Newsflow has been quiet to start the week and end the month. US equities are ending a strong August on a flat note, the US Treasuries curve has flattened and the USD remains on the soft side. The NZD and AUD have printed fresh year-to-date highs.
The S&P500 has traded a tight range and is currently flat, on track to record the strongest August since 1986, up over 7% for the month. The Euro Stoxx 600 fell by 0.6% (and up only 2.9% for the month), while Japan’s Nikkei index closed up 1.1%, after legendary investor Warren Buffett declared investments of $6bn in five of Japan’s largest trading companies, which had all been trading at discounts of more than 25% against NTA.
Newsflow has been light and end-of-month flows have likely been a factor in trading for the day across asset markets. Fed vice-Chair Clarida gave a speech which reiterated the Fed’s new monetary policy framework outlined by Chair Powell last week, regarding the new “average” 2% inflation target and one-sided employment objective. There was little new information, but he did confirm that “yields caps and targets [ie yield curve control like the RBA] were not warranted in the current environment but should remain an option that the committee could reassess in the future if circumstances changed markedly”.
Clarida added that the FOMC might offer “refinements” to the Summary of Economic Projections (SEP) in light of the changes to the framework, with a decision of any potential changes by the end of the year. The SEP is currently published quarterly, providing the FOMC members’ economic and rates projections. Furthermore, he didn’t want to pre-judge any decision regarding potential changes in the Fed’s rates guidance or balance sheet communication.
The US Treasury yield curve has flattened slightly, reversing some of the move seen at the end of last week after Powell’s speech. The US 30-year rate is down 2bps to 1.48%, the 10-year rate is down 1.5bps to 0.705% and the 2-year rate is flat at 0.13%. Still, the message that a higher inflation rate will be tolerated has pushed up 10-year break-even inflation rates further to a fresh high, up 1.5bps to 1.79%, seeing real yields fall another 3bps.
In economic news, European inflation rate were weak, with annual CPI inflation negative in August for Germany, Italy and Spain. Yesterday, China PMI data reaffirmed the economic expansion currently underway. The final readings for the ANZ NZ business outlook survey were similar to the early-August estimates, showing very low levels of confidence and sub-par trading conditions.
The USD remains on the soft side, although further losses have been well contained. As we noted in our weekly currency update yesterday, regarding the NZD the Fed’s super-dovish policy stance is more than offsetting the RBNZ’s super-dovish policy stance, with the former supporting risk appetite and commodity prices, two supporting factors for the NZD. The NZD hit a fresh year-to-date high of 0.6763 overnight and has since slipped to 0.6750, up slightly from where it closed last week. The AUD broke up through 0.74 for the first time in two years and is currently 0.7390, up 0.4% for the day.
EUR met resistance at the same level seen mid-August, at 1.1966 and is currently up 0.3% at 1.1940. JPY has been the softest of the majors, with USD/JPY up 0.4% to 105.85, reversing some of the move seen late last week which occurred after reports of PM Abe stepping down for health reasons. NZD/JPY is 0.5% to 71.4 after meeting resistance at 71.7, the same level it failed to breach during previous run-ups in June and July.
The NZ bond market had a busy day yesterday but the net result was little change in yields across the curve. The 10-year rate was unchanged at 0.63%, but notably down 12bps in yield for a month in which yields in other key markets were all higher, including increases of 17bps for the US and Australian 10-year rates. This NZ bond market outperformance reflected the aggressive bond buying programme of the RBNZ which kept NZ rates suppressed. For the month, there was little bang per buck for the RBNZ on the currency side, with its $4.7b of money-printing resulting in a slightly higher TWI.
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2 Comments
The bottom line is the FED has done nothing new whatsoever. This “new” framework had already been announced in May 2018 by Yellen. If you cast you mind back to then the market too got excited and then realised at best it means mild tolerance but certainly not a forbearance for elevated inflation. Merely formalising an existing stated policy is nothing more than bureaucracy.
The comments surrounding the employment are near enough exactly what we have been describing for nearly five years. Looking at unemployment rates in isolation is absurd as a measure of labour market health, as you need to also consider both participation rates and part-time factors at a bare minimum to ascertain labour market slack.
What is far more sinister is the FED’s de-facto admission that the neutral rate of interest for the economy continues to fall due to productivity and demographics. This is near enough the single most important point made by Powell in his commentary. However, whilst demographics are beyond their control, the rampant declines in productivity are at least in part due to the FED. They continue to enact policies facilitating debt build-up and now chronic zombification of corporates. Productivity is in the process of nose diving and the neutral level of interest rates with it.
A key problem is this sacrosanct mantra that US will never cut rates below zero. You can be 100% sure (yes 100% sure) as we see continued nominal GDP failures or the next "unforeseen" crisis manifest rates will simply have to be cut into negative territory or face the ravages of a debt deflation bust.
Please look back at the market’s lamentable track record of predicting rate paths, be it disbelieving that the BOJ or ECB would ever cut into negative territory, before the viral crisis pricing a normalisation of the ECB back to zero or the largely dismissive reaction we received on our 2019 call that the ECB would cut TLTRO rates beneath the deposit rate. There is a near enough 100% track record of markets being wrong , or at least very slow, big picture.
Following on from this, the concept of allowing inflation to run hot it something close to a fantasy as it has to be created in the first place. The real danger in the US, is simply that we have observed a transient stasis in the economy where the lower and middle segments have been simultaneously showered with money, receiving a pay hike in essence net of daily outgoings, affording consumption to remain elevated in comparison of other countries. The notion of the $100k+ upper middle classes and higher being a source of pent-up consumption is wrong as they typically had sufficient funds already and now will save additionally, in addition to becoming ever more fearful over jobs and for the retired population, health.
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