MORNING BID – Apres Fed, le Deluge

Sep 18, 2014 13:34 UTC

The Kremlinologists turned out to be right, and the Federal Reserve left its “considerable time” language in its statement to assure the markets that it would be around for a while longer with rock bottom rates. It’s the divergent (to a point) reaction out of the markets themselves that is interesting to parse, and will be key to watch in coming weeks and months. The action in the stock market was to suggest the entire exercise was a snooze-fest, with stocks ending marginally higher (yes, the Dow at a new record) but not too far from where the major averages were trading just before the news. Which is to say the equity market, always the most optimistic of U.S. markets, has it in mind that low rates stay for now, and until “now” is “then,” it’s time to party.

Bond markets, inflation-protected securities and the currency markets saw things differently, and it’s those markets that may be more instructive to watch as the days and months go on and on. The five-year TIPS note saw its yield break above zero for the first time in ages, a sign that investors are starting to worry more about inflation, or higher Fed rates, which is interesting as consumer price data showed year-over-year inflation fall to a 1.7 percent rate earlier in the day. The dollar put together another strong rally, meanwhile, with the dollar index hitting highs not seen in 14 months and big rises against its main companions, the euro and the yen. And this is where the dot matrix comes in.

The dots, of course, are not an array of Janet Yellen’s prowess (or lack thereof) at the firing range, but the expectation from Fed officials on where they see rates in coming years. With 2017′s dots all suggesting rates at greater than 3 percent – and closer to 4 percent – the currency market has taken the hawkish outlook here, as Jens Nordvig, strategist at Nomura, said in an email to Reuters. There were two dissenters – the usual suspects, Charles Plosser of Philly and Richard Fisher of Dallas – who were not thrilled to see the statement so dovish, and so Nordvig takes all this and says that this should be “enough to sustain USD uptrend vs G10″ currencies, so, against the yen, euro, Swiss franc, pound and all the others.

He does warn, however, that the kind of uncertainty that would drive significant outperformance against the emerging markets currencies is not yet present, given rates are going to be low for some time, so that firm is closing some call options outstanding against the peso and ringgit while sticking with long bets against the yen and euro. “It will also soon be time to ask new questions on the Dollar. What will be the pace of tightening the US economy can cope with? What is the strength of capital flows into the US? Answers to these questions will determine whether the relatively sharp Dollar move in the last 2-3 months can be extrapolated over the next 3-6 months,” he wrote in late commentary Wednesday. There’s also the possibility, of course, that markets overreacted to the Fed – another soft jobs report would undo a lot of the recent gains in the dollar, or even a couple of other second-tier indicators reinforcing the notion that the outlook from individual Fed members on rates is just that – an outlook – and as a result cannot be trusted insomuch as the data will tell them what to do, dots and dollar strength and models be damned.

The dollar strength may be temporarily interrupted as investors await the overnight results of the Scottish referendum to decide whether the movie Braveheart was all for nothing (I think that’s what the vote is for, anyway). Varying polls have swung the pound wildly in recent days, but the latest set of polling seems to suggest a modest win for those who want to maintain the current situation, where Scotland remains the northern part of the United Kingdom rather than strike out on its own and force the English to build a 700-foot wall to keep them out (again, not sure if that question is on the ballot or not).

MORNING BID – European Deflation

Aug 28, 2014 14:16 UTC

Never say the Europeans aren’t cautious. The dollar has been on a roll of late, in part because of the market’s growing expectation for more stimulus from the European Central Bank before long that would include some kind of larger-scale quantitative easing program after a speech last week from Mario Draghi that European markets seem to still be reacting to several days later. Reuters, however, reported that the ECB isn’t quite likely to do move quite so fast (heard this one before) and that took some of the wind out of the dollar’s sails and boosted the euro a bit.

Some of the move in the euro will depend on the trend in European yields, where everything is going down – German Bunds continue to make their way rapidly toward zero, and Bund futures remain in an overwhelming bullish trend, per data from Bank of America-Merrill Lynch. Analysts there also anticipate the dollar is going to experience some kind of medium-term correction – but remains in rally mode otherwise. There’s a headwind there for equities from that – rising greenback makes U.S. goods more expensive, but the gains are still only in earlier stages, and haven’t pushed into territory that would otherwise indicate surprising strength that we haven’t seen in some time.

What’s happening in part is that there’s been a definitive change in how bond markets are viewed – even the peripheral markets like Spain and Italy are less favorable as investments when compared with the United States; Merrill analysts foresee more of a move into U.S. fixed income assets after several months of seeing European funds garner strong inflows (the count is $158 billion to $86 billion, favor the Europeans so far this year). So what’s going on here? Many investors have been perpetually frightened of “catching a falling knife,” and the number of big-name bond managers who have shied away from Treasuries on the assumption that the Fed was going to declare the party over in due course are a great many. “The perceived tail risk associated with Eurozone bonds is lower than that for U.S. bonds,” they write.

Then again, this year has been a class study in foiled expectations, particularly in the bond market. Rates have remained stubbornly low; the bullish investors in the government market have reaped big rewards, and even if the U.S. dollar creeps higher, the ongoing interest out of pension funds for higher yielding credit will continue to pressure yields. And Merrill sees more buying in the bond market from foreigners, an increasing percentage of that from Europe and other investors. That should again benefit the dollar, which is expected to stay near where it is.

Morning Bid: Dollar Bills and Dollar Bulls

Jan 9, 2014 13:58 UTC

The dollar’s performance hasn’t been anything to write home about in the last few years. It has weakened against major currencies like the euro and the Swiss franc, and been held back by lower interest rates thanks to the Federal Reserve’s triple-dose of quantitative easing, but there’s been a turn of late, though it’s too early to say whether it will have lasting power.

In 2013, the dollar was at least better than the yen, amassing a 35 percent move against the Japanese currency, which countered the Fed’s QE with Abenomics and a massive monetary dose of its own.

Now in 2014, the U.S. dollar index – measuring the dollar against six currencies, including the euro, yen, and pound – has reached a six-week high, and those expecting a steady move higher in interest rates wouldn’t be out of line to expect the dollar to appreciate, along with bond yields. It didn’t happen in 2013, which is sort of counterintuitive – higher rates would seem to be a boon for the buck, but the volatility exhibited in the Treasury market was too much for the dollar types.

That’s probably not going to be the case this year, according to Jens Nordvig, strategist at Nomura. He notes that if volatility is relatively low as rates go up, that’ll support dollar appreciation against the big currencies, other than yen. His firm is also going short the euro against the Mexican peso, with the latter benefiting from U.S. growth and the former still struggling.

Flows into the U.S. from overseas have been strengthening, which helps the dollar story, and it wouldn’t be surprising to see additional strength in the greenback if jobs figures are better than anticipated, as suggested by the ADP figures (even though they come with their own problems).

The dollar’s gains come at a time when long dollar bets have fallen to their lowest levels since November, perhaps out of concern the recent run has been fueled by too much optimism.
Speculators are net short in the yen, Aussie, and Canadian dollar, but they’re still long the euro, pound, Swiss franc, peso and the New Zealand dollar (known as the kiwi, or the “Peter Jackson,” if you’re into Tolkien).

The jobs data could force more of those positions in the direction of the U.S. currency. Oddly, the steady rise in U.S. rates wasn’t much of a catalyst for the dollar in the mid-1990s, and it was only later that the dollar picked up, Morgan Stanley researchers noted in a recent report.

While various emerging markets aren’t the disasters they were in the 1990s, the private sector depends a lot on dollar funding. And if borrowing costs are rising and growth isn’t quite what it was, those flows aren’t going to be robust as in the past – particularly with the Fed cutting its massive stimulus. Taken in total, it bodes well for the buck, but only if there’s an ongoing sense of improvement, which will be something to watch for on Friday.

RETAILERS, DISCOUNTS AND DEMAND
The last of the same-store sales figures, meanwhile, are coming out, including the likes of Costco, The Gap and L Brands, and all of the good cheer reported at this higher level (better consumer spending and hiring trends, more positive sentiment) seems to have eluded the retailers. Indeed, they mostly say things stink, either because of surprises in the calendar, cold weather (and it’s been damned cold, so we’ll let that one go), and lots of promotions that promise almost everything just to lure people into the store.

Consumer discretionary shares were among the best performers in the S&P 500 last year, but repeating that trick won’t be easy. L Brand cut its earnings forecast for the holiday quarter after its lousy numbers, and Family Dollar and Zumiez also cut estimates in response to their weak showing.  One thing we’re sure of – few are going the JC Penney route, in tersely saying that the company is “pleased with its performance for the holiday period, showing continued progress in its turnaround efforts,” without offering, y’know, any numbers or anything.

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