Submitted by Michael Every of Rabobank
The First Cut Is The Weakest
I would have given you all of my mark (to market); but there's someone who's torn it apart
And he's taking just all that I had; but if you wanna try to buy again
Baby, I'll try to buy again, but I know
The first cut is the weakest, baby, I know; The first cut is the weakest
But when it comes to being lucky, he's cursed; When it comes to lovin' Trump, he's worse
With apologies to Sheryl Crow and none to the Fed, what a mess! The FOMC cut 25bp yesterday, despite starting the year planning further hikes, despite ultra-low unemployment, and despite their own general admission that everything is basically awesome. Yet we ended the day with stocks lower, the US yield curve viciously flattening, most so 2-30s, and the USD at a 2-year high. (A trend that doesn’t surprise us.) Mission ‘mis-accomplished’, Mr Powell.
What was the Fed’s key error? As our Fed whisperer Philip Marey points out here, basically the Fed Chair tried to make the case in his press conference that this was not the start of a proper easing cycle, but rather just a mid-cycle adjustment where rates could even go back up again at some point rather than just down, down, and down, as the market wanted to hear. NB You don’t not give the market what it wants: or at least you don’t and keep your job. Immediately following the Fed cut and market wobbly, President Trump tweeted: “What the Market wanted to hear from Jay Powell and the Federal Reserve was that this was the beginning of a lengthy and aggressive rate-cutting cycle which would keep pace with China, The European Union and other countries around the world. As usual, Powell let us down, but at least he is ending quantitative tightening, which shouldn’t have started in the first place - no inflation. We are winning anyway, but I am certainly not getting much help from the Federal Reserve!”
Trump would probably have been happier if there had been a 50bp cut, as in Brazil, on which note see Maurico Oreng’s coverage here; or perhaps even a 425bp cut as was last seen in Turkey? Regardless, our view remains the Fed will be dragged into a full-blown rate-cutting cycle - once it’s too late to prevent a US recession in 2020.
If that wasn’t enough for markets to fret about, over in Shanghai the US-China trade talks ended early with no results whatsoever. Indeed, the official stage-managed group photo released post-meeting was taken in front of a wall covered in ancient Chinese poetry I am reliably informed implies “It would be nice to have it, but we can live without it, and we will persevere.” True, the Tweet-happy editor of China’s Global Times let us know that in his view it was an “efficient and constructive deep exchange” but to my mind that is probably a script like this:
LIGHTHIZER: “Are you ready to make deep changes to the Chinese economy?”
LIU HE: “No. Are you ready to drop tariffs to allow more constructive market access for China?”
LIU HE: “ OK, at least that was efficient. Let’s take a photo and you can go home.”
Of course, our view remains that there is no real trade deal to be done even if the two sides meet again in September: and that’s also a strong USD story.
Meanwhile, there were other things happening yesterday. The US is apparently not going to remove waivers on foreign firms involved in Iran’s civilian nuclear program, which eases tensions a little; but it is going to personally sanction Iranian Foreign Minister Zariff after all. Iran itself is about to drop three zeroes from its struggling Rial, which US sanctions have crushed, and rename the currency the Toman. “Same-same but different,” as the Thais say. The US senate is also pressing ahead with a bill to put sanctions on any firms involved in building Nordstream 2 and Turkstream, the new gas pipelines Russia has been pressing ahead with to bring supplies to Europe while circumventing Ukraine. That’s yet another potential US-EU clash brewing, which an EU economy growing at 1.1% y/y and with core CPI at 1.1% y/y is of course ideally placed for.
In Asia, China has banned individual travel to Taiwan for its citizens starting from today in a demonstration of what strong-arm trade tactics really look like: who will be next to feel that cosh, one wonders? Luckily, Bloomberg reports of the PLA massing on Hong Kong’s border in Guangdong were wrong: it is merely 190,000 police officers, including helicopters and armoured vehicles, who are marching up and down in a warm-up for the 70th anniversary of the founding of the People’s Republic a long, long way from Beijing where these things usually happen. All a coincidence, of course, as Hong Kong heads to more protests this weekend and rumours of a general strike on Monday. Meanwhile, the HKMA has happily cut rates to follow the Fed, having not really raised rates much most of the time the Fed has been doing so. But it’s hardly alone in that, now is it?