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Futures Rise As ECB Panics And Fed Looms

Futures Rise As ECB Panics And Fed Looms

After five days of non-stop losses, US index futures finally bounced modestly along with stocks…

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Futures Rise As ECB Panics And Fed Looms

After five days of non-stop losses, US index futures finally bounced modestly along with stocks in Europe as the ECB announced it would hold an emergency meeting to undo the damage done by its meeting from last week, and ahead of the Fed which today will hike by 75bps, the most since 1994, and will then scramble to undo the damage from pushing the US into a recession in coming days and weeks.

Contracts on the S&P 500 and Nasdaq 100 posted modest gains, rising 0.8% and 1% respectively, ahead of the Fed, with markets fully pricing in the biggest rate hike since 1994 amid worries about the outlook for the economy. Europe's Stoxx Europe 600 index jumped more than 1%, snapping a six-day losing streak, while the euro strengthened and the region’s bonds advanced as the European Central Bank’s Governing Council started an emergency meeting. Treasury yields dipped and the dollar retreated from a two-year high.

In premarket trading, major technology and internet stocks are higher in premarket trading along with US stock futures ahead of Wednesday’s Federal Reserve announcement, with investors expecting a 75 basis-point increase in rates. Bank stocks were also higher in premarket trading. Here are some other notable premarket movers:

  • Spotify (SPOT US) shares gain 2.2% in premarket trading as Wells Fargo upgraded the stock to equal-weight, saying the music streaming firm’s recent investor day laid out a more profitable company than the brokerage has modeled historically.
  • Chinese tech stocks are mostly higher in US premarket trading, with education shares continuing their winning streak since peer Koolearn’s livestreaming hit went viral. Alibaba (BABA US) +1.9%, Baidu (BIDU US) +3.6%, Pinduoduo (PDD US) +2.3%, New Oriental Education (EDU US) +8.4%, TAL Education (TAL US) +4.5%.
  • iQIYI (IQ US) shares decline 3.9% in US premarket trading as Baidu is in talks to sell its majority stake in the streaming service in a deal that could value all of iQIYI at $7 billion, Reuters reported, citing people with knowledge of the matter.
  • Cryptocurrency-related stocks fell in premarket trading on Wednesday as Bitcoin and Ethereum tumbled. MicroStrategy (MSTR US) -7.6%, Marathon Digital Holdings (MARA US) -7.6%, Riot Blockchain (RIOT US) -7%, Coinbase (COIN US) -6.6%.
  • Apple (AAPL US) and other consumer computer-hardware stocks may be in focus today as Morgan Stanley cut its price targets for such shares due to risks related to a potential slowdown in consumer spending.
  • Moderna’s (MRNA US) shares rose 1.2% in US after-hours trading on Tuesday, while analysts said that the unanimous verdict from an FDA panel, which supported the biotech firm’s Covid vaccine for children, came as no surprise.
  • Qualcomm (QCOM US) stocks could be in focus after the company won a European Union court bid to topple a 997 million-euro antitrust fine for allegedly pressuring Apple to only buy its 4G chips.

Fears of stagflation have driven stocks into a bear market and triggered a stunning selloff in bonds in recent days. Uncertainty is elevated heading into the Fed decision: increments of 50 basis points, 75 basis points and even 100 basis points have all been chewed over by commentators. Parts of the US yield curve remain inverted, signaling concerns that restrictive monetary policy will lead to an economic downturn.

Today's main event is of course the Fed decision which is expected to include a 75bp rate hike, with latest forecasts released at the same time. Swaps market is currently pricing in around 70bp of rate hikes for the meeting with a combined 202bp of additional hikes priced for the June, July and September meetings. From the forecasts, focus will be on revisions to the Fed’s long-term rate; swaps market is currently pricing a rate peak at around 3.90% by the middle of next year (full preview here).

“Markets are poised for aggressive rate hikes, but what of US economic growth?” said Nema Ramkhelawan-Bhana, an economist at Rand Merchant Bank in Johannesburg. “It might not be in recessionary territory just yet, but the landing is not going to be as soft as the Fed predicates. Anything less than 75 basis points or at least a strong willingness to make more significant adjustments will likely turn the market on its head, eroding total returns of global bonds and equities even further.”

European equities trade well but off session highs. FTSE MIB outperforms, rallying as much as 3.3% before stalling. Stoxx 600 rises as much as 1.2% with travel, banks and insurance names doing much of the heavy lifting, while the euro strengthened and the region’s bonds advanced as the European Central Bank’s Governing Council started an emergency meeting. While new stimulus may not be on the agenda, officials will discuss a crisis strategy and the reinvestment of bond purchases conducted under the now-halted pandemic emergency program, Bloomberg reported. Here are the biggest European movers:

Rate-sensitive sectors such as financials and technology gained in Europe as the ECB holds an ad hoc meeting to discuss market conditions and the Fed concludes its two-day policy meeting. Finecobank shares rise as much as 8.4%, Intesa Sanpaolo +7.5%, Assicurazioni Generali +5.3%.

  • Europe auto stocks are among outperforming sectors in the wider equity gauge, led by French part suppliers Faurecia and Valeo, and carmaker Renault. Faurecia shares gain as much as 8.7%, Valeo +6.5%, Renault +5.6%
  • Whitbread shares rise as much as 6.4% after the hotel operator reported quarterly sales, with Barclays noting the company’s “upbeat tone.”
  • Gerresheimer shares rise as much as 17% after a Bloomberg report that the German maker of packaging for drugs and cosmetics rejected an informal takeover approach from Bain Capital in recent weeks.
  • Nordic and European forestry and paper mill companies’ shares rebound, breaking sharp declines triggered after brokers cut their  respective outlooks for the sector in the past week. Smurfit Kappa stock rises as much as 5.3%, BillerudKorsnas +4.8%, Huhtamaki +5.6%
  • H&M shares drop as much as 6.4% with uncertainty about the margin outlook and ongoing cost pressures overshadowing the apparel retailer’s 2Q sales beat.
  • Getinge shares fall as much as 18% after the medical technology firm lowered guidance, projecting flat organic sales growth for the year. Nordea and JPMorgan downgraded their recommendations.
  • Elia Group shares fell as much as 12% after the electricity transmission company laid out plans for a rights offering.
  • Autoneum shares drop as much as 5.2% after the car- parts maker warned on profits. Vontobel analyst Arben Hasanaj noted the firm’s difficulty in passing on higher costs, along with further likely delays in car production recovery.
  • Voltalia slumps as much as 9.1% after Oddo downgrades to neutral in note as it questions what level of growth is possible after 2023.

“The ECB is between rock and a hard place, like most other central banks,” said Marija Veitmane, a senior strategist at State Street Global Markets. “Inflation is very high and shows little signs of quickly declining, while the economy is increasingly fragile, particularly with the war in Europe and ever-rising energy costs. So anything the ECB can announce to reduce systemic risk is very welcome.”

Earlier in the session, Asian stocks posted modest declines as sentiment improved from earlier in the week, with Chinese shares rising after domestic economic data showed pockets of recovery. The MSCI Asia Pacific Index was down 0.4% as of 6:07 p.m. in Singapore, as losses in regional tech hardware shares offset advances in China’s internet giants. South Korea and the Philippines led declines, while Japanese stocks fell ahead of a central bank policy meeting this week. Gains in China and Hong Kong helped offset losses elsewhere as data showed the country’s industrial production unexpectedly increased in May. Meanwhile the nation’s central bank kept a key policy rate unchanged, avoiding further policy divergence as the Federal Reserve tightens.

“A more accommodative policy and fiscal environment together with stronger corporate fundamentals should be positive for Chinese equity assets,” said Jessica Tea, an investment specialist at BNP Paribas Asset Management. The MSCI Asia gauge dropped almost 4% over the previous two sessions as inflation data from the US fueled bets of a 75-basis-point rate hike by the Fed at Wednesday’s meeting. Still, the index has outperformed a measure of global peers this year, with the latter now in a bear market.

Japanese stocks dropped ahead of a Federal Reserve rate decision. A Bank of Japan review on Friday is also on the radar.  The Topix Index fell 1.2% to close at 1,855.93 while the Nikkei gauge declined 1.1% to 26,326.16. Keyence Corp. contributed the most to the Topix Index’s decline, decreasing 3.9%. Out of 2,170 shares in the index, 288 rose and 1,829 fell, while 53 were unchanged. “The sharp decline in JGBs is also contributing to the drop in stock prices as uncertainty mounts ahead of the BOJ meeting,” said Hajime Sakai, chief fund manager at Mito Securities Co

Indian stocks fell after swinging between gains and losses for the most part of the session, as concerns over higher inflation and likely tighter monetary policy measures weighed on sentiment.   The S&P BSE Sensex slipped 0.3% to close at 52,541.39 in Mumbai to its lowest level since July 28. The NSE Nifty 50 Index also slipped by a similar magnitude. Reliance Industries Ltd. posted its longest run of losses in more than a month and was the biggest drag on the Sensex, which had 17 of 30 member stocks trading lower. Ten of the 19 sector sub-indexes compiled by BSE Ltd fell, led by a gauge of power stocks. Retail inflation in India held above the central bank’s target in May, while wholesale prices accelerated for a third-straight month as input costs continue to rise, hurting company earnings.  “Commodity prices continue to remain elevated and despite passing on the costs to consumers, India Inc. is still facing margin pressures,” Mitul Shah, head of research at Reliance Securities wrote in a note.  

Australia's S&P/ASX 200 index fell 1.3% to close at 6,601.00, the fourth straight day of declines. All sectors finished lower, with mining stocks and banks the biggest drags on the index. During early trade, Australia’s industrial relations umpire raised the minimum wage by 5.2% from July 1, a larger-than-expected increase, affirming speculation of faster tightening by the central bank.  Meanwhile, in New Zealand, the S&P/NZX 50 index was little changed at 10,635.92., after entering a bear market Tuesday. The gauge has shed more than 20% from its January 2021 peak.

In FX, the Bloomberg Dollar Spot Index fell as the greenback weakened against all of its Group-of-10 peers apart from the Canadian dollar. Risk-sensitive Scandinavian currencies and the Aussie dollar lead gains. The euro rose by as much as 0.9% to 1.0508, and the yield on 10-year Italian bonds fell as much as 30bps after the ECB announced the Governing Council would hold an ad-hoc meeting on Wednesday “to discuss current market conditions.” ECB officials will be invited to sign off on the reinvestment of bond purchases conducted under the now-halted pandemic emergency program, a crisis response that they flagged in their decision last week, according to people familiar with the matter. Three-month euribor fixes higher by the most in more than two years, climbing to the highest since April 2020 as funding rates seek to mirror ECB rate hike expectations. Japanese bond futures drop most since 2013 as traders ramp up bets BOJ will give in to tweak policy. Australian bonds slumped with three-year yields posting steepest two-day climb since 1994. The Aussie extended an advance after the Fair Work Commission said the minimum wage will be increased by 5.2%. Earlier, the RBA said it “will do what’s necessary” to bring inflation back down to its 2-3% target as Goldman sees three more half-point hikes.

In rates, Treasuries pared a recent drop, with yields falling up to 8bps led by shorter maturities amid a TSY rally in Asia and early European sessions, leaving yields richer by as much as 12.5bp across front-end leading into US session.  Markets are pricing in 73bps worth of hikes from the Fed today. US 10-year yields around 3.36%, richer by 10bp on the day while front-end outperformance steepens 2s10s, 5s30s spreads by 3bp and 6.5bp respectively. Curve steepens as long-end lags front-end rally and some rate hike premium eases out the swaps market ahead of 2pm ET Fed policy decision. European bonds rallied after ECB announces emergency meeting to discuss market conditions, with French and UK outperforming along with Italy and other peripherals.

In commodities, crude futures drop back toward the lows for the week. WTI falls 1.2% near $117.50. Most base metals trade in the green; LME tin rises 2.3%, outperforming peers. Spot gold rises roughly $16 to trade near $1,825/oz

Looking to the day ahead, the main highlight will likely be the aforementioned FOMC decision and Chair Powell’s subsequent press conference. There’s also an array of ECB speakers, including President Lagarde, as well as the ECB’s Holzmann, Nagel, Centeno, Muller, De Cos, Panetta and Knot. Otherwise, data releases include Euro Area industrial production for April, US retail sales for May, the NAHB housing market index for June and the Empire State manufacturing survey for June.

Market Snapshot

  • S&P 500 futures up 0.8% to 3,768.50
  • STOXX Europe 600 up 1.2% to 412.15
  • MXAP down 0.4% to 159.27
  • MXAPJ little changed at 529.71
  • Nikkei down 1.1% to 26,326.16
  • Topix down 1.2% to 1,855.93
  • Hang Seng Index up 1.1% to 21,308.21
  • Shanghai Composite up 0.5% to 3,305.41
  • Sensex up 0.2% to 52,797.58
  • Australia S&P/ASX 200 down 1.3% to 6,601.03
  • Kospi down 1.8% to 2,447.38
  • Brent Futures down 0.2% to $120.90/bbl
  • Gold spot up 0.6% to $1,818.80
  • U.S. Dollar Index down 0.56% to 104.93
  • German 10Y yield little changed at 1.77%
  • Euro up 0.6% to $1.0479
  • Brent Futures down 0.2% to $120.90/bbl

Top Overnight News from Bloomberg

  • Federal Reserve Chair Jerome Powell, who’s carefully telegraphed interest rate hikes over four years, looks likely to abandon gradualism and move more forcefully to stamp out inflation along with growing concerns that it will persist
  • The European Central Bank’s Governing Council is ready to step in if it considers moves in government bond markets to be unjustified, according to Belgium’s Pierre Wunsch, as the ECB prepared for an emergency meeting on recent euro-zone bond turbulence
  • The European Union is restarting infringement proceedings against the UK and will launch two new legal actions after London proposed legislation to override part of the Brexit withdrawal agreement, according to an EU official
  • The first batch of a Chinese offshore yuan sovereign bond sale saw the strongest demand in nearly two years, defying a recent stream of outflows at a time when the global debt market is showing deepening levels of stress
  • Even after central banks recognized they got their inflation calls wrong last year, they’ve continued to flub their policy guidance, threatening greater damage to their credibility, roiling markets and undermining the pandemic recovery

A more detailed look at markets courtesy of Newsquawk

Asia-Pac stocks traded mixed amid cautiousness heading into the FOMC with markets pricing in a more than 90% chance of a 75bps rate hike, while the region also digested better-than-expected Chinese activity data. ASX 200 was led lower by energy, resources and tech, despite a 5.2% national minimum wage increase. Nikkei 225 failed to benefit from strong Machinery Orders data amid the ongoing currency-related jitters. Hang Seng and Shanghai Comp. were positive with encouragement from the latest activity data that showed surprise growth in Industrial Production and a narrower than feared contraction in Retail Sales, while attention was also on the PBoC which rolled over CNY 200bln through its 1-year MLF with the rate unchanged.

Top Asian News

  • PBoC injected CNY 200bln via 1-year MLF vs. CNY 200bln maturing with the rate kept at 2.85%, as expected.
  • China's stats bureau said the main indicators show marginal improvement and the economy shows good recovery momentum, but added that the economic recovery still faces many difficulties and challenges. Furthermore, it said policies to stabilise economic growth gained traction and it expects economic performance to improve further in June due to policy support, but noted recovery is still at an initial stage and main indicators are at low levels, according to Reuters.
  • Hong Kong reports 1047 new COVID cases. Appears to be the first time since early April that cases have surpassed the 1k mark.

European equities are firmer across the board ahead of the impromptu ECB meeting, Euro Stoxx 50 +1.0%; unsurprisingly,  periphery-nation indexes are outperforming, FTSE MIB +3.0%, given upside in banking names. As such, the Banking sector outperforms with most of its peers also in the green, though the Energy sector lags amid benchmark pricing. Stateside, futures are firmer across the board deriving impetus from European performance, but with overall action somewhat more contained ahead of the Fed and uncertainty around 75bp, ES +0.3%. Baidu (BIDU) is in discussions with potential suitors to offload its 53% stake in video-streaming name Iqiyi, according to Reuters sources. +3.8% in the pre-market.

Top European News

  • UK PM Johnson is reportedly determined to reverse Chancellor Sunak's planned GBP 15bln tax raid on business as he tries to firm up support following last week's confidence vote, according to The Times.
  • UK PM Johnson is understood to have told his cabinet to 'de-escalate' the Northern Ireland Protocol stand-off with the EU, according to The Telegraph.
  • UK exports to the EU during H1 of last year fell by 15.6% amid Brexit frictions, according to a study by Aston University cited by FT.
  • Swiss SECO Forecasts (summer): Inflation: 2022 2.5% (prev. 1.9%), 2023 1.4% (prev. 0.7%). GDP: 2022 2.8% (prev. 3.0%), 1.6% (prev. 1.7%)

Central Banks

  • BoJ offers an additional emergency bond buying operation; to buy unlimited amounts of 10yr JGBs on June 16th & 17th at 0.25%.
  • Fall in JGB futures has triggered a circuit breaker at the Tokyo stock exchange, via Japan Exchange Group.
  • Japan's Securities Dealer Association's Morita says the JPY may have weakened too much, via Reuters.
  • 8/9 members (vs. 3/9 at the May meeting) of the Times' shadow MPC believe that the BoE should raise rates by 50bps at its policy meeting tomorrow, according to the Times.

FX

  • Buck backs off from best levels into FOMC and US data awaiting confirmation of the hawkish hype or half point hike signalled pre-hot CPI; DXY slips from 105.650 peak on Tuesday into 105.380-104.700 range.
  • Aussie rebounds on risk grounds and more aggressive RBA tightening calls, AUD/USD reclaims 0.6900+ status.
  • Yen takes note of latest verbal intervention and Hong Kong Dollar supported by more physical HKMA buying to keep it pegged; USD/JPY sub-134.50 vs 135.50+ overnight.
  • Euro extends recovery rally as ECB holds ad hoc meeting to discuss fragmenting debt markets and Wunsch contends that gradualism does not rule out larger than 25 bp moves; EUR/USD pops over 1.0500 from just below 1.0400 yesterday.
  • Yuan gleans impetus from better than expected or feared Chinese industrial production and retail sales, USD/CNH nearer 6.7200 than 6.7600, USD/CNY close to 6.7100 and not far from 21 DMA at 6.6965 today.

Fixed Income

  • Decent bear market retracement in debt approaching the FOMC.
  • Bunds up to 143.79 at best vs new 143.25 cycle low, Gilts towards top of 112.48-111.88 band and 10 year T-note closer to 115-06 than 114-10.
  • BTPs markedly outperform after near 3 full point bounce from Tuesday close in anticipation of an anti-fragmentation tool from the ECB as GC meets for crisis talks.

Commodities

  • Currently, WTI and Brent are lower by circa. USD 1.00bbl but reside within comparably narrow ranges of around USD 2.00bbl vs, for instance, yesterday’s USD +6.00/bbl parameters.
  • Curtailed amid COVID updates from China and Hong Kong alongside Biden's reported push for an explanation from producers over why supply isn't increasing.
  • US President Biden has demanded an explanation from oil companies over why they are refraining from putting additional gasoline on the market and wants concrete ideas as to how they can increase supplied, according to a letter seen by Reuters.
  • US Energy Inventory Data (bbls): Crude +0.7mln (exp. -1.3mln), Cushing -1.1mln, Gasoline -2.2mln (exp. +1.1mln), Distillates +0.2mln (exp. +0.3mln)
  • US DoE announced contract awards and issued the fourth emergency sale of crude oil from SPR (as previously announced), in which contracts were awarded to nine including Chevron (CVX), Exxon (XOM) and Marathon Petroleum (MPC).
  • Kazakhstan has capped wheat exports at 550k tonnes and wheat flour at 370k tonnes until September 30th, according to the Agriculture Ministry, via Reuters.
  • Spot gold derives impetus from the USD’s retreat and is now back above USD 1820/oz but still shy of yesterday’s USD 1831/oz best and the subsequent 200-, 10- & 21-DMAs ahead at USD 1842, 1843 & 1845 respectively.

US Event Calendar

  • 07:00: June MBA Mortgage Applications +6.6%, prior -6.5%
  • 08:30: May Import Price Index YoY, est. 11.9%, prior 12.0%;  MoM, est. 1.1%, prior 0%
    • May Export Price Index YoY, prior 18.0%; MoM, est. 1.3%, prior 0.6%
  • 08:30: May Retail Sales Advance MoM, est. 0.1%, prior 0.9%
    • May Retail Sales Ex Auto MoM, est. 0.7%, prior 0.6%
    • May Retail Sales Control Group, est. 0.3%, prior 1.0%
  • 08:30: June Empire Manufacturing, est. 2.2, prior -11.6
  • 10:00: April Business Inventories, est. 1.2%, prior 2.0%
  • 10:00: June NAHB Housing Market Index, est. 67, prior 69
  • 14:00: June FOMC Rate Decision
  • 16:00: April Total Net TIC Flows, prior $149.2b

DB's Jim Reid concludes the overnight wrap

In these crazy days for markets, I'm willing to stake my reputation that I've done something in the last 24 hours that no-one else reading this did. Yes, after a business trip to Europe yesterday, I watched the original Top Gun on my iPad on the plane ride home for the very first time, some 36 years after it came out. My wife wants to watch the sequel, so I thought I ought to see what all the fuss was about. She's seen it around 20 times and always asks what I was doing in my teenage years that's made me miss all the films of her youth. The truth is I was either studying or playing cricket or golf. Not much else. My review is that it was a decent film, but Mavericks' courting technique doesn't really age very well.

I'm not sure Maverick and Goose would have been able to get out of the tight spot that the Fed are in at the moment very easily. After the astonishing price action over the previous 2 business days, markets have settled somewhat over the last 24 hours, but overall have continued to struggle as they await today’s all-important Federal Reserve decision. Up until the CPI report last Friday, that decision seemed like a lock in favour of a second consecutive 50bp hike, not because that was the right move, but because the Fed had firmly guided us to such an outcome. The CPI report raised doubts as to whether they could hold that line over the summer, but the WSJ article on Monday night broke the levee as a 75bps move tonight is now suddenly pretty much consensus. Our economics team agrees and have now updated their previously street leading view to have a +75bp hike tonight followed by another +75bp increase in July. The team believes fed funds will reach 3.5% by the end of the year, and hit a terminal rate of 4.1% in Q1 2023, sooner than they thought before the WSJ story. See their full updated call, available here.

As we hit this big day, markets now fully price in a 75bps hike today. Indeed, 76.3bps is priced, so that actually incorporates a small risk of 100bps, something former New York Fed President Bill Dudley was openly considering yesterday, which may have contributed to the sentiment that drove the next leg of the selloff in the New York afternoon. A total of 289bps worth of rate hikes by year-end is now priced. So quite the turnaround from a few weeks back when some were even floating the strange idea of a “pause” in September. Clearly the 75bp call is mostly based on a WSJ article so we can't be certain but you would have thought the Fed would have tried to leak out a rebuttal if that wasn't what they wanted to guide the market towards. We will see.

Whilst the size of any rate hike will be the focal point, today also brings the latest dot plot from the FOMC and offers an insight into the potential pace of rate hikes over the months ahead. Our US economists expect that to undergo substantial revisions, with the median dot likely rising to 3.5% and 3.8% for 2022 and 2023 respectively. Meanwhile on the economic projections, they think they’ll also show further movements towards a “softish landing”, with growth revised lower throughout the forecast, albeit stopping short of anticipating a recession.

Ahead of all that, US equities slipped to fresh lows yesterday with the S&P 500 (-0.37%) falling to its lowest closing level since January 2021. Tech stocks outperformed, in contrast to the recent trend, with the NASDAQ (+0.18%) and the FANG+ Index (+1.97%) bouncing off of recent lows. Small-caps fared less well today and the Russell 2000 (-0.39%) fell to its lowest closing level since November 2020. Over in Europe, equities similarly fell to fresh lows and the STOXX 600 (-1.26%) likewise fell to levels unseen since March 2021.

Rates sold off by a smaller magnitude than the previous two sessions (low bar to clear), but an initial rally gave way to a selloff in the European afternoon that continued to gather pace into the New York close. Yields on 10yr Treasuries were up +11.3bps to a fresh post-2011 high of 3.47%, supported by a further rise in the 10yr real yield (+13.7bps) that took it up to a 3-year high of 0.82 The 2s10s curve just about clambered out of inversion territory where it’d closed on Monday, steepening by +3.8bps to end the day at just 3.6bps. But even the Fed’s preferred yield curve measure of the near-term forward spread fell to its flattest level in 3 months, even if it’s still well out of inversion territory for now. This spread will likely collapse in the months ahead. As we go to press, yields on 10yr USTs (-4.63 bps) are moving lower to 3.42% with 2yrs -5.6bps.

Today’s focus may be on the Fed, but over at the ECB we had Isabel Schnabel of the Executive Board give a significant speech last night about policy fragmentation. Recall, one of the key takeaways from last week’s ECB meeting was the apparent lack of progress on anti-fragmentation tools, shining a spotlight on Schnabel’s remarks last night. As our European economists emphasised last week, Schnabel argued that any tool would be reactionary, that is in response to more spread widening. She did not offer new details of any potential tool last night, instead echoing President Lagarde that PEPP purchase flexibility would be used to ensure smooth policy transmission in the interim. However, Schnabel also re-emphasised the ECB’s commitment to ensure smooth policy transmission. That Schnabel, a relative hawk on the committee and one that has expressed trepidation about a new facility in the past, so willingly supported the idea of doing what was needed to support policy implementation was an important shift for the ECB. The language Schnabel used last night may support the notion that the spread widening seen to date may already be approaching levels inconsistent with smooth policy transmission. It may not take much more pressure for the ECB to act but we are still in the dark on how they will.

Earlier in the day, Dutch central bank governor Knot made some incredibly hawkish comments, saying that if “conditions remain the same as today, we will have to raise rates by more than 0.25 points” in September, and that “our options are not necessarily limited” to a 50bps move, so openly floating the potential to move by even more, which hasn’t been something discussed by the ECB to date.

European sovereign bonds sold off significantly against that backdrop, with fresh multi-year highs seen for yields on 10yr bunds (+11.9bps), OATs (+13.7bps) and BTPs (+14.9bps). Peripheral spreads hit new post-Covid highs too, with the gap between Italian and German 10yr yields widening to 241bps. And there were some significant milestones on the credit side as well, with iTraxx Crossover widening +10.4bps to a fresh 10 year high of 544bps outside of 2-months around peak covid, and in North America we saw the CDX IG spread move above 100bps in trading for the first time since April 2020, before settling back at 99.0bps.

In Asia markets are mixed with the Hang Seng (+1.44%) trading up boosted by technology stocks following the Nasdaq's overnight gain. Likewise, stocks in mainland China are also higher in early trade with the Shanghai Composite (+1.41%) and CSI (+1.57%) edging higher as the economy showed a slightly better than expected recovery in May (see below). However, the Nikkei (-0.73%) and the Kospi (-1.54%) are trading lower, extending earlier session losses. Outside of Asia, US equity futures are reversing losses this morning with contracts on the S&P 500 (+0.38%) and NASDAQ 100 (+0.59%) trading up.

Early this morning, data released showed that China’s industrial production unexpectedly rebounded +0.7% y/y in May (v/s -0.9% expected), against a drop of -2.9% in April, whilst retail sales slid -6.7% in the period, less than -7.1% projected decline and slightly better than April’s -11.1% plunge. Meanwhile, Fixed-asset investment grew +6.2% in the first 5 months of the year (v/s +6.0% expected). Elsewhere, Japan’s core machinery orders strongly beat at +10.8% m/m in April, its fastest pace in 18 months (v/s -1.3% market consensus and +7.1% in March).

Yesterday we also heard that the Bank of Japan had bought a record ¥2.2tn in government notes through its fixed-rate operation as they seek to defend their yield curve target and keep 10-year JGB yields beneath their stated limit of 0.25%. This has continued to put pressure on the Yen however, which fell to a closing level of 135.47 per dollar yesterday, thus moving beneath its 2002 closing low of 134.71 and leaving it at levels unseen since 1998. We're at just above 135 this morning after a small rally back. Speaking of currencies under pressure, Bitcoin fell to a 17-month low of $21,966 yesterday, having been trading around $30,000 just prior to the CPI release on Friday. This morning it's at $21,100.

Elsewhere, brent crude and WTI futures reversed mid-day gains of near 2% to close -0.90% and -1.65% lower, respectively, following reports that the Biden Administration may pose a surtax on oil company profit margins, as another sign Biden is looking high and low for potential actions to curb oil gains into this year’s mid-terms. The big moves were seen in natural gas however, where US futures were down -16.5% and European futures were up +16.12% after the operator Freeport LNG said that they aiming for a partial resumption of operations at one of their Texas export terminals in 90 days, and that full operations wouldn’t return until late 2022. That’s a longer delay than was expected, and by keeping gas in the US led to that decline in US futures and the rise in European ones.

Looking at yesterday’s data, the Fed got a fresh reminder about inflation pressures from the PPI release for May, where the monthly headline gain in prices rose to +0.8% in line with expectations, up from +0.4% in April. That left the year-on-year measure at +10.8% (vs. +10.9% expected), which does mark a second consecutive decline in that measure from its peak of +11.5% in March. One positive for the Fed ahead of today’s meeting is that elements that comprise a larger share of core PCE, such as healthcare, showed some softness, but time will tell.

Separately, the UK employment data saw the number of payrolled employees in May grow by +90k (vs. +70k expected), but unemployment ticked up to 3.8% in the three months to April (vs. 3.6% expected). Finally, the ZEW survey from Germany saw an improvement relative to May’s readings, with expectations up to -28.0 (vs. -26.8 expected), and the current situation up to -27.6 (vs. -31.0 expected).

To the day ahead now, and the main highlight will likely be the aforementioned FOMC decision and Chair Powell’s subsequent press conference. There’s also an array of ECB speakers, including President Lagarde, as well as the ECB’s Holzmann, Nagel, Centeno, Muller, De Cos, Panetta and Knot. Otherwise, data releases include Euro Area industrial production for April, US retail sales for May, the NAHB housing market index for June and the Empire State manufacturing survey for June.

Tyler Durden Wed, 06/15/2022 - 07:53

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Bonds

Is Bitcoin Really A Hedge Against Inflation?

The long-standing claim that bitcoin is a hedge against inflation has come to a fork in the road as inflation is soaring, but the bitcoin price is not.

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The long-standing claim that bitcoin is a hedge against inflation has come to a fork in the road as inflation is soaring, but the bitcoin price is not.

This is an opinion editorial by Jordan Wirsz, an investor, award-winning entrepreneur, author and podcast host.

Bitcoin’s correlation to inflation has been widely discussed since its inception. There are many narratives surrounding bitcoin’s meteoric rise over the last 13 years, but none so prevalent as the debasement of fiat currency, which is certainly considered inflationary. Now Bitcoin’s price is declining, leaving many Bitcoiners confused, as inflation is the highest it’s been in more than 40 years. How will inflation and monetary policy impact bitcoin’s price?

First, let’s discuss inflation. The Federal Reserve’s mandate includes an inflation target of 2%, yet we just printed an 8.6% consumer price inflation number for the month of May 2022. That is more than 400% of the Fed’s target. In reality, inflation is likely even higher than the CPI print. Wage inflation isn’t keeping up with actual inflation and households are starting to feel it big time. Consumer sentiment is now at an all-time low.

(Source)

Why isn’t bitcoin surging while inflation is running out of control? Although fiat debasement and inflation are correlated, they truly are two different things that can coexist in juxtaposition for periods of time. The narrative that bitcoin is an inflation hedge has been widely talked about, but bitcoin has behaved more as a barometer of monetary policy than of inflation.

Macro analysts and economists are feverishly debating our current inflationary environment, trying to find comparisons and correlations to inflationary periods in history — such as the 1940s and the 1970s — in an effort to forecast where we go from here. While there are certainly similarities to inflationary periods of the past, there is no precedent for bitcoin’s performance under circumstances such as these. Bitcoin was born only 13 years ago from the ashes of the Global Financial Crisis, which itself unleashed one of the greatest monetary expansions in history up until that time. For the last 13 years, bitcoin has seen an environment of easy monetary policy. The Fed has been dovish, and anytime hawkishness raised its ugly head, the markets rolled over and the Fed pivoted quickly to reestablish calm markets. Note that during the same period, bitcoin rose from pennies to $69,000, making it perhaps the greatest-performing asset of all time. The thesis has been that bitcoin is an “up and to the right asset,” but that thesis has never been challenged by a significantly tightening monetary policy environment, which we find ourselves at the present moment.

The old saying that “this time is different,” might actually prove to be true. The Fed can’t pivot to quell the markets this time. Inflation is wildly out of control and the Fed is starting from a near-zero rate environment. Here we are with 8.6% inflation and near-zero rates while staring recession straight in the eyes. The Fed is not hiking to cool the economy … It is hiking in the face of a cooling economy, with already one quarter of negative gross domestic product growth behind us in Q1, 2022. Quantitative tightening has only just begun. The Fed does not have the leeway to slow down or ease its tightening. It must, by mandate, continue to raise rates until inflation is under control. Meanwhile, the cost-conditions index already shows the biggest tightening in decades, with almost zero movement from the Fed. The mere hint of the Fed tightening spun the markets out of control.

(Source)

There is a big misconception in the market about the Fed and its commitment to raising rates. I often hear people say, “The Fed can’t raise rates because if they do, we won’t be able to afford our debt payments, so the Fed is bluffing and will pivot sooner than later.” That idea is just factually incorrect. The Fed has no limit as to the amount of money it can spend. Why? Because it can print money to make whatever debt payments are necessary to support the government from defaulting. It’s easy to make debt payments when you have a central bank to print your own currency, isn’t it?

I know what you’re thinking: “Wait a minute, you’re saying the Fed needs to kill inflation by raising rates. And if rates go up enough, the Fed can just print more money to pay for its higher interest payments, which is inflationary?”

Does your brain hurt yet?

This is the “debt spiral” and inflation conundrum that folks like Bitcoin legend Greg Foss talks about regularly.

Now let me be clear, the above discussion of that possible outcome is widely and vigorously debated. The Fed is an independent entity, and its mandate is not to print money to pay our debts. However, it is entirely possible that politicians make moves to change the Fed’s mandate given the potential for incredibly pernicious circumstances in the future. This complex topic and set of nuances deserves much more discussion and thought, but I’ll save that for another article in the near future.

Interestingly, when the Fed announced its intent to hike rates to kill inflation, the market didn’t wait for the Fed to do it … The market actually went ahead and did the Fed’s job for it. In the last six months, interest rates have roughly doubled — the fastest rate of change ever in the history of interest rates. Libor has jumped even more.

(Source)

This record rate-increase has included mortgage rates, which have also doubled in the last six months, sending shivers through the housing market and crushing home affordability at a rate of change unlike anything we’ve ever seen before.

30-year mortgage rates have nearly doubled in the last six months.

All of this, with only a tiny, minuscule, 50 bps hike by the Fed and the very beginning of their rate hike and balance sheet runoff program, merely started in May! As you can see, the Fed barely moved an inch, while the markets crossed a chasm on their own accord. The Fed’s rhetoric alone sent a chilling effect through the markets that few expected. Look at the global growth optimism at new all-time lows:

(Source)

Despite the current volatility in the markets, the current miscalculation by investors is that the Fed will take its foot off the brake once inflation is under control and slowing. But the Fed can only control the demand side of the inflationary equation, not the supply side of the equation, which is where most of the inflationary pressure is coming from. In essence, the Fed is trying to use a screwdriver to cut a board of lumber. Wrong tool for the job. The result may very well be a cooling economy with persistent core inflation, which is not going to be the “soft landing” that many hope for.

Is the Fed actually hoping for a hard landing? One thought that comes to mind is that we may actually need a hard landing in order to give the Fed a pathway to reduce interest rates again. This would provide the government the possibility of actually servicing its debt with future tax revenue, versus finding a path to print money to pay for our debt service at persistently higher rates.

Although there are macro similarities between the 1940s, 1970s and the present, I think it ultimately provides less insight into the future direction of asset prices than the monetary policy cycles do.

Below is a chart of the rate of change of U.S. M2 money supply. You can see that 2020-2021 saw a record rise from the COVID-19 stimulus, but look at late 2021-present and you see one of the fastest rate-of-change drops in M2 money supply in recent history. 

(Source)

In theory, bitcoin is behaving exactly as it should in this environment. Record-easy monetary policy equals “number go up technology.” Record monetary tightening equals “number go down” price action. It is quite easy to ascertain that bitcoin’s price is tied less to inflation, and more to monetary policy and asset inflation/deflation (as opposed to core inflation). The chart below of the FRED M2 money supply resembles a less volatile bitcoin chart … “number go up” technology — up and to the right.

(Via St. Louis Fed)

Now, consider that for the first time since 2009 — actually the entire history of the FRED M2 chart — the M2 line is potentially making a significant direction turn to the downside (look closely). Bitcoin is only a 13-year-old experiment in correlation analysis that many are still theorizing upon, but if this correlation holds, then it stands to reason that bitcoin will be much more closely tied to monetary policy than it will inflation.

If the Fed finds itself needing to print significantly more money, it would potentially coincide with an uptick in M2. That event could reflect a “monetary policy change” significant enough to start a new bull market in bitcoin, regardless of whether or not the Fed starts easing rates.

I often think to myself, “What is the catalyst for people to allocate a portion of their portfolio to bitcoin?” I believe we are beginning to see that catalyst unfold right in front of us. Below is a total-bond-return index chart that demonstrates the significant losses bond holders are taking on the chin right now. 

(Source)

The “traditional 60/40” portfolio is getting destroyed on both sides simultaneously, for the first time in history. The traditional safe haven isn’t working this time around, which underscores the possibility that “this time is different.” Bonds may be a deadweight allocation for portfolios from now on — or worse.

It seems that most traditional portfolio strategies are broken or breaking. The only strategy that has worked consistently over the course of millennia is to build and secure wealth with the simple ownership of what is valuable. Work has always been valuable and that is why proof-of-work is tied to true forms of value. Bitcoin is the only thing that does this well in the digital world. Gold does it too, but compared to bitcoin, it cannot fulfill the needs of a modern, interconnected, global economy as well as its digital counterpart can. If bitcoin didn’t exist, then gold would be the only answer. Thankfully, bitcoin exists.

Regardless of whether inflation stays high or calms down to more normalized levels, the bottom line is clear: Bitcoin will likely start its next bull market when monetary policy changes, even if ever so slightly or indirectly.

This is a guest post by Jordan Wirsz. Opinions expressed are entirely their own and do not necessarily reflect those of BTC Inc. or Bitcoin Magazine.

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Economics

Why Government Anti-Inflation Plans Fail

Why Government Anti-Inflation Plans Fail

Authored by Daniel Lacalle,

Governments love inflation. It is a hidden tax on everyone and a transfer…

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Why Government Anti-Inflation Plans Fail

Authored by Daniel Lacalle,

Governments love inflation. It is a hidden tax on everyone and a transfer of wealth from bank deposits and real wages to indebted governments that collect more receipts via higher indirect taxes and devalue their debts. That is why we cannot expect governments to take decisive action on inflation.

To curb inflation effectively, interest rates must rise to a neutral level relative to inflation, to reduce the excessive increase in credit and new money from negative real rates. Additionally, central banks must end the repurchase of bonds, exchange traded funds and mortgage-backed securities as this would immediately reduce the quantity of currency in circulation. Finally, and most important of all, governments need to cut deficit spending which is ultimately financed by more debt and monetized with newly created central bank reserves. These three measures are crucial. One or two would not be enough.

However, governments are unwilling to cut deficit spending. The increase in outlays from 2020 due to extraordinary circumstances has been largely consolidated and is now annual structural expenditures. As we have seen in previous crises, many of the one-off and temporary measures become permanent, driving mandatory spending to a new all-time high.

Citizens are suffering the elevated inflation and consumer confidence is plummeting to historic lows in the economies that massively increased money supply growth throughout the pandemic, fuelling inflationary pressures through money printing well above demand and demand-side state expenditure plans financed with newly created currency. What do governments implement when this happens? More demand-side policies. Spending and debt.

Imagine for a second that we believed the myth of cost-push inflation and the argument that inflation comes from a supply shock. If that were the case, governments should implement supply-side measures, cutting spending and reducing taxes.

Reducing taxes does not drive inflation higher because it is the same quantity of currency, only a bit more in the hands of those who earn it. Cutting taxes would only be inflationary if demand for goods and services would soar due to higher consumer credit and demand, but that is not the case. Consumers would only have less difficulties to purchase daily essential goods and services that they acquire anyway. And some would save, which is good. That same money in the hands of government, which weighs more than 40% in the economy, will inevitably be spent and more, with rising public debt.

One unit of currency in the hands of the private sector may be consumed or invested-saved. The same unit in the hands of government is going to current spending and will be multiplied by adding debt, which means more currency in circulation and higher risk of inflation. Currency supply does not drive more currency demand. It is the opposite. If inflation ends up destroying the private sector consumption ability and the economy goes into recession, demand for currency will fall further from supply growth, keeping inflation elevated for longer.

The rules of supply and demand apply to currency the same as to everything else.

Rising discontent is leading governments to present bold and aggressive anti-inflation plans, yet almost none of those are supply-side measures but demand-side ones. Furthermore, the vast majority imply more spending, higher subsidies, rising debt, and increased money supply, which means higher risk of inflation.

Giving checks with newly printed money creates inflation. Providing more checks to reduce inflation is like stopping a fire with gasoline.

The Bank of International Settlements recently said that “leading economies are close to tipping into a high-inflation world where rapid price rises are normal, dominate daily life and are difficult to quell”. However, it is only difficult to quell because governments and central banks keep elevated levels of deficit and monetization. In the 70s media and analysts repeated constantly how difficult it was for governments to cut inflation, but they never explained that you cannot reduce price pressures destroying the purchasing power of the currency that governments monopolize.

Prices do not rise in unison for the same amount of currency. Anti-inflation plans as they have been presented in numerous countries are inflationary and hurt those that they pretend to help. Governments should stop helping with other people’s money and supporting by demolishing the purchasing power of their currency. The best way to reduce inflation is to defend real wages and deposit savings.

Tyler Durden Mon, 06/27/2022 - 14:45

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Economics

What Future Volatility Could Look Like for Eurozone Rates

Repo Funds Rate Indices reveal that the UK repo market may provide insight into what to expect once ECB rates increase.

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Repo Funds Rate Indices reveal that the UK repo market may provide insight into what to expect once ECB rates increase.

As inflation readings around the world come in well above targets, many central banks have sped up their plans to tighten monetary policy after years of historically low-interest rates and bond purchase programs.

Graphic: EU, US, and UK Monthly CPI (trailing 5 years)

However, the European Central Bank (ECB) is notably absent from the list of central banks that have implemented rate increases. Unlike its counterparts in the United States (Federal Reserve) and the United Kingdom (Bank of England), the ECB has not yet made a move against inflation; its deposit facility rate is currently at -0.5% and its main refinancing rate is at 0%. The ECB did not lower interest rates in response to the covid-19 pandemic that began in the first quarter of 2020 as its deposit facility rate was already at -0.5% at the time – meaning the ECB has held rates persistently at negative or zero since 2014.

Graphic: Key Interest Rates – ECB, Fed, and Bank of England (trailing 5 years)

In addition, the ECB has only committed to raising interest rates after it stops purchasing bonds in the third quarter of 2022. The ECB has added over €3.8 trillion to euro area balance sheets since March 2020.

Graphic: Euro Area Central Bank Assets (millions of Euros, trailing 5 years)

Two bond-buying programs facilitated sovereign debt purchases during this time – the Public Sector Purchase Program (PSPP) and the Pandemic Emergency Purchase Program (PEPP). These two programs bought a total of €1.95 trillion of sovereign bonds between March 2020 and April 2022. Three countries – Germany, France, and Italy – accounted for 66% of all sovereign purchases by the ECB.

Graphic: Cumulative ECB Public Sector Bond Purchases, March 2020 to April 2022 (thousands of Euros)

Insights From Repo Funds Rate Indices

The Repo Funds Rate (RFR) Indices, compiled by CME Group, looks at daily overnight lending rates in ten sovereign bond markets across the eurozone in addition to an overarching rate for the EU. The indices provide data on two subcomponents – general collateral and specific collateral – of the repo market:

General collateral (GC) are repo transactions where the underlying asset consists of a set of similar-but-unspecified securities.

Special collateral (SC) are transactions where specified securities (such as a certain bond issue) are exchanged and thus are often in high demand. 

Graphic: Insights From Repo Funds Rate Indices

These rates offer key insights into European money market participants and there are two recent and notable themes, which are worth highlighting.

Key Theme No. 1: Repo Rates are Becoming More Negative

Many EU countries’ RFR rates trade more negatively now than at the beginning of 2021 despite an unchanged short-term interest rate policy. German, Italian, and French repo reached highs in the first quarter of 2021. All three countries have lower average rates in 2022 than in 2021. Lower rates are multifaceted; however, data suggests that collateral is becoming scarcer over time. 

Graphic: RFR Rates  – DE, IT, FR 
Graphic: RFR Spreads (GC - SC) – Germany

Key Theme No. 2: UK Repo Market may Give Insight into Future of the Eurozone

Relative to the ECB, the BoE has taken significant action to curb inflation with four interest rate increases since Dec 2021. The subsequent changes that have occurred in the Sterling repo market may provide eurozone participants with some insight into what they can expect once ECB rates increase.

UK GC rates have closely followed the bank rate since the beginning of a series of rate increases in Dec 2021.

Read More about Repo Funds Rates

Graphic: RFR Rates – UK

However, during this time, GC-SC spreads have widened and increased in volatility. This suggests that while GC rates may change alongside the bank rate, SC rates may be “sticky” or subject to technical factors beyond BoE short-term interest rate policy.

Graphic: UK Bank Rate – RFR Collateral Type Spreads

ECB monetary policy and market conditions will likely experience significant uncertainty in the short- and mid-term. RFR Indices are a rich source of data for any market participant looking to navigate uncertain markets.

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