US Fed's exit plan poses a critical dilemma and underscores important contradictions. The calendar says Europe should be talking about exits too--as aid packages for Spanish banks, and Ireland and Portugal are to wind down in the coming year--yet more rather than less assistance may be neeed.
Even if one correctly predicts what the FOMC does next week, getting the direction right for dollar is a different matter. The markets are anticipatory in nature and the effect often takes place before the cause.
"The Bank of England now has the ability to take the froth out of future housing market booms, without having to resort to interest rate increases," is the way the UK's realtor association explains their demand that the BoE limit national house price growth to 5% a year. While they would benefit from short-term gains, it seems the Royal Institution of Chartered Surveyors (RICS) sees the dangers of another unsustainable housing boom outweigh them. As The FT reports, RICS adds, "this cap would send a clear and simple statement to the public and the banking sector, managing expectations as to how much future house prices are going to rise. We believe firmly anchored house price expectations would limit excessive risk taking and, as a result, limit an unsustainable rise in debt." Or will it merely lead to further financial engineering and leverage?
For the right answer, we look to the past....
With everyone focused on the 5th anniversary of the Lehman failure, we are taking a quick look at how the world's developed (G7) nations have fared since 2008, and just what the cost to restore "stability" has been. In a nutshell: the G7 have added around $18tn of consolidated debt to a record $140 trillion, relative to only $1tn of nominal GDP activity and nearly $5tn of G7 central bank balance sheet expansion (Fed+BoJ+BoE+ECB). In other words, over the past five years in the developed world, it took $18 dollars of debt (of which 28% was provided by central banks) to generate $1 of growth. For all talk of "deleveraging" G7 consolidated debt has been at a record high 440% for the past four years. So in the G7, which is a good proxy for the developed world, debt continues to increase whilst nominal growth remains extremely low thus ensuring that the deleveraging process has yet to start. As Deutsche Bank states, "at best we’re stabilising the ratio at or around record highs."
Jitters from Syria still abound, as confirmed by reports from the Israeli army that two shells had hit the Southern Golan region. Despite the reports that the shelling appeared to be errant, WTI remains near session highs as markets remain sensitive ahead of the meeting between US Secretary of State Kerry and Russian Foreign Minister Lavrov in Geneva over the next two days. Buying of the 10Y is also prevalent and the yield on the benchmark bond was has dropped below 2.90%, or at 2.88% at last check. Today's key economic news in the US session will be the weekly claims report, the Fed buying 10 Year bonds at 11 am followed by the Treasury selling 30 Year bonds at 1 pm (this follows the Fed buying 30 Year bond yesterday: yes ironic).
For the second day in a row, better than expected Chinese "data" set sentiment across the board when following an improvement in its trade data (even as crude oil imports dropped to an 11 month low), last night China reported a better than expected August Industrial Production print of 10.4%, compared to 9.7% for July, and higher than the 9.9% expected. This was driven by a pick up in Chinese M2, which rose from 14.5% to 14.7% Y/Y, as the PBOC has once again resuming what it does best, injecting liquidity into the system, even if said liquidity no longer makes its way into the proper channels, as new CNY loans missed the expected CNY730bn, rising to 711.3bn for August. Elsewhere, not all was good on the Industrial Production front, following a French miss of -0.6% on expectations of a rebound to +0.5%, as well as a miss in mfg production of -0.7%, down from -0.4% and below the expected 0.7%. This, in parallel with Moscovici once again saying the 2013 deficit will be "slightly higher than 3.7%" means that just like in 2012, and with German economic metrics continuing to contract, as the periphery stages a modest rebound it is the core that threatens Europe's stability once again. Finally, and since in Europe everything is ultimately funded by current account positive Germany either directly or via TARGET2, the recent Italian economic strength, which also means a bounce in imports, meant that Italian TARGET2 liabilities (through which Germany indirectly funds Italy's current account deficit) are once again back at a 4 month high. And so the cycle repeats.
In the US, retail sales on Friday will be the main data release. In addition, Congress will return from its 5-week recess on Monday and will likely keep their focus on Syria this week. Finally, San Francisco Fed President Williams (who does not vote on FOMC policy this year) will speak on Monday. Last week, Williams argued that the FOMC should maintain its focus on the unemployment rate, despite its limitations. After Friday's employment report saw the unemployment rate drop again due to falling participation, this issue is likely to resurface. The Fed's communication blackout period begins on Tuesday so Williams will be the last FOMC speaker before the September meeting ends on the 18th.
As macro news continues to trickle in better than expected, the latest batch being benign (if completely fake) Chinese inflation data (CPI 2.6%, Exp. 2.6%, Last 2.7%) and trade data released overnight which saw ahigher than expected trade balance ($28.5bn vs Exp. $20.0; as exports rose from 5.1% to 7.2%, and imports dipped from 10.9% to 7.0%, missing expectations), markets remain confused: is good news better or does it mean even more global liquidity will be pulled. As a result, the release of an encouraging set of macroeconomic data from China failed to have a meaningful impact on the sentiment in Europe this morning and instead stocks traded lower, with the Spanish IBEX-35 index underperforming after Madrid lost out to Tokyo to win rights to host 2020 Olympic Games. Even though the news buoyed USD/JPY overnight, the pair faced downside pressure stemming from interest rate differential flows amid better bid USTs. The price action in the US curve was partly driven by the latest article from a prolific Fed watcher Jon Hilsenrath who said many Fed officials are undecided on whether to scale back bond purchases in September. Hilsenrath added that the Fed could wait or reduce the programme by a small amount at the upcoming meeting. Going forward, there are no major macroeconomic data releases scheduled for the second half of the session, but Fed’s Williams is due to speak.
A dispassionate discussion of the weekend events and a look at the week ahead.
Despite Mariano Rajoy's solemn promises that awarding the 2020 Olympics to Madrid would boost the Spanish GDP by 1.8% and lead to the creation of anywhere between 168,000 and a few hundred million new jobs (the latter number is a joke but since it comes from Rajoy, both are equally credible), the Olympic committee cut the Spanish contender before the final, which pitted Tokyo vs Istanbul. And when the final votes were tallied it was not even a contest: with 60 to 36 votes, the 2020 Olympics Games will be held in Tokyo: the city that was supposed to host the event in 1940 but due to the break out of World War II the event was delayed until 1964 (when it was almost cancelled again, permanently, following a modest escalation in nuclear deterrence between the US and USSR surrounding Cuba). Let's hope history does not rhyme.
While the market has been fixated lately on the question of when and how the Fed will taper its asset purchases, perhaps as important for the rates market (and the magic that levitates stocks) is the outlook for the Fed’s forward rate guidance. On this front, BofAML suggests that recent evidence shows the effectiveness of forward guidance is diminishing... already. Simply put, policy makers are finding it harder to convince markets that central bankers have more insight into the future course of the economy and policy than they actually do. Meanwhile, markets are learning that it can be painful to rely too heavily on forward guidance when the risk/reward of being long fixed income is asymmetrical when close to the zero lower bound. In BofAML's view, this should lead to a return to persistently higher front-end risk premiums than have prevailed over the last two years, barring a sharp deterioration in the economic outlook.
- BOE Leaves Policy Unchanged as Carney’s Guidance Assessed (BBG)
- Surprise or not, U.S. strikes can still hurt Assad (Reuters)
- Samsung Gear: A Smartwatch in Search of a Purpose (BusinessWeek)
- 'Jumbo' Mortgage Rates Fall Below Traditional Ones (WSJ)
- Capital Unease Again Bites Deutsche Bank (WSJ)
- Technical snafus confuse charges for Obamacare plans (Reuters)
- JPMorgan subject of obstruction probe in energy case (Reuters)
- U.S. Car Sales Soar to Pre-Slump Level (WSJ) - i.e., to just when the market crashed
- BoJ lifts assessment of Japan’s economic health (FT)
- Dead Dog in Reservoir Helps Drive Venezuelans to Bottled Water (BBG)
- Russia Boosts Mediterranean Force as U.S. Mulls Syria Strike (BBG)
Just when the market thought it had priced in a new equilibrium without (or with - it is not quite clear) a Syria war, here comes Thursday with a data dump that will make one's head spin. Central bankers are once again on parade starting overnight, when the BOJ announced no change to its QE program and retaining its monetary base target of JPY270 trillion. The parade continues with both the BOE and ECB, the latter of which is expected to address the recent pick up in Eonia rates and take praise for the recent very much unsustainable "recovery" in the periphery even as Germany continues to slide lower (this morning's factory orders plunged 2.7% on exp. -1.0%), which in turn lead the Bund to pass above 2.0% for the first time since March 2011. Speaking of bonds blowing out, the US 10Y is now just 6 bps away from 3.00%, the widest since July 2011, and likely to breach the support level, taking out a boatload of stops and leading to the next big step spike in rates as the second selling scramble ensues. And just to keep every algo on its binary toes, today we also get a NFP preview with the ADP private payrolls at 8:15 am (Exp. 180K, down from 200K), Initial Claims (Exp. 330K), Nonfarm Productivity and Unit Labor Costs (Exp. 1.60% and 0.9%), Factory Orders (Exp. -3.4%), Non-mfg ISM (Exp. 55), Final Durable Goods, EIA Nat Gas and DOE Crude Inventories, oh and the G-20 meeting in St. Petersburg where Putin and Obama are not expected to share much pleasantries, and where John Kerry's swiftboat may not be allowed to dock.