Sive Morten
Special Consultant to the FPA
- Messages
- 19,182
Fundamentals
No doubts, Fed meeting this week stands in focus. Also I would add here the rumor, a kind of conspiracy theory, that S.Arabia - US agreement on selling oil for US Dollars is over. Of course, nobody have seen this agreement, but it is suggested that S. Arabia had an obligation to invest revenues for Oil export in US Bonds. In fact, it doesn't matter whether this is truth or rumors, because this information was put in public sphere and makes impact on the market already. Besides, S. Arabia Prince Ben Salman doesn't come on G7 meeting. Maybe it means something as well.
Market overview
The dollar gained on Thursday despite a soft U.S. producer price inflation report for May, after the Federal Reserve adopted a hawkish tone at the conclusion of its meeting on Wednesday. Data on Thursday showed that U.S. producer prices unexpectedly fell in May, with the headline producer price index (PPI) dropping 0.2% last month after advancing by an unrevised 0.5% in April. Core prices were flat, after also seeing a 0.5% increase the prior month.
But optimism over cooling inflation was not enough to keep the dollar down. The U.S. currency rebounded after Fed officials on Wednesday unexpectedly forecast only one interest rate cut this year and pushed out the start of rate cuts to perhaps as late as December. Fed Chair Jerome Powell said policymakers were content to leave rates where they are until the economy sends a clear signal that something else is needed - through either a more convincing decline in price pressures or a jump in the unemployment rate. Other data on Thursday showed that the number of Americans filing new claims for unemployment benefits increased to a 10-month high last week.
Traders had pared bets that the Fed will cut in September after Friday’s employment report for May showed more jobs growth than expected, while wages also rose more than was anticipated. Those bets were revived, however, after Wednesday’s CPI report. Fed funds futures traders now see two cuts this year as likely, with a first cut in September seen as a 68% probability, according to the CME Group’s FedWatch Tool. The dollar is likely to remain supported as Fed policy contrasts with more dovish international central banks.
A New York Fed survey on Monday showed that the U.S. public’s outlook on the future path of inflation was mixed in May, though inflation is seen as being 3.2% a year from now, compared with April’s expectation of 3.3%. Meantime Michigan survey 5-year inflation expectations has reached record levels:
The U.S. 10-year note yield, seen roughly steady at 4.35% at end-August, is then forecast to decline to 4.23% and 4.13% in six and 12 months respectively, according to median forecasts from 55 fixed-income strategists and analysts in a June 6-11 Reuters poll.
Robust economic data has also driven strategists to push up median forecasts for the interest-rate sensitive 2-year Treasury note yield - now seen falling only 22 bps to 4.62% by end-August and about 40 bps to 4.45% in six months from 4.84% currently.
Asked what was more likely for the U.S. yield curve over the coming month, 70% of respondents, 14 of 20, said it would steepen, nine of whom said it would be led by short-term bond yields declining more than long-term ones, or 'bull steepening'.
Far-right parties gained ground in European Parliament elections on Sunday. The euro fell on Monday after gains by the far right in European Parliament elections on Sunday prompted French President Emmanuel Macron to call a snap national election. Shares in French banks, tollroad operators and renewable energy firms fell sharply on Monday as well.
Many euro zone banks are still far from meeting FASB 9 accounting rules on the provisions needed to protect against loan losses. A surge in interest rates and new geopolitical risks ranging from the war in Ukraine to a disruption of established trade patterns with China and the U.S. are making regulators nervous again.
German inflation rose in May due to higher services prices, the federal statistics office said on Wednesday, confirming preliminary data. German consumer prices, harmonised to compare with other European Union countries, rose 2.8% in May from a year earlier. They had risen 2.4% year-on-year in April.
But this is not the end of the story - just a week ago Germany also showed increase in unemployment, which is together with inflation could become a bad sign for ECB and C. Lagarde.
THE FED MEETING RESULTS
Before we start with the Fed analysis, let's briefly take a look at current situation in global economy. Particularly we're interested with industrial and production sector. Because this is the core factor for necessity of the rate cut:
Thus, because of inflation, rates need to be raised, and because of the decline in industry, they need to be reduced! Since the main specialists are in the United States, their concerns are broadcast to all central banks. And they are now most concerned of inflation. Accordingly, the rates are high and, as can be seen from the charts above, the real sector of the economy, primarily industry, is rapidly collapsing. In the context of the US elections, monetary policy is likely to be softened. We suggest it might be rate cut in July. But truth is, increase of liquidity by any kind of emission, such as QE has equal chances to happen instead. Inflation will rise, of course, the rate of economic decline will increase …
Second moment to consider is falsification of job market statistics that we've considered a month ago. Now this topic has turned public and has reached highest levels. Even J. Powell talked about it on press conference. He said "There is an opinion that the growth inhe number of jobs is somewhat exaggerated. But this indicator is still very strong.This is no longer the overheated market that was in the United States a few years ago."
Another big media source who indirectly confirmed this is "The Economist".
The Fathom writes the same - which is also big UK analytics agency. But they explain this with migration. With the household survey pointing to just 0.38 million jobs created over the past year, compared to 2.76 million on the establishment measure. Fathom has previously written about how the discrepancy might be explained by an increase in net inward migration. A broader range of economic data, from initial claims to spending, suggests that the economy continues to add jobs. However, that is often the case until it is not. Job losses mount slowly and then all at once. Without conclusive data, members of the FOMC must therefore hope that not only does employment continue to rise but that this recent discrepancy goes down – as does inflation:
Then J. Powell also said a few interesting moments. If you combine separate sentences, you could find it really interesting:
It doesn't look as hawkish speech at all. To me it looks more like verbal preparation for the rate cut as it contains too many hints on progress with inflation and ability to cut rate even right now. Cherry on the pie is unexpected jump in budget deficit. The US budget deficit in May turned out to be significantly higher than forecast. The figure for the month exceeded $ 347 billion, while experts expected only $ 250 billion. U.S. government spending increased by more than 22% year-on-year, while revenues decreased by more than 5 percent. Two-thirds of the fiscal year has passed, and the cumulative deficit has exceeded $1 trillion and $200 billion during this time.
Besides, population sentiment is changing rapidly. Americans’ concerns about inflation and interest rates have hit their highest levels in two years, according to a survey released by credit-reporting firm TransUnion Wednesday. Half of respondents said interest rates were among their top three financial concerns, and 84% cited higher prices for everyday goods like groceries and gas. Housing costs also weighed on the poll participants.
CONCLUSION:
First thing that we have to acknowledge is Inflation goes nowhere. It is here and it is growing despite any CPI or any other official data. 0.1% MoM fluctuations is just the scale of statistical error, nothing more. Concern over inflation is growing as it is shown above. Besides, despite all trash talks, the Fed has changed its forecast on inflation. Forecast for 2024 the rate was increased from 4.6% to 5.1% and inflation to 2.6%, while for 2025 the rate forecast was also slightly increased from 3.9% to 4.1%. But more important is the increase in the long-term (neutral) rate from 2.6% to 2.8%. Don't forget, it is temporal...
But this information has a meaning only for economists and fundamental analysts, like we are (LOL). For now inflation has decreased enough, stands slightly above 2%. Thus, the rate downside move for 0.25% will make no serious impact in reality. While market, populistic and media reaction could be huge. Other problems in economy and political tasks overwhelm potential negative effect from 0.25% rate cut.
The election targets are of a higher importance. What the US authorities would like to achieve by common sense? To win elections they need to make electorate happy, or to feel happy for some time. But the degree of happiness is decreasing rapidly. And the major indicator of happiness is the stock market bubble, because around 60% of americans have investments on stock market. And they are becoming unhappy. According to LSEG data, U.S. equity funds, in particular, faced big outflows as investors sold a net $21.93 billion during the week, the most since December 2022.
U.S. bond market participants are worried market liquidity will keep deteriorating as the U.S. Treasury continues to issue large amounts of debt to back deficit spending while dealers struggle to keep up with the ballooning size of the market. Dealers' intermediation capacity is constrained because of higher capital requirements that discourage banks from holding large positions.
Finally, one of the most important signals of the recession in the United States has just worked (data for April appeared on June 7) - borrowing by individuals on revolving credit lines has fallen. They stopped growing in March, but decreased, albeit slightly, in April. Historically, this has always happened when a formal recession has already begun. The consumer realizes that his personal income in the future may not be as great as it seems, so he begins to borrow and spend less. This correlates with the data on consumer sentiment decreasing. By the way, stock market also was falling in April...
Speaking about job market - it is nothing to add here. Official data is falsificated. This is indirectly confirmed by turning this subject to public sphere. As you understand - this can't be done just occasionally and might be treated as another point in favor of dovish policy. Besides, the one thing that we should remember - unemployment trend never changes until economy cycle changes the direction. Now unemployment is raising.
So, mentioned factors bring multiple reasons to seriously consider possible rate cut in July. Indeed, the Fed doesn't like surprises and usually prepares any move. But now it seems that waiting until September might become "too late" decision for Democrats. If of course J. Powell doesn't play more nuanced game on political arena.
With the raising inflation in EU again, the conjuncture of EUR/USD could change. We will not make any special bets for this scenario right now, but in July I wouldn't take any short positions at the eve of the Fed meeting...
No doubts, Fed meeting this week stands in focus. Also I would add here the rumor, a kind of conspiracy theory, that S.Arabia - US agreement on selling oil for US Dollars is over. Of course, nobody have seen this agreement, but it is suggested that S. Arabia had an obligation to invest revenues for Oil export in US Bonds. In fact, it doesn't matter whether this is truth or rumors, because this information was put in public sphere and makes impact on the market already. Besides, S. Arabia Prince Ben Salman doesn't come on G7 meeting. Maybe it means something as well.
Market overview
The dollar gained on Thursday despite a soft U.S. producer price inflation report for May, after the Federal Reserve adopted a hawkish tone at the conclusion of its meeting on Wednesday. Data on Thursday showed that U.S. producer prices unexpectedly fell in May, with the headline producer price index (PPI) dropping 0.2% last month after advancing by an unrevised 0.5% in April. Core prices were flat, after also seeing a 0.5% increase the prior month.
But optimism over cooling inflation was not enough to keep the dollar down. The U.S. currency rebounded after Fed officials on Wednesday unexpectedly forecast only one interest rate cut this year and pushed out the start of rate cuts to perhaps as late as December. Fed Chair Jerome Powell said policymakers were content to leave rates where they are until the economy sends a clear signal that something else is needed - through either a more convincing decline in price pressures or a jump in the unemployment rate. Other data on Thursday showed that the number of Americans filing new claims for unemployment benefits increased to a 10-month high last week.
Traders had pared bets that the Fed will cut in September after Friday’s employment report for May showed more jobs growth than expected, while wages also rose more than was anticipated. Those bets were revived, however, after Wednesday’s CPI report. Fed funds futures traders now see two cuts this year as likely, with a first cut in September seen as a 68% probability, according to the CME Group’s FedWatch Tool. The dollar is likely to remain supported as Fed policy contrasts with more dovish international central banks.
A New York Fed survey on Monday showed that the U.S. public’s outlook on the future path of inflation was mixed in May, though inflation is seen as being 3.2% a year from now, compared with April’s expectation of 3.3%. Meantime Michigan survey 5-year inflation expectations has reached record levels:
The U.S. 10-year note yield, seen roughly steady at 4.35% at end-August, is then forecast to decline to 4.23% and 4.13% in six and 12 months respectively, according to median forecasts from 55 fixed-income strategists and analysts in a June 6-11 Reuters poll.
Robust economic data has also driven strategists to push up median forecasts for the interest-rate sensitive 2-year Treasury note yield - now seen falling only 22 bps to 4.62% by end-August and about 40 bps to 4.45% in six months from 4.84% currently.
Asked what was more likely for the U.S. yield curve over the coming month, 70% of respondents, 14 of 20, said it would steepen, nine of whom said it would be led by short-term bond yields declining more than long-term ones, or 'bull steepening'.
Far-right parties gained ground in European Parliament elections on Sunday. The euro fell on Monday after gains by the far right in European Parliament elections on Sunday prompted French President Emmanuel Macron to call a snap national election. Shares in French banks, tollroad operators and renewable energy firms fell sharply on Monday as well.
Many euro zone banks are still far from meeting FASB 9 accounting rules on the provisions needed to protect against loan losses. A surge in interest rates and new geopolitical risks ranging from the war in Ukraine to a disruption of established trade patterns with China and the U.S. are making regulators nervous again.
German inflation rose in May due to higher services prices, the federal statistics office said on Wednesday, confirming preliminary data. German consumer prices, harmonised to compare with other European Union countries, rose 2.8% in May from a year earlier. They had risen 2.4% year-on-year in April.
But this is not the end of the story - just a week ago Germany also showed increase in unemployment, which is together with inflation could become a bad sign for ECB and C. Lagarde.
THE FED MEETING RESULTS
Before we start with the Fed analysis, let's briefly take a look at current situation in global economy. Particularly we're interested with industrial and production sector. Because this is the core factor for necessity of the rate cut:
Thus, because of inflation, rates need to be raised, and because of the decline in industry, they need to be reduced! Since the main specialists are in the United States, their concerns are broadcast to all central banks. And they are now most concerned of inflation. Accordingly, the rates are high and, as can be seen from the charts above, the real sector of the economy, primarily industry, is rapidly collapsing. In the context of the US elections, monetary policy is likely to be softened. We suggest it might be rate cut in July. But truth is, increase of liquidity by any kind of emission, such as QE has equal chances to happen instead. Inflation will rise, of course, the rate of economic decline will increase …
Second moment to consider is falsification of job market statistics that we've considered a month ago. Now this topic has turned public and has reached highest levels. Even J. Powell talked about it on press conference. He said "There is an opinion that the growth inhe number of jobs is somewhat exaggerated. But this indicator is still very strong.This is no longer the overheated market that was in the United States a few years ago."
Another big media source who indirectly confirmed this is "The Economist".
The Fathom writes the same - which is also big UK analytics agency. But they explain this with migration. With the household survey pointing to just 0.38 million jobs created over the past year, compared to 2.76 million on the establishment measure. Fathom has previously written about how the discrepancy might be explained by an increase in net inward migration. A broader range of economic data, from initial claims to spending, suggests that the economy continues to add jobs. However, that is often the case until it is not. Job losses mount slowly and then all at once. Without conclusive data, members of the FOMC must therefore hope that not only does employment continue to rise but that this recent discrepancy goes down – as does inflation:
Then J. Powell also said a few interesting moments. If you combine separate sentences, you could find it really interesting:
It doesn't look as hawkish speech at all. To me it looks more like verbal preparation for the rate cut as it contains too many hints on progress with inflation and ability to cut rate even right now. Cherry on the pie is unexpected jump in budget deficit. The US budget deficit in May turned out to be significantly higher than forecast. The figure for the month exceeded $ 347 billion, while experts expected only $ 250 billion. U.S. government spending increased by more than 22% year-on-year, while revenues decreased by more than 5 percent. Two-thirds of the fiscal year has passed, and the cumulative deficit has exceeded $1 trillion and $200 billion during this time.
Besides, population sentiment is changing rapidly. Americans’ concerns about inflation and interest rates have hit their highest levels in two years, according to a survey released by credit-reporting firm TransUnion Wednesday. Half of respondents said interest rates were among their top three financial concerns, and 84% cited higher prices for everyday goods like groceries and gas. Housing costs also weighed on the poll participants.
CONCLUSION:
First thing that we have to acknowledge is Inflation goes nowhere. It is here and it is growing despite any CPI or any other official data. 0.1% MoM fluctuations is just the scale of statistical error, nothing more. Concern over inflation is growing as it is shown above. Besides, despite all trash talks, the Fed has changed its forecast on inflation. Forecast for 2024 the rate was increased from 4.6% to 5.1% and inflation to 2.6%, while for 2025 the rate forecast was also slightly increased from 3.9% to 4.1%. But more important is the increase in the long-term (neutral) rate from 2.6% to 2.8%. Don't forget, it is temporal...
But this information has a meaning only for economists and fundamental analysts, like we are (LOL). For now inflation has decreased enough, stands slightly above 2%. Thus, the rate downside move for 0.25% will make no serious impact in reality. While market, populistic and media reaction could be huge. Other problems in economy and political tasks overwhelm potential negative effect from 0.25% rate cut.
The election targets are of a higher importance. What the US authorities would like to achieve by common sense? To win elections they need to make electorate happy, or to feel happy for some time. But the degree of happiness is decreasing rapidly. And the major indicator of happiness is the stock market bubble, because around 60% of americans have investments on stock market. And they are becoming unhappy. According to LSEG data, U.S. equity funds, in particular, faced big outflows as investors sold a net $21.93 billion during the week, the most since December 2022.
U.S. bond market participants are worried market liquidity will keep deteriorating as the U.S. Treasury continues to issue large amounts of debt to back deficit spending while dealers struggle to keep up with the ballooning size of the market. Dealers' intermediation capacity is constrained because of higher capital requirements that discourage banks from holding large positions.
It is a significant loss in U.S. Treasury market functionality when intensive use of dealer balance sheets is needed to intermediate bond markets, as in March 2020. What happens if you have a Treasury auction and nobody shows up? That's a real concern. And that's where liquidity really matters. Recent auctions shows first signs of a potential problem. Besides, the interest rate burden makes heavy pressure on the US budget.
Finally, one of the most important signals of the recession in the United States has just worked (data for April appeared on June 7) - borrowing by individuals on revolving credit lines has fallen. They stopped growing in March, but decreased, albeit slightly, in April. Historically, this has always happened when a formal recession has already begun. The consumer realizes that his personal income in the future may not be as great as it seems, so he begins to borrow and spend less. This correlates with the data on consumer sentiment decreasing. By the way, stock market also was falling in April...
Speaking about job market - it is nothing to add here. Official data is falsificated. This is indirectly confirmed by turning this subject to public sphere. As you understand - this can't be done just occasionally and might be treated as another point in favor of dovish policy. Besides, the one thing that we should remember - unemployment trend never changes until economy cycle changes the direction. Now unemployment is raising.
So, mentioned factors bring multiple reasons to seriously consider possible rate cut in July. Indeed, the Fed doesn't like surprises and usually prepares any move. But now it seems that waiting until September might become "too late" decision for Democrats. If of course J. Powell doesn't play more nuanced game on political arena.
With the raising inflation in EU again, the conjuncture of EUR/USD could change. We will not make any special bets for this scenario right now, but in July I wouldn't take any short positions at the eve of the Fed meeting...
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