Sive Morten
Special Consultant to the FPA
- Messages
- 18,664
Fundamentals
As previous week was very active as this week is a bit bore. We've got just few data of a big scale - Fed minutes, Nvidia report and some other minor data, that mostly have no impact on overall situation. Still, there were few events that were not widely presented in media that, still, by our opinion are important. Also we see interesting dynamic in some statistics that might become important nearest 1-2 months
Market overview
The dollar index edged lower on Wednesday after minutes from the Federal Reserve’s January meeting came in largely as expected and showed that the bulk of policymakers were concerned about the risks of cutting interest rates too soon. Traders have pushed back expectations on when the Fed will begin cutting rates to June as officials caution that they want to see more evidence that inflation will continue to decline.
"Participants highlighted the uncertainty associated with how long a restrictive monetary policy stance would need to be maintained" to return inflation to the Fed's 2% target, said the meeting minutes.
The bulk of policymakers at the Federal Reserve's last meeting were concerned about the risks of cutting interest rates too soon, with broad uncertainty about how long borrowing costs should remain at their current level, according to the minutes of the Jan. 30-31 session.
UBS’ Serebriakov notes that traders are staying in carry trades as the expected timing of rate cuts are pushed back, which has led low-yielding currencies like the yen to underperform.
Richmond Fed President Thomas Barkin said Wednesday that the inflation data will complicate upcoming Fed rate decisions. Fed Vice Chair Philip Jefferson said on Thursday he will be looking across a broad set of economic indicators to convince him it is time to cut interest rates, rather than focusing on a single metric.
U.S. data on Thursday showed that jobless claims unexpectedly fell last week, while U.S. business activity cooled in February, with a measure of prices paid for inputs falling to the lowest level in nearly 3-1/2 years. While the downturn in euro zone business activity eased in February, suggesting signs of recovery, according to a survey on Thursday.
The dollar is likely to benefit from divergences with other countries as the U.S. economy looks relatively stronger, said Noel Dixon, senior macro strategist at State Street Global Markets in Boston. However, after the recent strength “there’s clearly some fatigue with some of the dollar bulls,” he said. “For the dollar to break out one way or another we would need to see more data.”
As a result, the U.S. dollar index was on track for its first weekly fall in 2024 on Friday as investors took a breather from buying the currency following an almost two-month rally built on expectations that the Federal Reserve will begin cutting rates later than previously expected. Investors have pushed back expectations for the first Fed rate cut to June, from May, and dramatically reduced how far they see the U.S. central bank cutting its benchmark rate. Fed officials have projected three 25 basis point cuts this year, while markets had priced for as many as seven.
Traders may also be pricing for the likelihood that economic data will begin to slow.
Now, however, investors are waiting on further economic indicators for fresh clues on monetary policy. BofA expects the euro to strengthen to 1.15 versus the greenback by the end of the year.
New York Fed President John Williams sees the U.S. central bank on track for interest-rate cuts "later this year," despite stronger-than-expected readings on inflation and the labor market in January, according to an interview published Friday by Axios.
Goldman Sachs' analysts no longer expect a U.S. interest rate cut in May and see four 25 basis point cuts this year, as policymakers' rhetoric suggests they are in no rush. GS also raised its year-end target for the benchmark S&P 500, opens new tab to 5,200, reflecting roughly a 4% upside from current levels, citing an improved earnings outlook for the index companies.
UBS and Morgan Stanley also do not expect any moves from the Fed until June. A slim majority of economists polled by Reuters expect the Fed to cut the federal funds rate in June, in line with market expectations showing a near 53% chance of a cut in the month, according to CME's FedWatch, opens new tab tool.
German business morale improved in February, a survey showed on Friday, though probably not enough to prevent Europe's biggest economy from slipping into another recession. ECB President Christine Lagarde on Friday called the relatively benign fourth quarter wage growth data encouraging but not yet enough to give the European Central Bank confidence that inflation has been defeated.
On Tuesday, Deutsche Bank flagged what it now sees as a 'shallower' Fed cycle than it originally thought - 100 bps of cuts from June - and blamed inflation "persistence" with 3-month annualized core consumer price inflation still above 4%. Nuveen Chief Investment Officer Saira Malik was gloomier and said a first cut may not even arrive until the second half of the year. "The Fed isn't ready to spring forth. Don't fight the Fed, in other words.
A similar game is at play on the other side of the Atlantic. "Euro zone domestic demand has not grown to any measurable extent for almost two years - incidentally leading to the greatest gap in per capita income growth between Europe and the U.S. in decades," Nielsen opined, puzzling at the ECB stance.
It may be that all major central banks are just playing for more time. But it they may soon need to better differentiate their stances to match domestic economic realities rather than just clubbing together to corral excessive market expectations. And that's the point at which currencies rate and broader financial markets could get very frisky indeed.
EU
Deutsche Pfandbriefbank opens new tab (PBB), one of Germany's top property financiers dating back to the 1860s and bailed out by the government in 2009, is navigating what it calls "the greatest real estate crisis since the financial crisis". Allianz's opens new tab 58.4 billion euro ($63.21 billion) real estate portfolio is shrinking, becoming less devoted to offices and less German, underscoring troubles in the commercial property sector and the insurer's home market.
German homes are still overvalued despite a fall in prices last year as the cost of mortgages spiked, the country's central bank said on Monday. Prices were still 15-20% above where they should be based on Germany's current demographic and economic situation.
The European Central Bank on Thursday reported a record annual loss for 2023 and said further losses were likely as its aggressive interest rate hikes force it to pay out billions of euros to banks. Its loss before the release of provisions was 7.9 billion euros after a loss of 1.6 billion euros in 2022. Most of the losses are as a result of the ECB's decade long-stimulus programme from an era of excessively low inflation in the pre-pandemic era. The ECB printed trillions of euros worth of cash to stimulate growth and most of that excess liquidity, 3.5 trillion euros, is still sloshing around the financial system.
The European central bank must now pay lenders a 4% deposit rate when this is deposited back at the ECB, while the assets its bought, mostly government debt, yield much less.
The German and Dutch central banks on Friday posted multi-billion euro losses for 2023 and predicted more financial pain ahead, suggesting that they are unlikely to pay dividends into state coffers for years to come. The Bundesbank said it lost 21.6 billion euros ($23.36 billion) last year, wiping out nearly all of its provisions while its Dutch counterpart lost 3.5 billion euros, both broadly in line with expectations.
Relatively benign fourth quarter wage growth data are encouraging but not yet enough to give the European Central Bank confidence that inflation has been defeated, ECB president Christine Lagarde said on Friday. Negotiated wage data from the first quarter, due out in May, will be especially important for the ECB, Lagarde added.
According to a Bank of America strategist, the European Central Bank's desire to get rid of trillions of euros in excess liquidity is already leading to higher borrowing costs in the region's financial markets. Rates for the region's lenders, both secured and unsecured, are likely to continue rising as the ECB makes further progress in reversing years of loose monetary policy , said strategist Ronald Maine.
This nice graph shows that while there are many headwinds for the German economy at the moment, such as lower exports to China, the energy transition and geopolitical risks, it appears that the key factor behind the fall in German house prices is the ECB rate hike. 15 years of non-stop growth have taken their toll, prices are falling by 10%. If we also take into account the fact that mortgage rates in Germany and in Europe in general are mostly floating, it is not surprising that they are already experiencing a recession. “Automatically” more income began to be spent on servicing loans.
Money supply and liquidity issues
This was really not very interesting week, in terms of data, but few very important moments have passed unsigned. First is, recent US Bonds auction. The US Treasury placed 20-year bonds , and this auction can safely be called a failure. ️The yield of 4.595% was much higher than last month's 4.423%, the bid/ask ratio fell to 2.39 from 2.53 , well below the six-auction average of 2.59 and the lowest since August 2022.
It is also interesting that Primary Dealers have to buy now around 20% of the whole supply, while the share of direct bidders (who bid on auction yield directly, indirect bidders buy on average yield of the issue) starts dropping again as it was in 2021.
Meantime, M2 starts to grow again. The US monetary base has grown significantly recently. In the last 12 months alone, the growth was $420 billion, mainly due to bank reserves:
The monetary base is growing, the money supply is growing too, and the bank reserves along with them. The most important thing is that since October, when the mini-crisis of the bank repo took place, for some reason, the "fast" components of the money supply began to grow (that is, the components are not "savings", but "expenditure"), which was not observed, for example, in 2022 at the end of the year. That is, it is not a typical seasonal factor.
In general, it is not surprising why inflation has gone up. But the surprising thing is that, apparently, the Fed still did not hold back and performed some operations that added liquidity to the system, which once again confirms the thesis that with any scam they will turn on the printing press.
The volume of bad loans in the commercial real estate sector already exceeds the sector's loss reserves at the largest US banks. The situation has deteriorated significantly over the past year following a strong rise in arrears in the sector, FT reports. Well, among other things, tension around commercial real estate continues to grow, which means a continuation of the banking crisis is not far off.
Not far off - this will most likely be after March 11, when the BTFP program will cease to operate, borrowings under which, by the way, have begun to decline, after changing the conditions for the cost of borrowing (Fed has closed arbitrage gap). But before that, we observed sudden growth after the slightest problems in the banking sector. Without such a tool it will be quite difficult.
Since the start of the US dollar inflation surge, the Federal Reserve has reduced assets on its balance sheet by just over 5%! This was the most hawkish regulatory cycle in 15 years. The banking system is already shaking, so the market is paving the way for a new rate easing, and the Fed is looking for a reason to turn on the printing press. Without it, the US budget cannot be reduced.
The Fed's stimulating policy requires increasingly large injections. Thus, since the crisis of 2008, three 5-6 year cycles of liquidity injections into the US financial system can be distinguished, in each of which the Fed’s balance sheet approximately doubled: a drug addict requires an ever-increasing dose.
The topic of the Fed balance is becoming really hot. As data above shows, US financial authorities seems provide some liquidity keeping it off public sphere and do not advertising it in media. For example, in the first 20 days of February US Treasury cash account with the Fed has dropped for ~ 80 Bln:
Raised interest rates in recent two weeks stops the decreasing of Reverse Repo facility, keeping around $550 Bln, making US Treasury to search other sources. As we've mentioned earlier these two components are reserves for US Treasury of last resort. They have nothing more to provide tactical support to the market and finance government spending.
All this stuff is happening on a background of possible new shutdown. On February 15, the Chamber went on recess, which will last until next Wednesday, February 28.
Congress is either close to reaching a deal on the budget bill, or it's about to fall apart. People predict US government shutdown even if it lasts just a few days - Axios sources. A partial government shutdown will occur if a budget or cost-cutting measures are not passed by March 1. If they are not approved by March 8, then from that day a complete shutdown of the government will begin. US Republicans are secretly preparing for a shutdown
Indirect confirmation that this topic is really becoming hot comes from recent minutes publication. The Federal Reserve’s internal debate over the fate of its balance sheet reduction effort is set to quicken at its March policy meeting, with policymakers first setting the stage for how they'll likely slow the drawdown, likely deferring a decision on when to stop the process altogether to a later date. Minutes showed that "many participants" were eager to kick off "in-depth discussions" at their March 19-20 meeting on how they will conclude what has been a steady reduction in the Fed’s bond holdings. The minutes also echo views of policymakers who have started debating how the Fed can complete QT smoothly.
Officials reckoned with cash draining steadily out of a key central bank tool known as the overnight reverse repo facility -it's viewed as a proxy for excess financial sector liquidity -the time is close at hand for managing an endgame that will keep financial markets unruffled. To get there, officials are ready for a full-scope debate over how to eventually slow the process commonly referred to as quantitative tightening, or QT, at their March FOMC meeting, opens new tab.
While there's uncertainty whether all the cash will drain out of the reverse repo facility, wherever it stabilizes means bank reserves will start falling quickly. This overall tightening in liquidity means the Fed must be prepared to shift the QT process.
As previous week was very active as this week is a bit bore. We've got just few data of a big scale - Fed minutes, Nvidia report and some other minor data, that mostly have no impact on overall situation. Still, there were few events that were not widely presented in media that, still, by our opinion are important. Also we see interesting dynamic in some statistics that might become important nearest 1-2 months
Market overview
The dollar index edged lower on Wednesday after minutes from the Federal Reserve’s January meeting came in largely as expected and showed that the bulk of policymakers were concerned about the risks of cutting interest rates too soon. Traders have pushed back expectations on when the Fed will begin cutting rates to June as officials caution that they want to see more evidence that inflation will continue to decline.
"Participants highlighted the uncertainty associated with how long a restrictive monetary policy stance would need to be maintained" to return inflation to the Fed's 2% target, said the meeting minutes.
The bulk of policymakers at the Federal Reserve's last meeting were concerned about the risks of cutting interest rates too soon, with broad uncertainty about how long borrowing costs should remain at their current level, according to the minutes of the Jan. 30-31 session.
UBS’ Serebriakov notes that traders are staying in carry trades as the expected timing of rate cuts are pushed back, which has led low-yielding currencies like the yen to underperform.
Higher than expected consumer and producer price inflation last week has raised the possibility that the Fed could hold rates higher for longer, or even make further hikes if it continues. However, retail sales numbers and other data have also been showing some signs of weakness, which has sent the greenback lower over the past week.
Richmond Fed President Thomas Barkin said Wednesday that the inflation data will complicate upcoming Fed rate decisions. Fed Vice Chair Philip Jefferson said on Thursday he will be looking across a broad set of economic indicators to convince him it is time to cut interest rates, rather than focusing on a single metric.
U.S. data on Thursday showed that jobless claims unexpectedly fell last week, while U.S. business activity cooled in February, with a measure of prices paid for inputs falling to the lowest level in nearly 3-1/2 years. While the downturn in euro zone business activity eased in February, suggesting signs of recovery, according to a survey on Thursday.
The dollar is likely to benefit from divergences with other countries as the U.S. economy looks relatively stronger, said Noel Dixon, senior macro strategist at State Street Global Markets in Boston. However, after the recent strength “there’s clearly some fatigue with some of the dollar bulls,” he said. “For the dollar to break out one way or another we would need to see more data.”
As a result, the U.S. dollar index was on track for its first weekly fall in 2024 on Friday as investors took a breather from buying the currency following an almost two-month rally built on expectations that the Federal Reserve will begin cutting rates later than previously expected. Investors have pushed back expectations for the first Fed rate cut to June, from May, and dramatically reduced how far they see the U.S. central bank cutting its benchmark rate. Fed officials have projected three 25 basis point cuts this year, while markets had priced for as many as seven.
Traders may also be pricing for the likelihood that economic data will begin to slow.
Now, however, investors are waiting on further economic indicators for fresh clues on monetary policy. BofA expects the euro to strengthen to 1.15 versus the greenback by the end of the year.
Personal Consumption Expenditures (PCE) due next week may also provide clues for Fed policy. Economists polled by Reuters expect a 0.3% increase for January after 0.2% in the previous month. A stronger-than-expected PCE number could further whittle away at market rate cut bets.
New York Fed President John Williams sees the U.S. central bank on track for interest-rate cuts "later this year," despite stronger-than-expected readings on inflation and the labor market in January, according to an interview published Friday by Axios.
Goldman Sachs' analysts no longer expect a U.S. interest rate cut in May and see four 25 basis point cuts this year, as policymakers' rhetoric suggests they are in no rush. GS also raised its year-end target for the benchmark S&P 500, opens new tab to 5,200, reflecting roughly a 4% upside from current levels, citing an improved earnings outlook for the index companies.
UBS and Morgan Stanley also do not expect any moves from the Fed until June. A slim majority of economists polled by Reuters expect the Fed to cut the federal funds rate in June, in line with market expectations showing a near 53% chance of a cut in the month, according to CME's FedWatch, opens new tab tool.
German business morale improved in February, a survey showed on Friday, though probably not enough to prevent Europe's biggest economy from slipping into another recession. ECB President Christine Lagarde on Friday called the relatively benign fourth quarter wage growth data encouraging but not yet enough to give the European Central Bank confidence that inflation has been defeated.
On Tuesday, Deutsche Bank flagged what it now sees as a 'shallower' Fed cycle than it originally thought - 100 bps of cuts from June - and blamed inflation "persistence" with 3-month annualized core consumer price inflation still above 4%. Nuveen Chief Investment Officer Saira Malik was gloomier and said a first cut may not even arrive until the second half of the year. "The Fed isn't ready to spring forth. Don't fight the Fed, in other words.
A similar game is at play on the other side of the Atlantic. "Euro zone domestic demand has not grown to any measurable extent for almost two years - incidentally leading to the greatest gap in per capita income growth between Europe and the U.S. in decades," Nielsen opined, puzzling at the ECB stance.
It may be that all major central banks are just playing for more time. But it they may soon need to better differentiate their stances to match domestic economic realities rather than just clubbing together to corral excessive market expectations. And that's the point at which currencies rate and broader financial markets could get very frisky indeed.
EU
Deutsche Pfandbriefbank opens new tab (PBB), one of Germany's top property financiers dating back to the 1860s and bailed out by the government in 2009, is navigating what it calls "the greatest real estate crisis since the financial crisis". Allianz's opens new tab 58.4 billion euro ($63.21 billion) real estate portfolio is shrinking, becoming less devoted to offices and less German, underscoring troubles in the commercial property sector and the insurer's home market.
German homes are still overvalued despite a fall in prices last year as the cost of mortgages spiked, the country's central bank said on Monday. Prices were still 15-20% above where they should be based on Germany's current demographic and economic situation.
The European Central Bank on Thursday reported a record annual loss for 2023 and said further losses were likely as its aggressive interest rate hikes force it to pay out billions of euros to banks. Its loss before the release of provisions was 7.9 billion euros after a loss of 1.6 billion euros in 2022. Most of the losses are as a result of the ECB's decade long-stimulus programme from an era of excessively low inflation in the pre-pandemic era. The ECB printed trillions of euros worth of cash to stimulate growth and most of that excess liquidity, 3.5 trillion euros, is still sloshing around the financial system.
The European central bank must now pay lenders a 4% deposit rate when this is deposited back at the ECB, while the assets its bought, mostly government debt, yield much less.
The German and Dutch central banks on Friday posted multi-billion euro losses for 2023 and predicted more financial pain ahead, suggesting that they are unlikely to pay dividends into state coffers for years to come. The Bundesbank said it lost 21.6 billion euros ($23.36 billion) last year, wiping out nearly all of its provisions while its Dutch counterpart lost 3.5 billion euros, both broadly in line with expectations.
Relatively benign fourth quarter wage growth data are encouraging but not yet enough to give the European Central Bank confidence that inflation has been defeated, ECB president Christine Lagarde said on Friday. Negotiated wage data from the first quarter, due out in May, will be especially important for the ECB, Lagarde added.
According to a Bank of America strategist, the European Central Bank's desire to get rid of trillions of euros in excess liquidity is already leading to higher borrowing costs in the region's financial markets. Rates for the region's lenders, both secured and unsecured, are likely to continue rising as the ECB makes further progress in reversing years of loose monetary policy , said strategist Ronald Maine.
This nice graph shows that while there are many headwinds for the German economy at the moment, such as lower exports to China, the energy transition and geopolitical risks, it appears that the key factor behind the fall in German house prices is the ECB rate hike. 15 years of non-stop growth have taken their toll, prices are falling by 10%. If we also take into account the fact that mortgage rates in Germany and in Europe in general are mostly floating, it is not surprising that they are already experiencing a recession. “Automatically” more income began to be spent on servicing loans.
Money supply and liquidity issues
This was really not very interesting week, in terms of data, but few very important moments have passed unsigned. First is, recent US Bonds auction. The US Treasury placed 20-year bonds , and this auction can safely be called a failure. ️The yield of 4.595% was much higher than last month's 4.423%, the bid/ask ratio fell to 2.39 from 2.53 , well below the six-auction average of 2.59 and the lowest since August 2022.
It is also interesting that Primary Dealers have to buy now around 20% of the whole supply, while the share of direct bidders (who bid on auction yield directly, indirect bidders buy on average yield of the issue) starts dropping again as it was in 2021.
Meantime, M2 starts to grow again. The US monetary base has grown significantly recently. In the last 12 months alone, the growth was $420 billion, mainly due to bank reserves:
The monetary base is growing, the money supply is growing too, and the bank reserves along with them. The most important thing is that since October, when the mini-crisis of the bank repo took place, for some reason, the "fast" components of the money supply began to grow (that is, the components are not "savings", but "expenditure"), which was not observed, for example, in 2022 at the end of the year. That is, it is not a typical seasonal factor.
In general, it is not surprising why inflation has gone up. But the surprising thing is that, apparently, the Fed still did not hold back and performed some operations that added liquidity to the system, which once again confirms the thesis that with any scam they will turn on the printing press.
The volume of bad loans in the commercial real estate sector already exceeds the sector's loss reserves at the largest US banks. The situation has deteriorated significantly over the past year following a strong rise in arrears in the sector, FT reports. Well, among other things, tension around commercial real estate continues to grow, which means a continuation of the banking crisis is not far off.
Not far off - this will most likely be after March 11, when the BTFP program will cease to operate, borrowings under which, by the way, have begun to decline, after changing the conditions for the cost of borrowing (Fed has closed arbitrage gap). But before that, we observed sudden growth after the slightest problems in the banking sector. Without such a tool it will be quite difficult.
Since the start of the US dollar inflation surge, the Federal Reserve has reduced assets on its balance sheet by just over 5%! This was the most hawkish regulatory cycle in 15 years. The banking system is already shaking, so the market is paving the way for a new rate easing, and the Fed is looking for a reason to turn on the printing press. Without it, the US budget cannot be reduced.
The Fed's stimulating policy requires increasingly large injections. Thus, since the crisis of 2008, three 5-6 year cycles of liquidity injections into the US financial system can be distinguished, in each of which the Fed’s balance sheet approximately doubled: a drug addict requires an ever-increasing dose.
The topic of the Fed balance is becoming really hot. As data above shows, US financial authorities seems provide some liquidity keeping it off public sphere and do not advertising it in media. For example, in the first 20 days of February US Treasury cash account with the Fed has dropped for ~ 80 Bln:
Raised interest rates in recent two weeks stops the decreasing of Reverse Repo facility, keeping around $550 Bln, making US Treasury to search other sources. As we've mentioned earlier these two components are reserves for US Treasury of last resort. They have nothing more to provide tactical support to the market and finance government spending.
All this stuff is happening on a background of possible new shutdown. On February 15, the Chamber went on recess, which will last until next Wednesday, February 28.
Congress is either close to reaching a deal on the budget bill, or it's about to fall apart. People predict US government shutdown even if it lasts just a few days - Axios sources. A partial government shutdown will occur if a budget or cost-cutting measures are not passed by March 1. If they are not approved by March 8, then from that day a complete shutdown of the government will begin. US Republicans are secretly preparing for a shutdown
Indirect confirmation that this topic is really becoming hot comes from recent minutes publication. The Federal Reserve’s internal debate over the fate of its balance sheet reduction effort is set to quicken at its March policy meeting, with policymakers first setting the stage for how they'll likely slow the drawdown, likely deferring a decision on when to stop the process altogether to a later date. Minutes showed that "many participants" were eager to kick off "in-depth discussions" at their March 19-20 meeting on how they will conclude what has been a steady reduction in the Fed’s bond holdings. The minutes also echo views of policymakers who have started debating how the Fed can complete QT smoothly.
Officials reckoned with cash draining steadily out of a key central bank tool known as the overnight reverse repo facility -it's viewed as a proxy for excess financial sector liquidity -the time is close at hand for managing an endgame that will keep financial markets unruffled. To get there, officials are ready for a full-scope debate over how to eventually slow the process commonly referred to as quantitative tightening, or QT, at their March FOMC meeting, opens new tab.
While there's uncertainty whether all the cash will drain out of the reverse repo facility, wherever it stabilizes means bank reserves will start falling quickly. This overall tightening in liquidity means the Fed must be prepared to shift the QT process.
