“Roger used to have a nice turn of phrase for most market situations and one of them has stuck with me”, Albert Edwards writes, fondly recalling his late boss at Kleinwort in a note dated Thursday.
“He used to say if the equity market won’t go down on bad news, what do you think will happen when good news comes along?”, Edwards continues, before flipping that on its head to ask how bond yields might be inclined to behave when the data starts to disappoint given that they’ve moved sideways despite the well-documented surge in the US economic surprise index.
“If bond yields can’t rise on strong data, what will happen when the economic surprise indicator begins to turn down again?”, he wonders. You won’t be surprised to learn that Albert is not deterred in his contention that US yields will “soon be negative” across the entire curve.
Of course, real yields stateside are already negative, while breakevens have moved higher, which, as documented in “The Fed Gets ‘Exactly What It Wants“, is ideal for Jerome Powell.
Falling reals keep financial conditions loose, buoying risk assets and putting downward pressure on the dollar, while rising breakevens ostensibly represent a favorable referendum on the Fed’s efforts to reflate.
But, the re-closure of some businesses and the curtailment of certain types of economic activity in US virus “hotspots” threaten to upset the proverbial applecart.
Raphael Bostic said as much earlier this week, and his colleagues have generally echoed those sentiments in the days since. Things are “leveling off”, as it were, and that’s got the likes of Goldman cutting their forecast for the economy.
Wells Fargo recently joined the party. “We have downwardly revised our 2020 US real GDP growth forecast as a result of localized pauses/reversals in the re-opening process”, the bank says, adding that while “the revision is relatively modest (-0.3 ppts for the year) it highlights the risks posed by localized restrictions becoming more severe and/or widespread”.
Indeed.
Have a look at the following visual which plots OpenTable’s widely-cited restaurant bookings data (I’ve isolated US hotspots) against the New York Fed’s weekly economic index.
The declines in bookings from their re-opening peaks are obvious, but the blip lower in the NY Fed gauge seems miniscule. And it is. But, I suppose what I would note is that July 4th’s decline (seen on the right-hand side in the black line) was the first week-on-week drop for the index since April 25.
“As this recovery stalls I think it will become apparent that deflation is no longer a threat, it is a reality and not just in the west”, SocGen’s Edwards goes on to write.
That, of course, presages more stimulus, and very possibly more liquidity-driven gains for risk assets. But that comes with peril.
“The deflationary reality will mean even more monetary largesse is coming”, Albert says, before closing with his customary, trademark flourish:
But a word of warning must surely be in order that this Ponzi scheme will eventually be rumbled. The QE-driven inflation of household wealth has failed to bring about the same collapse in the saving ratio seen in the last two bubbles (2000 & 2007).
While UST 10s have a date with 50 basis points it is not clear that they are set to go negative IMHO, it might be setting up a massive trap that sets the stage for higher yields in H2—there is a tendency for yields to be a market of two halves since 2000, meaning a mid-year low this year should not be ruled out. For anyone who regularly reads my research, this is as close as it get to a dead giveaway.