The US dollar declined this week, showing up both in forex markets and across a wide range of asset markets, most conspicuously stocks and commodities. Treasuries declined, both in nominal and real terms. This is in line with recent SS forecasts, which show this trend generally in effect until October 1. But that would be putting too fine a point on it … it’s uncommon for SS to nail a major trend change within a couple weeks, let alone a day. At the same time though, there is no bias in one direction or the other, so the odds that SS will be early or late are the same. And the takeaway remains that SS sees the bear market in bonds as at or near its bottom and that rough sledding for stocks lies ahead.
SS revised its Copper outlook more bullishly this week. How meaningful this is is an open question … the copper outlook has been more volatile than for the other assets, which is usually an indication of greater uncertainty. So let’s put this one in the more speculative column and see how it comes out the other side of the expected macro trend change before investing it with significance.
6 thoughts on “Weekly Update 20220910”
This morning’s CPI print was up 8.3% year over year. Markets had had a smaller rise priced in, along with the assumption that the Fed would be less hawkish at the margin than this number would suggest. As a result the dollar surged and stocks plunged, correcting some of the countertrend action of recent days. Shorter dated Treasuries declined in dollar terms while longer dated Treasuries rose.
Perusing the media reveals a fairly widespread misunderstanding of what the Fed is looking for. As we’ve outlined in these pages, the Fed wants a tightening of “financial conditions”, as it sees asset prices as a transmission mechanism for policy to impact consumer prices. Thus the Fed wasn’t even particularly obsessed with this morning’s CPI to begin with. Translated into plain language: The Fed wants stocks to go down.
It’s tempting to conclude that this confirms the SS forecast. But the future is notoriously difficult to predict and it is quite possible SS is well off the mark. To the extent its outlook is accurate, the only proof could come after the fact. The most we can say at this point is that the latest data and market action are consistent with the SS forecast.
PPI came in this morning at 8.7% YOY.
Markets are now not only firmly pricing in 75 bp for the September 21 FOMC announcement, but there is chatter about a 100 bp hike. That seems unlikely. At least 75 bp is a lock. Speculation about subsequent moves is premature … tell me first what the stock market will do in October, then maybe we can talk about what the Fed will do in November…
why not 100bps? a little shock and awe? kashkari made it clear, if it wasn’t clear already, that the fed wants the stock market to go down. now that 75bps is the conventional wisdom, such a rise will work only through the rates channel. 100bps, otoh, will accelerate the tightening via its market effects.
For sure, JK. A well known mainstream analyst on Bloomberg yesterday was even calling for 125 bp. Said he thought it was unlikely but that the FOMC should do it … 125.
I could live with that. But despite its nominally having given up forward guidance, I think this Fed still doesn’t want to surprise markets. Maybe it will change that too, but if it does, it will have to be a surprise…
More broadly the Fed is still stuck in this mindset where it has to wait until there’s overwhelming evidence for a large move, then execute it in a long campaign of incremental steps, especially when it comes to tightening. As you know I’ve complained about that for years. The Fed should just tweak its rate target at each meeting (if not oftener) so that each move is independent of the rest … a cut or hike doesn’t imply more to come. Get the markets used to routine adjustments that don’t carry a load of baggage.
Its orthodoxy has left it in a position now where it has to choose between either water torture or shock and awe. It doesn’t like either. But ultimately the slower it goes there the higher rates have to go … no free lunch.
I think it imagines that incremental policy changes will lead to incremental changes in outcomes. But it doesn’t work that way in real life. As we saw in 2008, it’s more like adding sand to the top of a pile one grain at a time … the top of the pile grows slowly until it collapses all at once in an avalanche.
But it apparently is coming to appreciate the connection between asset price inflation and consumer price inflation and as you note actively wants to let some air out of stock prices. Maybe this month’s acceleration of QT will help. Whatever it does, it will have to do enough to make that happen … sooner or later.
JK the more I think about it, the more plausible 100 bp sounds … for the reasons you cite. It may well be that the Fed might actually see merit in at least a little element of surprise, and 100 bp isn’t completely off the radar. At last check, Fed funds futures were pricing in about 80% odds of 75 bp and 20% of 100 bp … enough to make a strong statement but not outlandishly so. Moreover the bond market has already snugged enough that 100 bp would put overnight rates solidly in line with the rest of the yield curve. The one year CMT printed at 4.03% today, which would still be substantially positive from Fed funds after a 100 bp increase to a range of 3.25%-3.50%.
I’d still prefer 125…