First it was the "most important" payroll print in years, then the "most important" retail sales number, and now we are just days ahead of the "most important" FOMC statement in years as well, as the fate of the centrally-planned markets lies in the hands of Bernanke's decision to taper, or not to taper. The main catalyst for now still appears to be an ongoing wrong interpretation of Hilsenrath's Thursday blog post in which some still see reaffirmation by the Fed that it won't taper, when all the Fed's mouthpiece said is that the short-end would be anchored even as the long-end is allowed to rise. Looking at the well-known no volume levitation futures action, which in the overnight session has wiped out all of Friday's losses and then some simply due to a 2.73% rise in the Nikkei overnight back above 13,000 driven by the USDJPY briefly regaining 95.00, the market has made up its mind (if only for the time being) that whatever decision the Fed takes regarding the monthly level of liquidity injection is a bullish one. At least until it changes its mind next.
Speaking of Hilsenleaks, the WSJ’s "Fed watcher" was back on the newswires on Sunday evening suggesting that the evolution of these forecasts could provide a strong clue as to the Fed’s tapering intentions. The Fed’s latest projections, made in March this year, saw real GDP growth of around 2.6% for 2013 and 3.2% for 2014. In terms of unemployment, the Fed projected a rate of around 7.4% in 2013, improving to around 6.9% in 2014. If and how these forecasts change could send an important signal about the Fed’s near term intentions. Hilsenrath writes that if the Fed maintains confidence in their economic forecasts, it could signal they think they're on track to begin pulling back on QE later this year.
Heading into the North American open, stocks in Europe are seen broadly higher, with telecoms and industrial sectors leading the gains. The Italian benchmark stock index has underperformed, with Saipem shares trading sharply lower, which in turn weighed on its major shareholder ENI after the company cut its EBIT guidance (again) due to significant deterioration in its Algeria business. The session so far has been characterized by distinct light volumes as market participants refrained from making directional bets ahead of the key FOMC meeting. On that note, Fed watcher Hilsenrath wrote that officials at the Fed are unlikely at this meeting to change their USD 85bn per month bond buying program and that what they say about the economy will send important signals about what they expect to do in the future. Looking elsewhere, overnight in Asia the Nikkei 225 index settled with decent gains and crucially above the key 13,000 level as the USD/JPY edged back towards the 95.00 level. However, a firmer spot failed to support the price action in the options market, where the shorter-dated implied vols remained under-pressure. Going forward, market participants will get to digest the release of the latest Empire Manufacturing report, as well as the NAHB report for the month of June.
SocGen looks at the key overnight macro catalysts:
The financial markets have hit some turbulence triggered by uncertainty in the lead-up to the Fed and the ECB releasing their monetary policies.
What will the Fed do? The market's current nervousness, synonymous with possible disturbances given the approach of tapering, could prompt the Fed to postpone any announcements. On the other hand, improving economic indicators appear to confirm the scenario of an exit. The focus should thus be on the FOMC Tuesday and Wednesday, especially since there will be a press conference afterward along with the presentation of the Fed's new forecasts. We doubt that Ben Bernanke would lay all his cards on the table this week.
Meanwhile, Asia is worrisome. Chinese indicators have been lukewarm. In addition, the BoJ's policy is raising more and more questions about its capacity to control the volatility it ignited on JGBs. The government's timid measures announced last week, along with promises of more substantial measures in the autumn, are anything but a bazooka.
Against this backdrop, and as long as uncertainty remains on both fronts, additional profit-taking on previously overbought assets is highly likely. Nevertheless, we continue to believe that this profit-taking phase will end up losing steam.
In all, even if it is chaotic, the uptrend in long-term US rates remains firmly in place: we are not changing our target of a 10-year Treasury yield of 2.75%. As for the forex market, we still think that the USD will strengthen in the second half: the EUR/USD should then be on its way to our year-end target of 1.20 while the USD/JPY should head toward 110.
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Finally, and as usual, Jim Reid does the full overnight event recap:
Strap in, hold on and get ready for what the market has turned into a crucial two-day FOMC meeting and subsequent Bernanke press conference on Wednesday. If that's isn't enough to get you excited then we also have the G8 leaders' summit today and tomorrow and the latest flash PMIs from around the world on Thursday.
Back to Bernanke, it’s worth being aware of what we've heard from the Fed over the last month and what the market has reacted to. In the recent JEC testimony (May 22nd) Bernanke continued to emphasise ongoing labour market weakness. However in the subsequent Q&A he said tapering “could” happen before Labor Day after responding to a question. The market pounced on this comment even if that maybe wasn't Bernanke's intention. However this reaction was in some respects supported by the FOMC minutes from the May 1 meeting, (also released on May 22nd). They were surprisingly hawkish and showed that a "number of participants expressed willingness to adjust the flow of purchases downward as early as the June meeting if the economic information received by the time showed evidence of sufficiently stronger and sustained growth”. So there is definitely some debate within the Fed but the data 6 weeks on from this meeting is still inconclusive. We suspect that this week Bernanke will continue to say tapering will happen at some point, could happen this year but will be data dependant and that we are still a long way off from removing the very easy policy stance the Fed has in place. We still think that the Fed will struggle to taper very much and very early but the debate is now going to be around for a while.
This week’s FOMC will also be interesting from the perspective that the Fed will be providing an update on economic projections for 2013-2015. Indeed, the WSJ’s Jon Hilsenrath was back on the newswires on Sunday evening suggesting that the evolution of these forecasts could provide a strong clue as to the Fed’s tapering intentions. The Fed’s latest projections, made in March this year, saw real GDP growth of around 2.6% for 2013 and 3.2% for 2014. In terms of unemployment, the Fed projected a rate of around 7.4% in 2013, improving to around 6.9% in 2014. If and how these forecasts change could send an important signal about the Fed’s near term intentions. Hilsenrath writes that if the Fed maintains confidence in their economic forecasts, it could signal they think they're on track to begin pulling back on QE later this year.
Turning to overnight markets, Asian stocks are starting the week on the front foot led by an 2.3% and 1.4% gain in the Nikkei and Hang Seng respectively. In Japan, real estate equities (-1.7%) are the only sector in the Nikkei to trade lower. This comes after Reuters reported that the BoJ is considering expanding its REIT asset purchases above its target of JPY140bn, in a sign that the BoJ may be responding to recent market movements (Reuters). However the incremental purchases are said to be relatively small at JPY10bn, which probably explains the disappointing price action in J-REITs this morning. USDJPY is trading 0.5% higher this morning at 94.8. Chinese stocks (Shanghai Composite –0.1%) remain near a six-month low after the Chinese finance ministry failed to sell all of its bonds at an auction on Friday, the first time in nearly two years that it has fallen short of its bond sale target (FT). The failed auction is being blamed on strained liquidity in the interbank funding market. Meanwhile Central Huijin, China's main holding company for state-owned financial institutions, intervened to buy the stocks of two Chinese FIs on Friday in a bid to boost market sentiment.
While the Fed and Bernanke will be taking the limelight this week, we also have a fairly big week of economic data and global/regional summits. First up will be a two-day G8 leaders’ summit commencing today in Northern Ireland. The Fed and the BoJ’s monetary policy are likely at the top the agenda but the meeting will be missing one key figure in the form of Bernanke who is presumably tied up with this week’s FOMC. President Barack Obama and Angela Merkel meet in Berlin on Wednesday following the G8 meeting.
In the US, this week’s data calendar starts with an update on Monday’s empire manufacturing followed by Tuesday’s CPI, housing starts and building permits, and ending with Thursday’s Philly Fed, existing home sales and flash PMI. On the micro-side, it’s also worth watching Fedex’s Q4 earnings report on Wednesday where the company’s outlook is usually scrutinised by markets for signals on near-term demand.
Across the Atlantic, the European data calendar gets off to a slow-ish start with Euroarea April trade (Mon) and the German ZEW survey (Tues) ahead of Thursdays flash PMIs. Consensus estimates are for a PMI composite Euroarea reading of 48.1, or 0.4pts higher than last month’s 47.7. The market is also calling for a 0.3-0.5pt improvement across the German and French manufacturing and service PMIs. The Eurogroup/ECOFIN meeting starts on Thursday with the expected agenda including latest reviews of the Greek, Irish, Portuguese and Spanish loan programs. Across the Channel, Chancellor Osborne is expected to use his annual Mansion House speech on Wednesday to confirm that the government is looking to privatise Lloyds and RBS banks. The BoE’s latest meeting minutes are released on the same day.
We have a quieter week ahead in Japan with May trade data together and the BoJ’s quarterly flow of funds report due on Wednesday. BoJ Governor Kuroda speaks on Friday at the annual meeting of the National Association of Shinkin Banks. In China, HSBC’s flash manufacturing PMI (prev: 49.2) is out on Thursday, following an official update on nationwide property prices on Tuesday.