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Futures Start New Month Flat As Fed’s QT2 Begins

Futures Start New Month Flat As Fed’s QT2 Begins

Stocks traded off session highs as weaker-than-average volumes mark the beginning of summer,…

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Futures Start New Month Flat As Fed's QT2 Begins

Stocks traded off session highs as weaker-than-average volumes mark the beginning of summer, and as traders awaited the jobs report later this week and eyed the official start of the Fed's second Quantitative Tightening program (which will end as "gloriously" as the first one) which will drain the Fed's balance sheet by $95BN per month.

Contracts on the S&P 500 were 0.2% higher by 730 a.m. in New York, after the underlying index finished May up exactly 0.1%;  Nasdaq 100 futures were up 0.1%. European bourses and Asian stocks were modestly in the red to stgart the new quarter. The latest drop in Treasuries pushed 10-year yields closer to 2.9% as traders raised bets on Federal Reserve interest-rate hikes. The dollar advanced against major peers, and bitcoin traded around $31,500. Oil rose as investors assessed the future of OPEC+ unity, just as ministers from the group prepare to meet on Thursday to discuss its supply policy for July. Crude advanced about 10% in May, stoking more inflation worries.

 

Concerns that the Fed's rate hikes may induce a recession are keeping investors guessing about the outlook for the economy as rising food and energy costs squeeze consumers, and volatility has picked up.

“US markets, and by default, global markets, will still indulge in schizophrenic swings in market sentiment as the FOMO dip-buyers become increasingly frantic in their attempts to pick a cyclical low in equity markets,” said Jeffrey Halley, a senior market analyst at Oanda Asia Pacific Pte.

On Tuesday, Joe Biden used a rare meeting with Federal Reserve Chair Jerome Powell to declare that he’s respecting the central bank’s independence and to throw Powell under the bus for any continued high inflation. The meeting came ahead of US payroll numbersFriday.

“There are heightened concerns around inflation and where central banks are likely to go trying to combat inflation,” Kristina Hooper, Invesco Advisers chief global markets strategist, said on Bloomberg Radio. “This has gone from just an inflation scare to a growth scare. Uncertainty has grown.”

In premarket trading, Salesforce shares jumped 8.3% after the software company raised its full-year forecast for adjusted earnings. HP will be in focus after the company reported better-than-expected sales and profit driven by steady demand for computer systems.  Other notable premarket movers:

  • Digital Turbine (APPS US) fell 4.1% in New York premarket trading on Wednesday after the mobile services platform’s fourth-quarter results and first-quarter forecast. Roth Capital Partners analyst Darren Aftahi says the company provided soft guidance, but noted that its commentary around SingleTap licensing should be supportive.
  • View (VIEW US) shares surge as much as 30% in US premarket trading, after the glass manufacturing firm reported its full-year results late Tuesday, with the company saying it expects to file its delinquent 10-K and 10-Q on or before June 30.
  • ChargePoint (CHPT US) analysts noted that the EV charging network firm’s margins came under pressure due to rising costs and supply-chain disruption, leading some brokers to trim their targets on the stock. ChargePoint shares dropped 2.7% in US postmarket trading on Tuesday after posting a 1Q lossthat was wider than expected.
  • Victoria’s Secret (VSCO US) analysts were positive on the lingerie company’s results, with Wells Fargo saying that its turnaround is on track despite a tough macroeconomic environment, while VitalKnowledge said that the update was a “big victory” amid the retail gloom. The shares gained 7.3% post-market Tuesday.
  • HP (HPQ US) shares edged up in extended trading on Tuesday, after the company reported better-than- expected sales and profit driven by steady demand for computer systems. Analysts lauded the company’s execution as it navigates a challenging supply and macroeconomic environment.
  • Ambarella (AMBA US) shares fell 5.6% in extended trading on Tuesday after the semiconductor device company issued a tepid second-quarter revenue forecast as lockdowns in China weigh on its near-term outlook. Analysts said that there is weakness in the near-term, but the long-term thesis remains intact.

Late on Tuersday, Fed's Bostic said there could be a significant reduction in inflation this year and that his suggestion for a pause in September should not be interpreted as a "Fed put" or belief that the Fed would rescue markets, according to an interview in MarketWatch. Elsewhere, Treasury Secretary Yellen said US President Biden's top concern is inflation and shares the Fed's priority of slowing inflation, while she added she was wrong about the path inflation would take and doesn't expect the same pace of job gains going forward, according to Reuters.

Citigroup Inc. strategists said that after a difficult first five months of 2022, the pain may not be over yet for global equity markets. The prospect of downward revisions to earnings estimates is the latest headwind to face stock investors, already rattled by runaway inflation and the potential impact of central-bank tightening aimed at controlling it, the strategists led by Jamie Fahy wrote in a note.

In Europe, the Stoxx 600 Index erased earlier gains to trade 0.2% lower a day after euro-zone figures showed a record jump in consumer prices and on investor concerns that record inflation will pressure the European Central Bank to act more aggressively, increasing the risk of an economic slump. The DAX outperformed, adding 0.3%. Miners, utilities and real estate are the worst-performing sectors.  Autos are the day’s best performing sector and one of few rising subgroups amid declining markets; the Stoxx 600 Automobiles & Parts Index rises 2.1% as of 1:10pm CET, rebounding after a session of declines on Tuesday and on course for a fifth day of gains in six. Carmakers such as Stellantis, Renault and Volkswagen lead the advances. Stellantis +3.4%, VW +3.4%, Renault +3.4%, Porsche Automobil Holding SE +3.2%, BMW +2.8%, Volvo Car +2.5%, Mercedes-Benz Group +2.5%. Here are the biggest European movers:

  • Dr. Martens shares surge as much as 30%, the most since January 2021, after the UK bootmaker reported pretax profit for the full year that beat the average analyst estimate.
  • Lanxess shares rise as much as 2.5%, adding to an 11% gain on Tuesday. The chemicals group is raised to buy from hold at Stifel. Berenberg also hikes its PT on the stock.
  • Societe Generale shares up as much as 2.6% after UBS upgrades the investment bank to buy from neutral, noting the company’s valuation is “too cheap to ignore.”
  • Capricorn Energy shares rise after company reached an agreement on the terms of a recommended all-share combination with Africa-focused oil and gas developer Tullow Oil.
  • Stadler Rail shares jump as much as 4.3%, most since March, after it signed a contract to deliver up to 510 FLIRT trains to the Swiss Federal Railways, according to a statement.
  • OVS gains as much as 7.1% to highest since end of March after Banca Akros upgrades its rating to buy, saying in note that May appears to have been a strong month for the Italian fashion retailer.
  • Saint-Gobain shares fluctuate after the building material company agreed to buy Canadian siding producer Kaycan for $928m to strengthen its position in the North American building-products market.
  • Zalando shares fall as much as 5.1% after being downgraded to equal- weight from overweight at Barclays, which cites near-term challenges for the online fashion retailer.

Earlier in the session, Asian stocks edged lower after fluctuating in a narrow range, as traders assessed China’s easing virus restrictions and the persistent risk of global inflation. The MSCI Asia Pacific Index was down less than 0.1%, with declines in technology and utilities shares offsetting gains in consumer discretionary stocks. Japan’s Topix Index rose more than 1% as the yen weakened, while indexes in Malaysia and the Philippines fell the most. China’s shares were slightly lower after a private gauge showed factory activity in May contracted from the previous month as both production and new orders fell. Meanwhile, Shanghai’s Covid-19 cases continued to decline as most parts of the city reopened after two months under one of the world’s most restrictive pandemic lockdowns. 

Asian equities completed their first monthly advance this year in May amid optimism China’s easing lockdowns will improve the region’s growth outlook, even as soaring oil prices and global inflation fuel concerns of tighter monetary policies. Near-term concerns over inflation, economic growth and China’s Zero Covid policy are likely to persist, but investors can expect a “stabilization in 3Q as valuations reset and positive catalysts emerge,” Chetan Seth, Asia Pacific equity strategist at Nomura, wrote in a note. Markets in South Korea and Indonesia were closed for holidays.

In FX, the Bloomberg Dollar Spot Index rose 0.1% as the greenback strengthened against all its Group-of-10 peers apart from the Australian dollar. The yen was the worst performer and fell to a two-week low. The euro neared the $1.07 handle before paring losses. Bunds were little changed with focus on ECB rate hike pricing and possible comments by policy makers including President Christine Lagarde before the ‘quiet’ period kicks ahead of next Thursday’s policy decision. The Aussie inched up and Australian bonds fell as data showed the economy grew faster than expected in the fourth quarter. Rising Treasury yields also weighed on Aussie debt.

In rates, Treasury yields inched up with the curve slightly bear-flattenning, before the Federal Reserve starts its quantitative-tightening program today. The Fed will start shrinking its balance sheet at a pace of $47.5 billion a month before stepping that up to $95 billion in September. Treasuries were slightly cheaper across the curve, with yields off session highs in early US session. Yields are up 2bp-3bp across the curve, led higher by 5-year sector; the 10-year yield is at 2.87% underperforms bunds and gilts. Economists expect a second straight half-point rate increase from the Bank of Canada at 10am ET; swaps market prices in 52bp and 184bp by year-end. IG dollar issuance slate empty so far; six entities priced a total of $12.6b Tuesday, and two stood down. Bunds and Italian bonds are little changed, with the 10-year yields on both trading off session high after ECB’s Holzmann said new inflation record backs need for a 50bps hike. Money markets are pricing a cumulative 119bps of tightening in December.

In commodities, WTI trades within Tuesday’s range, adding 1.6% to above $116. Most base metals are in the red; LME nickel falls 2.4%, underperforming peers. Spot gold falls roughly $8 to trade around $1,829/oz.

Looking the day ahead now, data releases include the global manufacturing PMIs for May and the US ISM manufacturing reading for May. Otherwise, there’s German retail sales for April, the Euro Area unemployment rate for April, US construction spending for April, the JOLTS job openings for April and, May ISM manufacturing and the latest Fed Beige Book. From central banks, the Bank of Canada will be making its latest policy decision and the Fed will be releasing their Beige Book. Otherwise, speakers include ECB President Lagarde and the ECB’s Knot, Villeroy, Panetta and Lane, the Fed’s Williams and Bullard, and PBoC Governor Yi Gang.

Market Snapshot

  • S&P 500 futures little changed at 4,133.50
  • STOXX Europe 600 down 0.3% to 442.18
  • MXAP down 0.1% to 169.26
  • MXAPJ down 0.5% to 556.42
  • Nikkei up 0.7% to 27,457.89
  • Topix up 1.4% to 1,938.64
  • Hang Seng Index down 0.6% to 21,294.94
  • Shanghai Composite down 0.1% to 3,182.16
  • Sensex down 0.4% to 55,336.61
  • Australia S&P/ASX 200 up 0.3% to 7,233.98
  • Kospi up 0.6% to 2,685.90
  • German 10Y yield little changed at 1.14%
  • Euro little changed at $1.0727
  • Brent Futures up 1.4% to $117.23/bbl
  • Gold spot down 0.2% to $1,834.26
  • U.S. Dollar Index up 0.16% to 101.92

Top Overnight News from Bloomberg

  • The latest all-time high for euro-zone inflation strengthens the case for the European Central Bank to lift interest rates by a half-point in July, according to Governing Council member Robert Holzmann
  • Croatia is about to find out whether it’s in good enough shape to become the euro zone’s 20th member. Progress made by country will be assessed in reports due Wednesday from the ECB and the European Union’s executive arm
  • Sweden’s main stock exchange venue, Nasdaq Stockholm, is looking into a new service that will provide clearing for inflation-linked swaps in Swedish kronor
  • China’s financial capital reported its fewest Covid-19 cases in almost three months as residents celebrated a significant easing of curbs on movement, while some companies took a more cautious approach, maintaining some restrictions in factories
  • China’s factory activity in May contracted from the previous month as both production and new orders fell, although the slowdown wasn’t as fast as in April, a private gauge showed Wednesday
  • Treasury Secretary Janet Yellen gave her most direct admission yet that she made an incorrect call last year in predicting that elevated inflation wouldn’t pose a continuing problem
  • President Joe Biden said he’ll give Ukraine advanced rocket systems and other US weaponry to better hit targets in its war with Russia, ramping up military support as the conflict drags into its fourth month
  • New Zealand’s central bank is seeking feedback on whether its monetary policy remit is “still fit for purpose,” Deputy Governor Christian Hawkesby said. “It’s not about should it still be about price stability and maximum sustainable employment,” he said. “It’s more about have we got the right inflation targets, are we measuring it the right way, what horizon are we trying to achieve it over, what other things should we have regard to.”

A more detailed look at global markets courtesy of Newsquawk

Asia-Pacific stocks traded mixed as risk sentiment only mildly improved from the lacklustre performance stateside as the region digested another slew of data releases including the continued contraction in Chinese Caixin Manufacturing PMI. ASX 200 was kept afloat by strength in industrials, telecoms and the top-weighted financials sector, while better-than-expected Q1 GDP data provides some mild encouragement. Nikkei 225 was underpinned by further currency depreciation and with BoJ Deputy Governor Wakatabe reiterating the BoJ's dovish tone. Hang Seng and Shanghai Comp were indecisive after Chinese Caixin Manufacturing PMI remained in contraction territory and amid mixed COVID-related developments with Shanghai reopening from the lockdown whilst Beijing's Fengtai district tightened curbs and required all residents to work remotely.

Top Asian News

  • Beijing reports two COVID cases during 15hrs to 3pm local time on June 1st
  • Hong Kong Retail Sales Unexpectedly Rebound as Covid Curbs Ease
  • Sri Lanka’s President Won’t Be Stepping Down Soon, Minister Says
  • Europe, Asian Factories Under Pressure on China, War in Ukraine
  • Philippine IPO’s Stellar Gain May Wane With Inflation: ECM Watch

European bourses are mixed, Euro Stoxx 50 +0.1%, and have struggled to find a clear direction after mixed APAC trade with a busy docket ahead. Stateside, futures are posting similar performance and looking to a busy data and Central Bank afternoon session, ES +0.2%.

Top European News

  • UK government is drawing up plans that will task the BoE with stepping in and handling the implosion of a stablecoin in preparation for future crises in the crypto markets, according to The Times.
  • EU Commission President von der Leyen will, on Wednesday, approve Poland’s national recovery plan; however, Politico reports that commissioners, including Timmermans and Vestager, will raise objections to this as Poland has not taken the necessary steps for Commission approval.
  • UK House Prices Defy Slowdown Fears With 10th Consecutive Gain
  • ECB Half-Point Hike Seen as Deutsche Bank Breaks With Consensus
  • Wood to Sell Built-Environment Unit to WSP for $1.9 Billion
  • BT’s Sport TV Deal With Warner Bros. Discovery Gets UK Probe

FX

  • Yen extends losses through more technical support levels, 129.0O and 129.50 as BoJ reiterates dovish stance and maintains that it is undesirable for monetary policy to target FX rates.
  • Dollar drifts otherwise after month end squeeze as attention turns to busy midweek agenda and run in to NFP on Friday, DXY retracts into tighter 102.060-101.760 range.
  • Aussie outperforms on the back of firmer than forecast Q1 GDP data, but hampered by decent option expiry interest sub-0.7200 vs Greenback.
  • Euro unable to glean much impetus from hawkish ECB Holzmann as option expiries sit between 1.0740-75.
  • Loonie pivots 1.2650 pre-BoC awaiting confirmation of the 50bp hike expected or something more hawkish.
  • Marked slowdown in Hungarian manufacturing PMI piles more pressure on Forint following half point NBH rate rise vs 60bp consensus, EUR/HUF inching closer to 400.00, at circa 398.50.

Commodities

  • WTI and Brent are recovering from yesterday's WSJ source report induced downside, with participants awaiting clarity/details at Thursday's OPEC+ gathering.
  • Currently, the benchmarks are holding around/above USD 117/bbl, vs respective lows of USD 114.58/bbl and USD 115.40/bbl respectively.
  • Russian Foreign Minister Lavrov met with his Saudi counterpart on Tuesday in which they both praised the level of cooperation in OPEC+, while they noted stabilising effect that tight Russia-Saudi coordination has on the global hydrocarbon market, according to Reuters.
  • UAE is considering a plan to increase its oil capacity by an additional 1mln bpd to a total 6mln bpd by 2030, according to Energy Intel.
  • JMMC on Thursday now scheduled for 13:00BST (prev. 12:00BST), OPEC+ at 13:30BST, via Argus' Itayim.
  • Police clashed with communities blocking MMG's Las Bambas copper mine in Peru.
  • China's State Planner says renewable energy consumption is to reach circa. 1bln/T of standard-coal-equivalent by 2025, equal to 20% of total consumption; aims to secure around 33% of electricity from renewable sources by 2025.
  • Spot gold is modestly softer amid ongoing USD upside and continuing to draft from a cluster of DMAs above USD 1840/oz, with base metals broadly lower as well.

Central Banks

  • ECB's Holzmann says the record Eurozone inflation print backs the need for a 50bps hike, decisive action is required in order to avoid harsher steps later. A clear rate signal could support EUR.
  • BoJ Deputy Governor Wakatabe said the BoJ must maintain powerful monetary easing and sustain an environment where wages can rise, while he added that the BoJ shouldn't rule out additional easing steps if risks to the economy materialise. Wakatabe also noted that most goods prices aren't increasing with recent inflation driven mostly by energy and some food price increases, as well as noted that consumer inflation has not yet achieved the BoJ's price goal in a sustained and stable manner, according to Reuters. Adds, it is undesirable to target FX in guiding monetary policy; desirable for FX to reflect fundamentals.

US Event Calendar

  • 07:00: May MBA Mortgage Applications, prior -1.2%
  • 09:45: May S&P Global US Manufacturing PM, est. 57.5, prior 57.5
  • 10:00: April JOLTs Job Openings, est. 11.3m, prior 11.5m
  • 10:00: April Construction Spending MoM, est. 0.5%, prior 0.1%
  • 10:00: May ISM Manufacturing, est. 54.5, prior 55.4
  • 14:00: U.S. Federal Reserve Releases Beige Book

Central Banks

  • 11:30: Fed’s Williams Makes Opening Remarks
  • 13:00: Fed’s Bullard Discusses the Economic and Policy Outlook
  • 14:00: U.S. Federal Reserve Releases Beige Book

DB's Jim Reid concludes the overnight wrap

We'll be off here in the UK tomorrow and Friday as we'll be celebrating the Queen being on the throne for an astonishing 70 years. I find the best way to celebrate is via the medium of golf! To put things in perspective, when I get to 100 years old I'll be celebrating exactly 70 years at DB. In our absence Tim will still be publishing the EMR for the next couple of days.

Believe it or not it's now June! It only seems like yesterday it was Xmas. Perhaps 70 years isn't so long after all. Since it’s the start of the month, our usual performance review for the month just gone will be out shortly. A number of financial assets began to stabilise in May, helped by a combination of factors such as easing Covid restrictions in China and the potential that the Fed wouldn’t hike as aggressively as some had feared. That said, it’s still been an awful performance on a YTD basis, with the S&P 500 having seen its biggest YTD loss after 5 months since 1970, whilst most of the assets in our main sample are still beneath their levels at the start of the year.

But after some respite over the last couple of weeks, the last 24 hours have seen equities and bonds sell off in tandem once again as inflation fears cranked up another notch. The main catalyst was the much stronger-than-expected flash CPI reading for the Euro Area, which at +8.1% was the fastest annual pace since the single currency’s formation.

In terms of that Euro Area CPI reading, the main headline number of +8.1% was some way above the +7.8% reading expected, whilst core CPI also rose to a record +3.8% (vs. +3.6% expected). Unsurprisingly, this has only intensified the debate on how rapidly the ECB will hike rates, and Slovakian Central Bank Governor Kazimir became the latest member of the Governing Council to say that he was “open to talk about 50 basis points”, even if his baseline was still for a 25bps move in July. The investor reaction was evident too, and overnight index swaps moved to price in 119bps worth of ECB hikes by the December meeting, which is the highest to date. It also implies that the ECB would do more than simply four 25bp moves from July, which would only sum to 100bps. The European economics team published a blog taking a deep dive into underlying inflation across the continent (link here). There are lots of different cuts of the data in the piece, but the headline is a number of underlying metrics are scoring record highs, and that a lot of the pressure is being produced domestically and not just from external shocks. In particular, Germany registers above the rest of the continent with record high underlying inflation readings. All of this underscores the call for tighter ECB policy.

Speaking of which, as previewed at the top, DB’s European economists released their ECB preview ahead of next week’s meeting yesterday, and they are now expecting the ECB to implement at least one +50bp rate hike by September, the first shop to take such a stance according to the latest Bloomberg survey. They note a +50bp hike is more likely in September but there’s a risk it comes in July. There is actually a precedent for 50bps from the ECB, although you have to go all the way back to June 2000 to find the last time they moved so quickly at a single meeting, and a +50bp hike is consistent with the reaction function President Lagarde outlined in her recent blog. Our economists also believe the ECB will be underestimating inflation with their forecast updates at next week’s meeting, necessitating a bigger rate increase early in their hiking cycle. Additionally, they expect the ECB to get rates 50bps above neutral by the middle of next year for a modestly restrictive policy stance to fight inflation. For next week’s meeting, they believe the GC will signal the end of net APP (asset purchases), clearing the way for a July liftoff. They also expect the ECB staff to raise 2024 inflation forecast to 2% and confirm the expiration of TLTRO discounts.

Elsewhere on the inflation front, it appeared that Brent crude futures were set for a 9th consecutive daily gain and their second highest close in over a decade. However a post-European close Wall Street Journal article reported that OPEC was considering exempting Russia from its oil production deal in light of sanctions, which would pave the way for other members to pump a lot more oil. This drove an intraday reversal in Brent and WTI which closed down -1.14% and -0.35%, respectively having been up +2.97% and +4.27% at their peaks for the day.

Growing fears that inflation will prove even stickier than previously hoped led to a major selloff among sovereign bonds on both sides of the Atlantic yesterday. In Europe, yields on 10yr bunds (+6.7bps), OATs (+7.5bps) and BTPs (+12.1bps) all moved higher thanks to a rise in both real rates and inflation breakevens. Meanwhile in the US, yields on 10yr Treasuries were up +10.6bps to 2.84% as markets caught up following the Memorial Day holiday and then added a bit more for good measure. We're another +1.5bps higher this morning. As it happens, today also marks the start of the Fed’s quantitative tightening process, which starts at a pace of $30bn per month for Treasuries, and $17.5bn for MBS, although those numbers will both double after 3 months. For those wanting more details, Tim on my team released a playbook for the process a couple of weeks back (link here).

That prospect of stickier inflation and thus more aggressive rate hikes from central banks meant that equities took a knock yesterday as well. The S&P 500 was down -0.63% following its strongest weekly performance since November 2020, and small-cap stocks suffered in particular as the Russell 2000 shed -1.26%. It was a different story for the megacap tech stocks however, with the FANG+ index advancing another +0.69%, having gained more than +12% since its recent closing low last week. Over in Europe, the main indices also lost ground following their Monday gains, with the STOXX 600 (-0.72%), the DAX (-1.29%) and the CAC 40 (-1.43%) all falling back on the day. Equity futures are indicating a more positive start with contracts on the S&P 500 (+0.39%), NASDAQ 100 (+0.30%) and DAX (+0.64%) all higher.

Asian equity markets are mixed this morning. The Hang Seng is down -0.67% in early trade, tracking declines in US equity markets along with a pullback in Chinese listed tech stocks. Additionally, in mainland China, the Shanghai Composite (-0.10%) and CSI (-0.13%) are also lagging. Elsewhere, the Nikkei (+0.71%) is leading gains as the Japanese yen weakened -0.32% to 129.08 against the US dollar. Markets in South Korea are closed today for a holiday. Meanwhile, in Australia, the S&P/ASX 200 (+0.12%) is edging higher after Q1 GDP advanced +0.8% from the final three months of last year (v/s +0.7% expected), taking the annual pace to +3.3% and outpacing the pre-pandemic average of around +2%.

Other data showed that South Korea’s exports accelerated, growing +21.3% y/y in May (v/s +18.4% expected), against April’s upwardly revised +12.9% increase as shipments to Europe and US improved offsetting disruptions with China's trade. Separately, China’s Caixin manufacturing PMI improved to 48.1 from 46.0 in April.

Back to yesterday on the data front, the Conference Board’s consumer confidence indicator for May surprise to the upside at 106.4 (vs. 103.6 expected), although it was still a decline on the previous month. Otherwise in the US, the FHFA house price index for March came in at just +1.5% month-on-month (vs. +2.0% expected), but the S&P CoreLogic Case-Shiller 20-city index surprised on the upside with a +21.2% year-on-year gain (vs. +20.0% expected). Then the MNI Chicago PMI also surprised to the upside with a 60.3 reading (vs. 55.0 expected). Finally, the number of UK mortgage approvals in April fell to their lowest in nearly 2 years at 66.0k (vs. 70.5k expected).

To the day ahead now, and data releases include the global manufacturing PMIs for May and the US ISM manufacturing reading for May. Otherwise, there’s German retail sales for April, the Euro Area unemployment rate for April, US construction spending for April and the JOLTS job openings for April. From central banks, the Bank of Canada will be making its latest policy decision and the Fed will be releasing their Beige Book. Otherwise, speakers include ECB President Lagarde and the ECB’s Knot, Villeroy, Panetta and Lane, the Fed’s Williams and Bullard, and PBoC Governor Yi Gang.

Tyler Durden Wed, 06/01/2022 - 07:50

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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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