Well, if it’s Fedspeak we’re all supposed to hang our hats on going forward, there will be no shortage of rhetoric to parse in the week ahead.
Stocks obviously exploded to the upside on Friday following Powell’s remarks in Atlanta and he’ll be up to bat again on Thursday when he’ll speak at the Economic Club of Washington D.C.
A few hours prior to Powell’s Friday remarks, Nomura’s Charlie McElligott suggested the coming week’s speech might be more consequential. “The market ‘needs’ him to acknowledge that the balance of risks is shifting negatively, but it is my view that with dovish expectations so pronounced that his message can’t fully appease the masses – instead I’d expect next Thursday’s Powell speech at the DC Econ Club as a platform for him to make a large ‘dovish inflection’ if the market continues to operate in ‘vigilante-style'”, Charlie wrote.
I don’t know if you want to call Friday’s performance a “dovish inflection”, but suffice to say Powell came across as much more convincing when it comes to his contention that the Fed is listening to what the market is “saying”. This week, he’ll have an opportunity to drive that home. Here’s an updated version of our annotated futures chart with notable selloffs and rallies flagged.
Powell is hardly the only voice we’ll hear from. Also on deck (if you can believe it) are Bostic, Evans, Rosengren, Barkin, Bullard and Clarida. If it’s “less communication” you’re looking for, this ain’t gonna be your week.
Oh, and the Fed minutes are released on Wednesday. Needless to say, those will be relentlessly combed for any sign that the December meeting wasn’t actually as tone deaf as it came across. “Participants likely discussed whether it is appropriate to remove the perceived time dependent guidance of ‘further gradual increases’ and replace it with a more data dependent statement”, BofAML writes, adding that in their view, “it was a very close call and there should be a number of officials who were advocating for the latter reflecting concern about deterioration in data, especially given the proximity to the neutral range.”
Obviously, market participants will be interested in any further color on the balance sheet, especially in light of the perception that Powell has now walked back his “auto pilot” characterization (FinTwit is convinced that’s just semantics, underscoring the contention that pundits and other observers just don’t understand how important semantics really are – the market surely does, though, as evidenced by Friday’s monumental rally).
“In comments at the AEA conference, Powell seemed more flexible, noting that if the balance sheet is in the ‘way of normalization plans’, he would be prepared to change it”, BofAML goes on to say, in the same piece cited above, before noting that while “the triggers are fuzzy, Powell took a small step away from the idea that the balance sheet reduction was on auto-pilot.” Last week, Mester and Kaplan also expressed some support for the idea that balance sheet rundown might need to be adjusted.
Financial conditions have loosened up a bit of late (on Goldman’s gauge), but are still much tighter since “long way from neutral”.
On the data front, we’ll get CPI this week. The rather stark juxtaposition between December ISM manufacturing and December payrolls has left everyone looking for “confirmation” of their downbeat/upbeat view (whichever the case may be). CPI has the potential to muddy the waters further, although a benign print would presumably be bullish to the extent it’s viewed as giving the Fed another excuse to lean dovish.
“We expect core CPI to remain stable in December at 2.2% y/y (0.2% m/m) and believe it will gradually rise, to reach 2.5% y/y by the end of 2019”, Barclays said Sunday. BofAML is looking for a “soft” print. Here are a couple of excerpts from a Credit Suisse note that tie all of the above together quite nicely:
We would pay close attention to discussions [in the Fed minutes] about inflation, which has been sluggish in the past few months. Preventing the economy from overheating with a tight labor market and fiscal stimulus was one reason behind the gradual hiking policy in 2018. With risks of a significant inflation overshoot now having diminished, it’s possible that participants noted this as a supportive factor to their flexible policy approach and patience in hiking rates. Discussions around a possible revision or removal of its forward guidance are also important to watch. In the November minutes, many participants indicated that it might be appropriate at some upcoming meetings to begin to transition away from “further gradual increases” to language that placed greater emphasis on data dependence. It’s possible that participants note that such an adjustment may come soon.
All of this is set against a rather fluid situation at the front end, where the market continues to try and sort out the likely Fed path. Meanwhile, further out the curve, 10-year yields exploded higher on Friday amid the jobs euphoria and the Powell-driven equity rally. That slammed the brakes on the previously incessant bond bid that had driven yields to their lowest in nearly a year.
As for stocks, it’s a crapshoot at this point. Anything can happen at any time and an acute lack of liquidity means downside and upside price action is likely to be exaggerated. For anyone who cares about fundamentals, here’s a simple two-pane that shows the percentage of NYSE names trading above their 200-DMA is sitting at multi-year lows while the de-rating has the S&P at the “cheapest” in some five years.
The yen will remain in focus on the heels of Thursday’s flash rally/crash. We spent what was probably an inordinate amount of time attempting to explain why this “flash event” actually matters and our sentiments were underscored over the weekend by Goldman.
“While it is tempting to ignore market ‘flash crashes’ or chalk them up to technical issues, we think it is telling that USD/JPY ultimately settled more than 1% below its pre-crash level”, the bank wrote Saturday. “Liquidity issues likely played a role, but the underlying drivers were fundamental, in our view.”
On Sunday, Barclays talked a bit more about the ramifications of that episode. Here’s some potentially useful color from the bank’s week ahead outlook:
The shift in USDJPY range from 110-115 (in H2 18) to 105-110 that we had expected for later this year appears to have materialized already. The sharp decline in USDJPY has accelerated, with sequential breaks of major technical support lines (100dma at ~112.50, 200dma at ~111), which have now likely turned to heavy resistances. Uncertainty about the global growth backdrop and fragile risk sentiment should continue to cap USDJPY in its new 105-110 range, with downside risks to our forecasts (110 in Q2 and 107 in Q4), especially if US growth beings to undershoot, as indicated by the recent ISM. While the BoJ normalization could be derailed by the recent JPY appreciation (as it is reportedly considering downward revisions to its CPI forecast for January MPM), its easing options to fend off JPY appreciation appear limited beyond some further increase in ETF purchases; indeed, it is already overshooting its target by the most since Governor Kuroda took the helm at the BoJ in April 2013.
Again, it’s the same story: the BoJ’s position is complicated immeasurably by the yen’s safe haven status as any “accidents” (e.g., a flash rally) can become semi-permanent if the macro backdrop deteriorates, stoking a flight to safety. Indeed, the cruel irony is that flash events themselves have the potential to spook investors, so “anomalous” moves like what we got with the yen surge on Thursday can actually trigger a “fundamental” bid for the yen where “fundamental” just means fear-based. Long story short, the move has not completely reversed itself, although another couple of days like Friday for US yields would probably help USDJPY bounce, assuming more dovish Fed rhetoric doesn’t continue to undermine the greenback.
Trade on, trade off
We’ll get reserve data from China this week which is always worth watching in the context of the trade war. “The PBoC has been fixing USDCNY lower than expected, implying a preference to avoid sharp CNY depreciation”, Barclays notes, adding that they see reserves remaining generally stable in December amid less pressure on the currency as trade tensions have ostensibly come off a bit. “While we expect slower growth and further tariffs to lead to a weaker CNY, higher prospects for a protracted détente imply a longer period of CNY stability”, the bank goes on to muse.
This comes on the heels of the PBoC’s decision to go ahead with another RRR cut, to be implemented in two stages and just ahead of fresh negotiations between a US delegation which is set to arrive in Beijing early this week. Nothing material is expected to come out of the talks. Rather, this is basically just an effort to set the stage for a future meeting between Lighthizer and Chinese Vice Premier Liu He.
“I really believe they want to make a deal. The tariffs have absolutely hurt China very badly”, Trump said Sunday.
For Chinese equities, things are starting to get “interesting” again.
UK Parliament comes back on Monday, with Brexit still hanging in the balance – the clock is ticking under 12 weeks. There a few ECB speakers on the docket as well and the December ECB minutes could be some semblance of interesting. The BoC is up too.
Oh, and the US government shutdown will drag on. On Saturday evening, Trump made a new Game of Thrones meme, showing off what looks like a glorified patio fence.
— Donald J. Trump (@realDonaldTrump) January 6, 2019