of continued economic expansion. China’s exports are holding up particularly well and this is expected to continue to fuel manufacturing expansion while manufacturing imports are similarly strong. 

Today’s Reserve Bank of Australia decision on monetary policy delivered no surprises, with policy unchanged and attention shifting to the July meeting when the bond purchase program will be reviewed.  On Friday it’s the turn of the the Indian central bank, Reserve Bank of India (RBI), with an unchanged policy outcome likely despite the growth risks emanating from a 2nd wave COVID infections cross the country and attendant lockdowns.  Last but not least, is the May US jobs report for which consensus expectations are for 650,000 gain in non-farm payrolls and the unemployment rate falling to 5.9% from 6.1% previously.

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Crypto Volatility

May 24, 2021 — Mitul Kotecha

It was a calmer end for stock markets in a volatile week but crypto was not so fortunate after China’s State Council repeated its warning about Bitcoin mining and trading as central banks appear to be increasing their scrutiny of crypto at a time when many of them are introducing their own digital currencies.  Concerns over increased regulations, especially in China where the bulk of Crypto mining takes place, taken together with ESG issues as focus turns to the environmental costs of mining crypto, threaten to do more damage.  Volatility continued over the weekend, with Bitcoin and other crypto undergoing sharp moves.  Crypto volatility threatens to find its way into other markets, with for example, US equities positively correlated to moves in crypto while the US dollar (USD) could benefit.

There was at least a little relief for markets in terms of inflation angst, with market inflation measures (breakevens) falling while commodities, another factor fueling inflation fears, continued to come off the boil. It seems that the Federal Reserve’s dovish message may finally be sinking in even as the Fed FOMC minutes noted that they are planning on discussing tapering at some point, rather than previously not even thinking about thinking of tapering. US Treasury yields have been capped amid the cooling in inflation fears while rate sensitive equities, especially Tech are likely to find some solace.  The USD has struggled over recent weeks but the recent rise in real yields will likely offer some support. 

There was yet more evidence that the US economy is powering ahead, with measures of manufacturing and services sentiment as reflected in Markit purchasing managers indices (PMIs), rising to record highs as fiscal support and an improving COVID-19 outlook continue to boost optimism. While US economic data has been strengthening, markets have become accustomed to positive US releases and therefore any reaction is likely to be more muted.  Indeed, the Citi Economic Surprise Index, a measure of US data relative to expectations, is near its lowest since June 2020. 

This week is relatively light on the data front.  The key US data release is the Personal Consumption Expenditures (PCE) report, something that the Federal Reserve looks at closely, on Friday; consensus expectations are for a 2.3% quarter on quarter (q/q) increase in core PCE in Q1.  A number of Fed speakers will also be on the wires and their comments will be scrutinized on any further elaboration on “discussing a plan” on tapering.  There will also be a few central bank decisions including in Hungary (Tue), Indonesia (Tue), New Zealand (Wed), and Korea (Thu).  No changes are likely from any of these central banks.

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Inflation Debate Rages On

March 29, 2021 — Mitul Kotecha

Good morning, last week ended on a solid note for global equity markets, capped by strong gains in US stocks and in particular a surge towards the end of the session on Friday.  The S&P 500 is on track for its best month since November though in the next few days, month and quarter end rebalancing will continue to hold risks, which could result in increased volatility.  Another imponderable is potential follow through from huge equity sale block trades at the end of last week reportedly from Archegos Capital, which hit US media companies and Chinese tech stocks. All of this suggests risks of higher volatility in the days ahead.  

US interest rate markets came under renewed pressure, with yields backing up over the week, while the US dollar (USD) had a firmer week, with the USD index (DXY) ending above its 200-day moving average and technical indicators pointing to further gains this week.  CFTC IMM speculative positioning data (in the week to 23 March) shows that net aggregate USD short positions have been pared back further as USD sentiment continues to improve.  Positioning in most currencies vs. USD fell while Japanese yen (JPY) short positions increased further.  The oil market and container costs could be pressured higher by the continued delay in dislodging the stricken Ever from the Suez Canal, which seems to have made little progress over the weekend.

Attention this week will turn to a few key data and events.  Important among these will be President Biden’s speech in Pittsburgh (Wed) where he will likely give further details on his infrastructure plan and how it will be funded.  Key US data include the March ISM manufacturing survey (Thu) and March non-farm payrolls (Fri).  Solid outcomes for both are expected.  In Asia, focus will be on March purchasing managers indices (PMIs) across the region (Thu) including in China (Wed) where broadly positive readings are likely.  There will also be attention on the going malaise in Turkey’s markets since the sacking of the central bank (CBRT) governor while Europe continues to struggle with fresh virus waves, lockdowns, and vaccine reluctance as well as tensions over vaccine exports to the UK.

As President Biden gives his speech this week the debate about a potentially sharp rise in inflation rages on.  The Fed has tried to calm fears by highlighting that any rise in inflation over the coming months will likely be transitory.  However, with massive stimulus in the pipeline, economic recovery taking shape and the Fed set to keep policy very accommodative for years to come, market fears have risen as well as warnings from the likes of former Treasury Secretary Larry Summers.  Consumer inflation expectations remain largely subdued but the debate will not end quickly, and bond markets will be on tender hooks.  In the next few months inflation will turn up but this will largely be due to base effects as the collapse in activity in prices in Q1 last year falls out of the equation.  However, the jury is out on whether this will turn to more persistent inflation, something that could have a much more severe impact on markets and force central banks to belatedly tighten policy. 

Posted in Asia, Asian currencies, Biden, Bond markets, Brexit, central banks, China, Commodities, coronavirus, COVID-19, Currencies, Economics, Economy, emerging markets, equity markets, Europe, eurozone, Federal Reserve, Fiscal/Budget, FX, Interest rates, Monetary Policy, Trade, Turkey, UK, US, US administration. Tags: , , , , , , , , , , , , , , , , , , , . Leave a Comment »

Turkey, Emerging Market Central Banks, Eurozone Divergence

March 22, 2021 — Mitul Kotecha

Attention today is on developments in Turkey. Despite consensus expectations of a 100bp (1%) hike in rates, Turkey’s central bank delivered a bigger than expected 200bp increase last week, with a hawkish statement.  This appears not have been welcomed by Turkish President Erdogan who promptly removed central bank (CBRT) Governor Aqbal on Saturday.  Despite some reassurance from Aqbal’s replacement that policy would deliver price stability the result has been substantial pressure on Turkey’s currency the lira (TRY) at the start of trading in Asia today, with the lira down as much as 15% initially, erasing more than four months of gains.  Turkish authorities are likely to intervene to limit the damage, but the damage has been done.  There has also been some, albeit more limited fall out on other emerging market currencies.

The end of the week saw a bit of a reversal in recent trends, with tech stocks gaining most, at the expense of bank stocks, which were weighed down by the news that the US Federal Reserve would not extend the Supplementary Leverage Ratio (SLR) exemption but rather to look at a more permanent solution. This could lower banks demand for Treasuries while constraining dealer balance sheets. Both S&P 500 and Nasdaq recorded declines over the week amid a further rise in US Treasury yields.  Quadruple witching saw an increase in volumes and oil prices recorded a sharp close to 8% decline over the week while Chinese stocks continued to suffer. 

Aside from Turkey there was some interesting central bank action last week in the emerging markets.  The BCB in Brazil hiked by 75bps, more expected, and indicated the high likelihood of another 75bps at the May meeting.  The CBR in Russia also joined in on the hawkish emerging markets (EM) action surprising markets by hiking rates by 25bps, with a likely acceleration in tightening likely over coming meetings.  EM central bank decisions this week include China (today), Philippines (Thu), Thailand (Wed), Hungary (Tue), South Africa (Thu), Mexico (Fri) and Colombia (Fri).   Separately, the SNB in Switzerland also decides on policy (Thu). China’s loan prime rates were left unchanged as expected and no changes are likely from any of the other central banks this week. 

Other data and events this week include the US PCE report (Fri), President Biden’s press conference (Thu) which could offer clues to the “Rescue” package that could amount to $3-4trn. A host of Fed speakers are also on tap, including Fed Chair Powell, as well as Eurozone flash purchasing managers indices (PMIs) (Wed), and UK retail sales (Fri).  The data will reveal stark differences in the recovery picture in the UK and Eurozone while the difference between the US and Europe looks even more stark.  Europe is struggling with a third wave of Covid case, vaccination delays and tighter restrictions, leading to a reduction in growth forecasts, while US growth forecasts are being revised higher in the wake of the $1.9tn stimulus package. This will likely result in some underperformance of Eurozone markets relative to the US.  

Posted in Asia, Asian currencies, Biden, Bond markets, central banks, China, coronavirus, COVID-19, Currencies, Economics, Economy, emerging markets, equity markets, Europe, eurozone, Federal Reserve, Fiscal/Budget, FX, Germany, Interest rates, Mexico, Monetary Policy, Philippines, Politics, Russia, Thailand, Turkey, UK, US, US administration. Tags: , , , , , , , , , , , , , , . Leave a Comment »

Will the Fed Calm US Treasury Market Volatility?

March 15, 2021 — Mitul Kotecha

The main market action on Friday was once again in US Treasuries, with another sharp sell off as the 10y yield spiked 8.8 basis points despite three large US debt auctions over the week that were received relatively well by the market.  The sell-off helped the US dollar (USD) to strengthen while oil prices slipped. USD sentiment is clearly becoming less negative as reflected in the latest CFTC IMM data (non-commercial speculative market positioning), which shows that USD (DXY) positions (as a % of open interest) are still short, but at their highest since the week of 8 Dec 2020. Tech stocks didn’t take well to higher yields, but the Dow and S&P 500 closed higher. The move in yields may pressure Asian currencies and bond markets after some consolidation/retracement towards the end of last week though equity markets look better placed. 

At the end of last week US University of Michigan consumer sentiment rose to 83.0 in the preliminary release for March from 76.8 in February and exceeded expectations at 78.5 (consensus). This week attention will turn to a plethora of central banks spearheaded by the Federal Reserve FOMC (Wed). Markets will be watching for any revisions to US growth forecasts amid a dovish tone, albeit with little sign of any push back on higher yields. US rates markets will also focus on the US 20y auction, which could keep the curve pressured steeper.  Nervousness over the Statutory Liquidity Ratio (SLR) exemption, which is set to expire at the end of the month, will also likely intensify.  A less dovish than hoped for Fed, will likely keep the USD on the front foot. 

Other central bank decisions this week will take place in the UK, Norway, Turkey, Russia, Indonesia, Taiwan, Brazil and Japan. None of these are likely change policy settings except Brazil, where the market is looking for a 1/2% hike. Developments to look out for include some push back from the Bank of England on higher yields, a move to bring forward the rate hike path in Norway, a potentially controversial no change decision in Turkey and the Bank of Japan’s announcement of the results of its policy tools and in particular clarification on the tolerated trading range for 10-year JGBs.

Data this week kicks off with Chinese activity data today including February industrial production and retail sales. Seasonal distortions and base effects will make this month’s data look particularly strong.  Other data this week includes US Feb retail sales (tomorrow) where a weak outcome is likely depressed by harsher-than-usual winter weather as well as a fading of the boost from stimulus payments. Australia February employment is also likely to be soft (Thursday).  

Overall, equity volatility has eased, especially in the equity market, suggesting some return of normal trading conditions there, but interest rate volatility remains high driven by the move in US Treasury yields.  The USD gave back some gains towards the end of last week, but will likely benefit from higher US yields and is set to start this week in firm form.  US interest rate gyrations will likely provide further direction for the USD over the rest of the week.   Much of course will depend on the Fed FOMC meeting, which will be the main event this week. 

Posted in Asia, Asian currencies, Australia, Bank of England, Bank of Japan, Bond markets, Canada, central banks, China, coronavirus, COVID-19, Currencies, Economics, Economy, emerging markets, equity markets, Federal Reserve, FX, Indonesia, Interest rates, Japan, Monetary Policy, Norway, Taiwan, Turkey, UK, US, US administration. Tags: , , , , , , , , , , , , , , , , . Leave a Comment »
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