April 10th, 2017 6:55 am

Via Marc Chandler at Brown Brothers:

Drivers for the Week Ahead

  • Even though the Federal Reserve does not meet, Yellen’s speech on Monday (with live and Twitter-sourced questions) will be closely monitored
  • Economic data for the US and Europe may not be important drivers
  • The UK reports on inflation and employment in the holiday-shortened week
  • EM FX weakness is carrying over to this week, due in large part to rising political risks

The dollar is mostly firmer against the majors as the holiday-shortened week starts.  Markets remain nervous after US missile strikes on Syria, amidst reports that a US aircraft carrier has been diverted to waters near North Korea.  Sterling and Nokkie are outperforming, while the euro and Aussie are underperforming.  EM currencies are mostly weaker.  IDR and PHP are outperforming, while ZAR and KRW are underperforming.  MSCI Asia Pacific was flat, with the Nikkei rising 0.7%.  MSCI EM is down 0.5%, with China markets falling 0.3%.  Euro Stoxx 600 is down 0.2% near midday, while S&P futures are pointing to a lower open.  The 10-year UST yield is down 1 bp at 2.37%.  Commodity prices are mixed, with up 0.8%, copper down nearly 1%, and gold down 0.1%.  

There were no celebrations; no horn or trumpets, nary a sound, but an important shift took place last week.  The shift was signaled by two events.  The first was the US strike on Syria, and the second was investors’ willingness to look past Q1 economic data.  

The US missile strike on Syria was significant even if it fails to change the dynamics on the ground.  It undermines the Trump Administration’s ability to “reset” the US relationship with Russia.  What the new Administration recognized last week is that the tension in the US-Russian relationship was not a function of personalities or leadership styles but a genuine and fundamental difference of national interests. Russia supports the Assad regime as it supported his father’s.  It is the key way Russia can project its power and influence into the Middle East.  

The G7 finance ministers meetings understandably are important for investors.  The meeting of foreign ministers hardly draws much notice.  However, their meeting on April 10-11 will attract interest.  Many have labeled the Trump Administration as isolationist due to its criticism of the WTO, the UN, and other multilateral arrangements.  However, we have argued this misunderstands the thrust of the Trump Administration.  It is unilateralist, not isolationist.  

An isolationist may argue that there is not a direct national interest at stake, and killing people (including children) with missiles from the sky to punish a government who killed people (including children) with gas does not make sense.  A multilateralist would have allowed UN investigation and international law to run its course.  The US, arguably, has a vested interested in the international rule of law.  What the Kremlin has called a significant blow to US-Russian relations may allow a new convergence of US and Europe perceptions of the threat Russia poses, but whether diplomats can work it out is a different matter.  

Nevertheless, the Russian ruble will likely yield to the changing circumstances.  It has been the strongest currency in the world since the US election, gaining 11.4%.  It had made new highs for the year last week prior to the US missile strike (as the US dollar fell to almost RUB55.80).  It would not be surprising to see the ruble unwind a good part of these gains, giving the dollar scope to rise toward RUB60-RUB62.  The dollar-ruble exchange rate and oil prices typically are inversely correlated.  On a rolling 60-day basis, the correlation of the percent change in the exchange rate and the Brent prices is -0.34, which is among the least over the past year.  

Meanwhile, the EU and Greece appears to be nearing an agreement that will free up another payment tranche that will allow Greece to make a large debt payment to its official creditors that comes due in a few months.  Greece’s 10-year bond yield fell 19 bp to 6.86% last week.  The yield peaked two months ago near 8.10%.  It began the year near 7.10%.  However, one key piece of the puzzle is missing:  the IMF.  

The IMF’s role is important because both the German and Dutch parliament say it is a prerequisite for their continued participation.  The IMF has come under criticism from many of its non-European members, including the US, for overruling its own internal policies and overexposing the multilateral lender to Greece.  The US continues to enjoy a sufficiently large quota (votes) at the IMF to be able to veto a commitment of new funds.  

Blocking the IMF from participating in new lending to Greece could come at an awkward time for Germany, given the national election in less than six months.  Also, while there is awareness of the French presidential contest, few have focused on the legislative election in June.  Neither of the leading candidates (Macron and Le Pen) commands a bloc in the current legislature.  The French premium over German is elevated even if stable in recent weeks, but it is likely to persist for much of the second quarter.  

The week ahead is short.  After Wednesday, April 12, full liquidity will not return until April 18, following Easter Monday.  The Bank of Canada is the only major central bank that meets.  There is little doubt that policy is on hold.  Under Governor Poloz, the central bank is very cautious despite a strong rebound in the last two quarters of 2016 (2.8% annualized pace in Q3 and 2.6% in Q4).  The economy expanded by 0.6% in January, which was twice the pace expected.  The labor market has been firm, even if exaggerated, which should help underpin demand going forward.  The central bank expects the output gap to take another year to close (mid-2018).  Bringing it forward could spark investors to anticipate a rate hike sooner.  Uncertainty about US policy (trade and fiscal) may discourage a significant change in rhetoric.  

Even though the Federal Reserve does not meet, Yellen’s speech on Monday (with live and Twitter-sourced questions) will be closely monitored.  Since the FOMC minutes, the focus has shifted toward the Fed’s balance sheet.  There remain three issues of concern.  The first is when the Fed will stop reinvesting maturing issues.  Many had expected this to be a 2018 story, but the minutes and Dudley’s comments suggest Q4 is possible.  

The second issue is how this will be executed.  Will the Fed focus on its MBS portfolio or its Treasury assets?  The initial inclination is to do both.  Should it be done all at once or should it be phased in over time?  The mere fact that it doing it at once is even considered is striking.  That course would be very aggressive given the maturing issues over the next two years (2018-2019 ~$770 bln of the $2.4 trillion Treasuries held by the Fed will mature).  The Fed seeks to do it in a way that is predictable and transparent for investors and not disruptive.  

The third issue is the relationship between the balance sheet and the Fed’s interest rate policy.  It is clear that the Fed will rely on its Fed funds target is its primary tool.  Dudley has suggested that when the balance sheet begins shrinking, the Fed could pause in the interest rate cycle.

The initial scenario that this suggests may be a hike in June and September, providing the opportunity is still there, pausing to slow the reinvestment process before (ideally) resuming the rate hikes in 2018.  An important caveat that investors need to bear in mind is that the configuration of the Federal Reserve Board of Governors will significantly change over the next 12-15 months.  We had been surprised that the Fed’s dots last month did not seem to line up with the rhetoric, but the balance sheet discussion that was aired in the minutes may explain why.  

Economic data for the US and Europe may not be important drivers.  We note that the two most important US data points, March CPI and retail sales, will be reported on Good Friday, which is a holiday for many.  The Fed’s March hike means that US Q1 data is of little consequence.  Policy is forward-looking, as are investors.  A tick down in the pace of CPI and soft headline retail sales which are expected will simply confirm what investors already know.  Price pressures are elevated but not accelerating, and after a shopping spree in Q4 16, American consumers pulled back in Q1 17.  

The Atlanta Fed’s Q1 GDPNow forecast was halved lasted a week.  It now suggests the US economy nearly stagnated in Q1 (0.6% at an annualized pace).  However, the NY Fed’s tracker put growth near 2.8% in Q1.   Even splitting the difference (1.7%) seems unrealistically high.  

In Europe, the aggregate February industrial production will be reported.  In the national reports, German surprised big on the upside, while France and Spain disappointed.  Italy reports an hour before the aggregate figure.  The median Bloomberg forecast is for a 0.1% gain.  The risk is on the downside.  

There are two important points to be made.  First, the survey data in Europe, like in the US, appears to be running ahead of actual performance.  The key question is how these will realign.  How much does growth improve?  We are more confident that below trend Q1 US growth will yield to stronger growth in Q2 than we are that eurozone growth can accelerate much from the current pace.  Sentiment indicators may also soften in the months ahead.  

The second point is that for the ECB’s reaction function, the real sector is not the driver of policy.  It is to boost consumer prices toward the ECB’s target of near but less than 2%.  However, there are now numerous case experiments, and it is not clear that expanding the central bank’s balance sheet through the purchase of debt has a very high success rate it boosting the basket of goods and services that make up the CPI.  The rise in inflation that raised the ire of the Bundesbank and a few other European central bankers was a mirage caused primarily by the recovery in energy prices.  Core inflation bottomed in early 2015 at 0.6%.  The ECB’s balance sheet has expanded by more than a trillion euros, and the initial estimate suggests that core inflation stood at 0.7% last month.  

The UK reports on inflation and employment in the holiday-shortened week.  Core inflation in the UK is expected to tick down to 1.9% from 2.0%.  Headline inflation may slow, but if it does, it will likely prove temporary.  The past decline in sterling and the rally in energy prices have not completely worked their way through the system.  Inflation has yet to peak in the UK.  On the other hand, the labor market remains firm, and the ILO measure of unemployment is expected to be steady at 4.7% in February.  

The market often pays more attention to the average weekly earnings than to the unemployment rate. Average weekly earnings are expected to be steady at 2.2%, but they appear to be holding up due to bonus payments.  Excluding bonuses, average weekly earnings growth is expected to slow to 2.1% from 2.3%.  That would be the slowest rise since last July, which itself was the lowest since the end of 2015.  Softening wage growth will likely allow the BOE to look past the near-term overshoot of inflation.  

US 10-year yields (as a proxy for the rate differential) still seem to be the single largest influence on the dollar-yen exchange rate. However, there are a couple of economic reports that are important for investors.  First, Japan reported a larger than expected February current account surplus.  February always improves over January, as Japan’s surplus was JPY2.8 trln vs. JPY2.5 trln expected and JPY65 bln in January.  In February 2016 it was almost JPY2.4 trln, and in February 2015 it was nearly JPY1.5 trln.  Still under-appreciated by many, Japan’s current account surplus is driven more by its investment income balance than its trade balance.  Moreover, in February, the US Treasury makes a coupon payment, and as of the end of January, US data suggests Japanese investors held $1.1 trillion of US Treasuries.  

The strengthening international activity for Japanese companies is boosting capital expenditures and industrial output in Q1.  This will likely be seen in the upcoming machine tool orders and industrial output figures.  Also, Japanese fund managers had been sellers of foreign bonds and stocks in recent weeks but turned buyers at the end of March.  A renewed portfolio outflows can remove one source of the upward pressure on the yen.  On the other hand, the anticipation of a weaker yen may encourage foreign investors to return Japanese equities, which underperformed in Q1 (both the Nikkei and Topix have fallen thus far this year while the other G7 markets have risen).  

Lastly, we note that Australia may receive more attention too.  The Australian dollar was the weakest of the major currencies last week, falling 1.7% to its lowest level since mid-January.  It reports mortgage lending, which probably was flat in February, and credit card usage before the employment report on April 12.  The median expectation in the Bloomberg survey calls for a 20k increase in net new jobs Down Under.  It would be the most in four months.  The unemployment and participation rates are expected to be unchanged at 5.9% and 64.6% respectively.  

Although speculators in the futures market are still net long Australian dollars, the more recent price action warns of a sentiment shift.  The RBA is thought to be one of the few major central banks that could still cut interest rates later this year.

EM FX is carrying over to this week, due in large part to rising political risks.  Risks of further flare ups in Syria could lead to more risk-off trading, with RUB remaining under pressure.  Reports of a US aircraft carrier heading to waters near North Korea have likewise pressured KRW.  Domestic concerns are likely to weigh on TRY and BRL this week.  Next weekend’s referendum in Turkey could cement Erdogan’s rule further, while Brazil’s Congress has forced Temer to water down his reforms.  All in all, we think EM is likely to remain under pressure this week ahead of key US data Friday.      

Treasury Auctions This Week

April 10th, 2017 12:42 am

The Treasury will auction 3s 10s and 30s this week. Here is some interesting commentary from Ian Lyngen at BMO Capital markets on auction dynamic. This is an excerpt from a longer note to clients:

We’ll also see the takedown of the 3s, 10s, 30s trio of Treasury auctions on an accelerated scheduled with the first installment on Monday afternoon. While the shift in timing and holiday closures might intuitively be concerns for auction participation, this week’s $56 bn in gross issuance will be more than offset by $76.8 bn in maturities, leaving a net paydown of $20.8 bn.  For context, this will be the largest paydown on record for this trio and in fact, one needs to go back to May 2008 (prior to the introduction of the 3-year) for find a larger paydown. The influence on the auction process is less obvious from the net negative cash need, but we struggle to view this as anything outside of a bond-bullish underpinning.

Jobs Report Dissected

April 7th, 2017 10:33 am

Via TDSecurities:

·         The March employment report was a mixed bag on the surface, with payrolls disappointing sharply. But this apparent softness was more than offset by a significant and healthy drop in the unemployment rate and continued firming in wage pressures.


·         The as-expected wage growth and out-sized decline in the unemployment rate suggest a June rate hike is still very much in play at the Fed, especially if weather was a factor driving the weakness in payrolls.


Nonfarm payrolls moderated much more than expected with a 98k increase in March vs a downwardly revised 219k in February. Net revisions over the prior two months totaled -38k. A return to more seasonal winter temperatures along with snowstorms in the eastern region had been expected to dampen the March figures. Adverse weather impacts appeared evident in construction payrolls, where job growth pulled back sharply (+6k) after an outsized 59k bounce in February. Private services also decelerated sharply to a subpar 61k advance, its slowest pace since May 2016. The weakness was concentrated in retail trade (-30k) and sharp moderations in education/health services & leisure hospitality. Finally, hours worked were on the weak side as well (34.3 hours).

That said, the household survey reported “not at work due to bad weather” at 164k, which is not that high relative to prior months; the average for March historical for this category is 152K. Conversely, Feb was very low on this measure, at 157k vs a historical average for that month of 364k. So that points in the direction of some give-back from an unseasonably warm start to the year in the establishment survey.

Meanwhile, the manufacturing sector continued to add jobs in line with survey employment indices albeit at a slower pace of 11k vs 26k. Mining employment continued to recover as well with a 11k advance, matching the gain in February. Government jobs also contributed positively to job growth, posting a 9k rebound.

The unemployment rate plunged to a new cycle low of 4.5% vs 4.7% in February on another strong rise in employment that offset a hefty drop in the unemployed. That left the participation rate unchanged at 63.0%, hence another “favorable” decline in the unemployment rate. Looking at broader measures of slack, the U6 rate fell further to 8.9% vs 9.2%, reflecting involuntary part-time workers slipping to post-recession lows. Meanwhile, the number and share of long-term unemployed workers moved lower and recorded new cycle lows as well.

Average hourly earnings rose 0.2% m/m, in line with expectations and on the heels of an upward revision to February (0.3% vs 0.2% previously reported). That left the pace of wage growth a touch lower at 2.7% from 2.8%. A rising trend in wage growth remains in place in our view.

Overall, this report was better than the headline payroll number suggests. The drop in the unemployment and underemployment rates will get the attention of Fed officials, along with steady participation and gradually improving wage growth. We think the case for a June rate hike has improved on this report – recall that FOMC participants expect the trend growth rate of nonfarm payrolls to be in the vicinity of 100k – and would not be surprised to hear a few Fed officials sound a bit more hawkish with an unemployment rate now at their expected low for the end of this year.


April 7th, 2017 6:41 am

Via Marc Chandler at Brown Brothers :

Dollar Firm Ahead of Jobs Report Amidst Rising Geopolitical Risks

  • The highlight today is the March US jobs data
  • Geopolitical concerns are rising, but the impact on markets is unclear
  • Canada also reports March jobs data
  • Mexico reports March CPI, which is expected to rise 5.31% y/y

The dollar is mostly higher against the majors ahead of the jobs report.  Markets remain nervous after US missile strikes on Syria.  The yen and Loonie are outperforming, while sterling and Aussie are underperforming.  EM currencies are mostly weaker.  INR and PHP are outperforming, while RUB and TRY are underperforming.  MSCI Asia Pacific was up 0.2%, with the Nikkei rising 0.4%.  MSCI EM is down 0.3%, with China markets rising 0.1%.  Euro Stoxx 600 is down 0.4% near midday, while S&P futures are pointing to a lower open.  The 10-year UST yield is down 2 bp at 2.32%.  Commodity prices are mixed, with WTI oil up 1.4%, copper down 1%, and gold up 1%.

The highlight today is the March US jobs data.  Consensus is 180k vs. 235k in February.  However, there is risk that the jobs data is disappointing, especially after the stronger than expected ADP estimate.  We suspect that the same forces that weighed on March auto sales also may have slowed net job growth; namely the weather and reversion to mean.  

US non-farm payrolls rose more in January and February than in Q4 16 (473k to 443k).  Better weather may have inflated February’s results, and March’s storm warns of payback.   Weekly initial jobless claims also moved higher. The PMIs and I‎SMs showed softness in labor indicators. ADP stands as an exception, and its curve fitting tendency may be picking up the echo of past job strength while underestimating the impact of weather.  There is also risk that this spills over and impacts hours worked.  A 0.3% rise in hourly earnings is necessary to keep the year-over-year rate steady at 2.8%, which is anticipated.

A disappointing report means little in the grand scheme of things.  Growth appears to have slowed as the consumer pulled back after a shopping spree in Q4 16.  However, the Fed hiked last month, and its future course has little to do with March jobs report.‎  No one really expects a May hike.  The CME’s model suggest about 6.3% chance is discounted, and for good reason.  Whatever “gradual” normalization means, it does not mean hikes at back-to-back meetings.  Nevertheless, disappointment would likely weigh on the dollar.  

Geopolitical concerns are rising, but the implications for global markets are a bit unclear.  The US launched missile attacks on Syria in retaliation for Assad’s use of chemical weapons on civilians.  There was an initial risk-off reaction on news of the strikes, but markets have since stabilized.  The ruble remains down -1%, however, as US actions in Syria will raise tensions with Assad’s chief backer, Russia.  We expect nervous, choppy trading conditions to continue as we go into the weekend.  With Turkey also a big regional player in Syria, TRY is also suffering.  

The euro remains heavy, but has not been able to break this week’s low near $1.0630.  Same goes for dollar/yen despite the yen being the best performing major this week, as the pair continues to flirt unsuccessfully with the 110 level.  AUD is the worst performing major this week, and appears to be headed for a test of the 0.75 level.  Sterling is the second worst performer this week.

During the North American session, the US also reports February wholesale trade and inventories, as well as consumer credit.  The only Fed speaker today is NY Fed President Dudley at 1215 PM ET.  

Germany reported February IP, current account, and trade.  IP jumped 2.2% m/m vs. -0.2% expected.  Yesterday, Germany reported February factory orders.  Due to a quirk, the 3.4% m/m gain was weaker than expected, while the y/y rate of 4.6% was stronger than expected.  The trade and current account surpluses were both larger than expected, as exports rose and imports fell.  Elsewhere, French IP disappointed, falling -1.6% m/m instead of rising the expected 0.5%.

The UK also reported February IP, construction output, and trade.  IP slumped -0.7% m/m vs. the 0.2% gain expected, while manufacturing production fell -0.1% m/m vs. the 0.3% gain expected.  The visible trade balance came in at -GBP12.5 bln vs. -GBP10.9 bln expected, while the January deficit was revised higher.  Lastly, construction output fell -1.7% m/m vs. the 0.1% m/m gain expected, though the January drop was revised higher to a flat reading.

BOE Governor Carney warned banks to put contingency plans in place for all potential Brexit outcomes.  While Carney has been accused of being too pessimistic with regards to Brexit, the recent string of weak UK data has made markets nervous.  Cable has fallen every day this week except Wednesday, and is the first down week in the past four.  Next near-term targets to look for are $1.2365 and $1.2300.  

Canada also reports March jobs data.  Consensus is 5.7k vs. 15.3k in February, but the mix is important.  Last month, full-time employment rose 105.1k but was offset by a loss of 89.8k in part-time employment.  The March Ivey PMI will also be reported today, with consensus at 56.0 vs. 55.0 in February.

The next BOC policy meeting is April 12.  We expect the bank to maintain its dovish bias.  Last month, the BOC highlighted the amount of slack that’s still left in the economy.  USD/CAD is lower today after having trouble breaking above the 1.3450 area this week, failing the last three days.  Break above targets the March high near 1.3535, while a failure to break it today could see a setback to the 1.3350 area.

Mexico reports March CPI, which is expected to rise 5.31% y/y vs. 4.86% in February.  Banco de Mexico just hiked rates 25 bp last week to 6.5%, as expected.  If inflation continues to move further above the 2-4% target range, we think that another 25 bp hike is likely.  However, it may stand pat at the next policy meeting May 18 and then hike at the June 22 meeting, presumably after the Fed hikes 25 bp on June 14.


April 6th, 2017 6:32 am

Via Marc Chandler at Brown Brothers Harriman:

Euro Resilient Despite Draghi’s Dovish Signals

  • ECB President Draghi made it clear that the market’s hawkish take on recent comments was undesirable
  • Some points about the FOMC minutes are worth mentioning, as the Fed put a lot of focus on balance sheet issues
  • Reserve Bank of India surprised markets and hiked the reverse repo rate 25 bp
  • Israel and Peru expected to keep policy unchanged

The dollar is mixed against the majors in choppy trading.  Nokkie and Kiwi are outperforming, while Stockie and Aussie are underperforming.  EM currencies are mostly weaker.  ZAR and MXN are outperforming, while KRW and TWD are underperforming.  MSCI Asia Pacific was down 0.8%, with the Nikkei falling 1.4%.  MSCI EM is down 0.6%, with China markets rising 0.3%.  Euro Stoxx 600 is down 0.4% near midday, while S&P futures are pointing to a lower open.  The 10-year UST yield is up 2 bp at 2.35%.  Commodity prices are mixed, with oil up 0.1%, copper down 0.3%, and gold down 0.2%.  

ECB President Draghi made it clear that the market’s hawkish take on recent comments was undesirable.  Specifically, he said ““We have not yet seen sufficient evidence to materially alter our assessment of the inflation outlook -– which remains conditional on a very substantial degree of monetary accommodation.  Hence a reassessment of the current monetary policy stance is not warranted at this stage.”  

ECB’s Praet also made similar statements supporting Draghi’s stance.  Indeed, the two seemed to push back against Weidmann’s comments earlier implying normalization of monetary policy was warranted.  The ECB will publish the account of its last policy meeting later today.  There is clearly a debate raging at the ECB, but we believe Draghi is in the driver’s seat.  We expect a similar pushback from Draghi at the next ECB meeting April 27.

Germany reported February factory orders.  Due to a quirk, the 3.4% m/m gain was weaker than expected, while the y/y rate of 4.6% was stronger than expected. January readings were revised upward.  

Needless to say, the euro has been choppy today.  It fell to near $1.0630 before bouncing to trade flat on the day currently around $1.0665.  The March 15 low near $1.06 is the next near-term target.  However, a break of the $1.05 area is needed to set up a test of the January low near $1.0340.        

Some points about the FOMC minutes are worth mentioning, as the Fed put a lot of focus on balance sheet issues.  The Fed seems to favor shrinking the balance sheet this year.  It seems to favor tapering reinvestment rather than stopping abruptly.  The Fed also seems to favor letting maturing bonds roll off, and they will not sell any outright.  It hopes to alert markets “well in advance” of when it starts reducing the balance sheet, presumably to prevent any panicky market reaction.  

Many issues still need to be discussed at upcoming meetings.  For instance, some FOMC members want the start of balance sheet reduction to be triggered when the fed funds rate hits a specific level, while others want to make the choice data dependent.  The FOMC also is split on whether to target a time limit for balance sheet reduction or to target a specific balance sheet size.  

Bottom line:  The Fed wants to act very, very cautiously on the balance sheet issue while at the same time maintaining maximum operational flexibility.  Yet the discussion of balance sheet reduction is another sign of growing confidence in the Fed’s efforts to normalize policy.  

During the North American session, the US reports weekly mortgage applications and jobless claims.  Both are minor, with markets looking ahead to tomorrow’s jobs report.  Williams is the only Fed speaker today, and he is not a voter this year.

Caixin reported China services and composite PMI readings for March.   They both softened to 52.2 and 52.1, respectively.  This comes after Caixin reported March manufacturing PMI last Friday at 51.2 vs. 51.7 expected, while official manufacturing PMI was reported last week at 51.8 vs. 51.7 expected.  Despite the divergence in these two series, markets appear comfortable with the mainland economic outlook.  

Reserve Bank of India surprised markets and hiked the reverse repo rate 25 bp.  No change was expected.  It had pretty much signaled an end to the easing cycle at its last meeting in February, but tightening was not expected until late this year.  Since the last meeting, price pressures have risen and the economy has picked up.  While the benchmark repo rate was kept steady at 6.25%, it’s clear that full-scale tightening will be seen this year.

Israeli central bank is expected to keep rates steady.  CPI rose 0.4% y/y in February, and is moving closer to the 1-3% target range.  While there is no need for any further stimulus, we do not expect the tightening cycle to begin until 2018.  However, the central bank is likely to continue buying USD to prevent excessive ILS strength.

Peru’s central bank is expected to keep rates steady at 4.25%.  With inflation picking up to 3.25% in February, we think caution is warranted.  Once inflation moves into the 1-3% target range, we think the central bank consider starting the easing cycle near mid-year.     

FOMC Minutes Dissected

April 5th, 2017 10:38 pm

Via Stephen Stanley at Amherst Pierpont Securities:

Commercial Mortgages at Risk

April 5th, 2017 9:24 am

Via Bloomberg:


April 5th, 2017 7:19 am

Via Marc Chandler at Brown Brothers Harriman:

Dollar Mixed on Hump Day

  • The US reports weekly mortgage applications, ADP employment, Markit services and composite PMI readings, and the ISM non-manufacturing PMI
  • FOMC minutes will be released
  • Eurozone and UK services and composite PMIs were reported
  • Polls suggest that Le Pen fared poorly in last night’s French debate
  • ZAR is weaker on reports that Zuma will cling to power; Colombia reports March CPI

The dollar is mixed against the majors in choppy trading.  Stockie and sterling are outperforming, while the yen and Kiwi are underperforming.  EM currencies are mostly weaker.  INR and MXN are outperforming, while ZAR and TRY are underperforming.  MSCI Asia Pacific was up 0.2%, with the Nikkei rising 0.3%.  MSCI EM is up 0.4%, with China markets rising 1.4% after returning from a two-day holiday.  Euro Stoxx 600 is up 0.2% near midday, while S&P futures are pointing to a lower open.  The 10-year UST yield is flat at 2.36%.  Commodity prices are mixed, with oil up 1.1%, copper up 1.3%, and gold down 0.3%.

The dollar is mixed as markets remain choppy and uninspired.  US yields remains soft, with the 2-year yield at 1.26% and the 10-year at 2.36%.  The 2-year US-German differential stands at 203 bp, down a tick from yesterday and still well below the 223 bp peak in early March.  

Yesterday, markets got a surprise with Richmond Fed President Lacker’s immediate resignation over leaking of confidential information.  Back in January, Lacker had said he would resign in October.  Now, the resignation is effective immediately.  Lacker was one of the most hawkish at the Fed.  While the Richmond Fed was not a voting member of the FOMC in 2017, it will be in 2018.  

It’s worth noting that the regional Fed presidents are picked by the board of directors of each regional Fed.  On the other hand, Fed Governors are picked by the President of the US.   Two governorships remain vacant, while Tarullo’s resignation takes effect today.  Next year, both Yellen’s and Fischer’s terms as Chair and Vice Chair are up, and neither is likely to be reappointed.  Filling these posts will allow President Trump to significantly shape US monetary policy in the coming years.    

During the North American session, the US reports weekly mortgage applications, ADP employment, Markit services and composite PMI readings, and the ISM non-manufacturing PMI.  The main focus data-wise will be ADP, with Bloomberg consensus at 185k currently.  More important may be the FOMC minutes that will be released in the afternoon.

There will be two important aspects of the FOMC minutes that will attract attention.  First, the Fed will introduce confidence cones around its forecasts.  This may help investors have a better appreciation for the forecasts, and surely why they are not point-specific promises.  Second, the FOMC likely had its first formal discussion of the balance sheet.  The key issue for the market is when and how it will be addressed.  

The modification of the rolling maturing issues into new issues is expected to take place very late this year or early next year.  It is not clear whether the Fed will focus on the MBS or Treasury portfolio or both.  There are a couple of caveats.  These discussions are still early in the process and there will likely be a wide spectrum of views which later will coalesce around two or three.  

Final March services and composite PMI readings for the Eurozone were reported.  The services PMI came in at 56.0 vs. 56.5 expected, while the composite came in at 56.4 vs. 56.7 expected.  Looking at the country breakdown, German services and composite came in close to expectations at 55.6 and 57.1, respectively, while French services and composite were softer than expected and came in at 57.5 and 56.8, respectively.  Spain was close to expectations, while Italy was weaker than expected at 52.9 and 54.2, respectively.

Polls suggest that Le Pen fared poorly in last night’s French debate.  An Elabe poll showed that 25% viewed Melenchon as the most convincing, followed by Macron with 21% and Fillon with 15%. Le Pen registered 11%.  In a separate poll, Melenchon, Fillon and Macron were all tied for most convincing at 18%, followed by Le Pen again with 11%.  With the unexpected surge of Melenchon, these numbers call into question whether Le Pen will even make it into the second round of voting.    

Although the euro slipped through $1.0650, it was not sustained, and on Monday and Tuesday, the euro finished near its highs. Barring a surprise, the euro can firm a cent over the next few sessions. The technicals look constructive.  The dollar looks better technically against the yen.  Buying emerges as JPY110 is approached.  Initial resistance is seen near JPY111.20.  Elsewhere, the $1.2350-$1.2400 may deter a deeper pullback in sterling.  

UK reported March services and composite PMIs too.  After weaker than expected manufacturing and construction PMI readings, services bucked that trend and came in at 55.0 vs. 53.4 expected.  UK composite PMI came in at 54.9 vs. 53.8 expected.

Japan’s service and composite PMI’s rose to 52.9 (from 51.3 and 52.2 respectively).  Data confirms what we (and others) have recognized, namely that Japanese growth strengthened in the first part the year, and begin Q2 on a solid note.    

Sweden reported February industrial production and orders.  Instead of the expected 0.1% m/m gain, IP rose 0.2%% while orders jumped 7.9% m/m%.  The Riksbank meets April 27, but no change in policy is expected then.  Indeed, despite headline CPI inflation at 1.8% y/y (underlying at 2.0% y/y) and the economy humming along, most expect the first hike from the Riksbank in 2018.    

The rand is on its back foot again on reports that Zuma will likely hang on to power.  That has been and will remain our base case, as he has survived numerous attempts during his two terms.  Reports suggest Zuma has retained the support of key ANC officials, despite the chorus of public calls for his resignation.  USD/ZAR is back above the key 13.75 area, which sets up a test of the November high near 14.65.

Colombia reports March CPI, which is expected to rise 4.74% y/y vs. 5.18% in February.  If so, this would move inflation closer to the 2-4% target range.  The central bank has cut rates several times already, and appears likely to cut 25 bp again to 6.75% at the next policy meeting April 28.  



April 4th, 2017 6:26 am

Via Marc Chandler at Brown Brothers Harriman:

  • US PMI report yesterday certainly supports the notion that price pressures are rising and the labor market is tightening
  • During the North American session, the US reports February trade and factory orders
  • RBA kept policy steady overnight, as expected; its statement was dovish
  • S&P cut South Africa one notch yesterday to sub-investment grade BB+; more downgrades are expected

The dollar is mostly firmer against the majors as risk off sentiment seems to be taking hold.  The yen and Swiss franc are outperforming, while the Antipodeans and Scandies are underperforming.  EM currencies are broadly weaker.  PHP and TRY are outperforming, while MXN and RUB are underperforming.  MSCI Asia Pacific was down 0.3%, with the Nikkei falling 0.9%.  MSCI EM is down 0.2%, with China markets closed for holiday.  Euro Stoxx 600 is down 0.1% near midday, while S&P futures are pointing to a lower open.  The 10-year UST yield is flat at 2.33%.  Commodity prices are mixed, with oil flat, copper up 0.1%, and gold up 0.5%.

US PMI report yesterday certainly supports the notion that price pressures are rising and the labor market is tightening.  Signs are pointing to a good NFP reading Friday, where Bloomberg consensus is currently at 175k.  After the PMI data, one would think that the 10-year yield would be closer to 2.5% than to 2.3%, and yet here we are at 2.33%, the lowest since February 24.

Yet the 2-year differential with Germany has widened out to 207 bp, the highest since March 17.  This has helped push the euro lower, though support is still holding around the $1.0650 area.   Most of this move has been from the German side, with yields falling as political concerns in France have risen.  The second televised debate between the candidates will be held tonight.

Eurozone reported February retail sales.  Instead of rising the expected 0.5% m/m, sales rose 0.7%, pushing the y/y rate up to 1.8% vs. 1.0% expected.  This has had little impact on the euro today, as the markets continue to reassess their hawkish take on the March ECB meeting.

Furthermore, the mood in the markets today seems to be “risk off.”  This has helped the yen, with dollar/yen about to test the 110 area once again.  The pair has not been below 110 since mid-November, and a break below would set up a test of the 200-day MA near 108.50 currently.  

During the North American session, the US reports February trade and factory orders.  Fed Governor Tarullo speaks at 430 PM ET.  Fed officials continue to make a case for at least three hikes total in 2017.  Other central bank speakers of note include Norges Bank Governor Olsen (8 AM ET) and ECB President Draghi (930 AM ET).

Canada also reports February trade.  The Loonie was the worst performing major yesterday, due in part to lower oil prices and some reported M&A flows.  Further losses today saw the Loonie break above the $1.3430 area, which sets up a test of the March high near $1.3535.  The BOC meets next week and is likely to maintain its extremely dovish stance from last month.  

UK reported March construction PMI at 52.2 vs. 52.5 expected.  This was also lower than the revised 54.5 (was 54.6) in February.  Yesterday, manufacturing PMI came in at 54.2 vs. 55.0 expected.  Sterling’s rally against the dollar ran out of steam above the $1.26 area last month, and it continues to trade heavily as economic concerns mount. A break of the $1.23 area is needed to set up a test of the March low near $1.2110.

RBA kept policy steady overnight, as expected.  The statement was seen as dovish, however, as the central bank noted a deteriorating labor market and expressed concern about a strong currency.  Governor Lowe also criticized the nation’s banks for having lax lending practices, adding that regulators are prepared to take more macro prudential measures to limit this.  In other words, the bank is in no hurry to hike rates.  This helped negate an earlier AUD bid on the back of better than expected February trade data.  

AUD is testing its 200-day MA near .7550.  Break below sets up a test of the March low near .7490.  A break below .7455 and then .7385 is needed for a more bearish scenario to unfold.  Lower iron ore prices aren’t helping, falling below $80 for the first time since January.

Brazil reports February IP, which is expected to rise 0.3% y/y vs. 1.4% in January.  March IPCA inflation will be reported Friday, which is expected to rise 4.57% y/y vs. 4.76% in February.  Inflation continues to move closer to the 4.5% target, and remains well within the 2.5-6.5% target range.  With the economy so weak, markets are looking for a 100 bp cut to 11.25% at the next COPOM meeting April 12.

S&P was the first of the agencies to move, cutting South Africa one notch yesterday to sub-investment grade BB+.  This should not come as a big surprise, as it has been long overdue.  We also agree with S&P’s decision to keep the outlook at negative, as our own sovereign ratings model shows South Africa’s implied ratings at BB/Ba2/BB.  Break of the 13.7575 area sets up a test of the November high near 14.65.

Moody’s gives its review this Friday, and we believe a one notch cut to Baa3 is a done deal.  However, there is a small chance of a two notch cut to Ba1.  Note that many investment grade bond indices require an investment grade rating from at least two of the three major agencies, and so the next cut to sub-investment (likely by Fitch) would lead to forced selling.  

Corporate Bond Stuff

April 4th, 2017 6:00 am

Via Bloomberg:

Lowest IG Trading Volume in 6 Weeks; Spreads Steady
2017-04-04 09:55:47.330 GMT

By Robert Elson
(Bloomberg) — Secondary IG trading ended with a Trace
count of $13.5b vs $19.5b Friday, $13.9b last Monday. It was the
lowest trading volume since $13.46b on Feb. 17.

* 10-DMA $17.7b; 10-Monday moving avg $16.3b
* 144a trading added $2b of IG volume vs $2.4b Friday, $1.9b
last Monday

* Top 3 most active issues:
* CS 2.30% 2019 was 1st with 2-way client flows accounting
for 97% of volume
* VZ 5.15% 2023 was next with client and affiliate trades
taking 92% of volume; selling 1.6x buying
* F 3.339% 2022 was 3rd; near even client flows took 100%
of volume
* BMW 1.50% 2019 was most active 144a issue with client flows
taking 100% of volume

* Bloomberg Barclays US IG Corporate Bond Index OAS unchanged
at 118
* 2017 wide/tight: 122/111
* 2016 wide/tight: 215 (a new wide since Jan. 2012)/122
* 2015 wide/tight: 171/122
* 2014 wide/tight: 137/97
* All time wide/tight back to 1989: 555 (Dec. 2008)/54
(March 1997)

* BofAML US Corporate IG Index at +124, unchanged; +118, the
tight YTD and the tightest level since Sept. 2014 was seen
Mar. 2-6

* Standard & Poor’s Global Fixed Income Research IG Index at
+165 vs +164; +161, the tightest spread back to at least
2015 was seen March 2-8

* Current market levels vs early Monday:
* 2Y 1.246% vs 1.262%
* 10Y 2.328% vs 2.384%
* DOW futures -54 vs +26
* Oil $50.11 vs $50.62

* No IG issuance totaled just $2.75b Monday
* March Issuance Stats ~$167b
* YTD volume ~$512b; Ex SSAa ~$399b

* Pipeline: GMKNR to Price; Glaxo Files, SANTAN Mandate
* Note: subscribe bar in upper left corner