FOMC minutes
August 18, 2021
–Stocks eased yesterday as Afghanistan and delta weighed. FOMC minutes today. Further clues about the taper timeline could emerge, with Rosengren yesterday echoing Kaplan by noting the Fed doesn’t affect supply as easily as boosting demand. The marginal withdrawal of liquidity associated with taper will likely impact stocks more than fixed income. NQU appears to have formidable resistance from 15125 to 15175 after a searing rally in June/July.
–Retail Sales yesterday were a bit weaker than expected at -1.1% while Industrial Production came in stronger at 0.9.
–Powell’s town hall produced little movement. Red and green packs on the eurodollar strip (2nd and 3rd year) were weakest, settling -2.0 on the day, as the market focuses on actual rate hikes. EDU’22 settled 9970.5 or 29.5 bps and EDZ’22 at 9954.5 or 45.5 bps, with 3-m libor around 13 bps; spread to libor of 16.5 and 32.5 respectively, so the first hike is expected to be at the end of next year. On the Fed Funds curve, FFG’23 is 9966, exactly 25 bps below near contracts which have been anchored at 9991. Beyond that, spreads are relatively muted, indicating the market doesn’t think the Fed can hike more than two times a year. Peak one-year spread is EDU’22/EDU’23 at 59, and since that spread encompasses the libor transition, it is higher than it ‘should’ be by about 10 bps.
Real yields decline
August 17, 2021
–Retail Sales today expected -0.3% but ZH reports that BAML forecasts a much weaker number based on credit card usage. Powell conducts an educator town hall at 1:30 EST. Yields continue to slip as Covid-delta weighs on confidence and the Afghan disaster throws US foreign policy into disarray. “We planned for every contingency” …according to our own timetable. (Hey Taiwan, you’re on your own). Tens fell 4.4 bps yesterday to 1.253%. The St Louis Fed marks the low in the ten-year inflation-indexed note yield at -119 bps, yesterday it fell 2.5 to -111.5 approaching that low. Typically, declining real yields are good for gold, and indeed, the $100 plunge from August 9 has been taken back with Dec gold again just shy of 1800. (+6.6 at 1796.4)
–Blues (4th year forward) were the lead performer on the dollar curve, rising 6.5 bps. A couple of weeks ago there was a sizable buyer of 0EZ 9937/9912p spread for 3.25; yesterday there was a new buyer of 50k 0EH 9937/9912ps vs 9975c covered 9949 with 36 delta for 2.25 to 2.5. Settled 3.0 vs 9947.0. News outlets are pegging the end of taper for the middle of 2022, which implies a pace of about $15 billion per month, opening a window for actual rate hikes at the end of 2022, continuing in early 2023.
–Though forward growth prospects appear muddy, the inflation outlook does not seem like it is ready to improve. Slower growth, higher prices, with shelter beginning to feed into official data. Powell will surely be talking it down today.
Gradually, then suddenly
August 16, 2021
–The takeover of Kabul and destabilization of the region is likely to become a dominant policy topic; one that can’t be fixed with more stimulus. From the AP: “President Joe Biden and other top US officials were stunned on Sunday by the pace of the Taliban’s nearly complete takeover of Afghanistan, as the planned withdrawal of American forces urgently became a [chaotic] mission to ensure a safe evacuation.” Not much of a safety bid so far, though bitcoin traded just over 48k and TYU traded up to 134-12 vs Friday’s settle of 133-305. It will probably take a few months for ramifications to play out.
–China’s data was weaker than expected, with Ind Production 6.4% vs expected 7.8 and Retail Sales 8.5 vs 11.5. US Retail Sales tomorrow, along with a town hall meeting by Powell.
–A BBG note by Tracy Alloway says that CCC spreads have been widening for the past month, which is unusual with stocks near all-time highs. This dynamic doesn’t seem to be reflected by HYG or JNK for now.
–The City of Chicago is sending automated tickets to drivers going over 6 mph above the posted speed limit (in the name of safety). The Tribune reports 300,000 tickets in the first two months, netting the city $11 million dollars, though I doubt anything close to that amount will be collected. The Trib also reports 47 shot and 5 killed over the weekend. Bad policies lead to bad outcomes and stunned officials.
Net Worth
August 15, 2021 – Weekly Comment
I don’t care for Alexandria Ocasio-Cortez. On August 12, 2021 she tweeted:
“It is absolutely wild that members of Congress are still allowed to buy and sell individual stock. It shouldn’t be legal.”
There oughta be a law.
Bravo AOC. Even she realizes how easy it is for individual members of Congress to game the system with information generally unknown to the masses. Anyone on my side of the business is constantly reminded: “Don’t do ANYTHING that could even vaguely be perceived as conflict of interest.” Not so with our elected officials. Hmm, why is there distrust of government?
On the other hand, we’re all geniuses now just by being long SPX. Your government at work. The chart below is Household and Non-Profits Net Worth, percent change from year ago. In Q1 the yoy gain was a blazing 23%, above anything shown on the chart which goes back to the 1950s. The largest slice of net worth is corporate equities. Of course these gains are, to use a topical word, transitory. The yoy gain is due to the brief plunge associated with Q1 2020, and the fact that monetary and fiscal policy went into hyper-overdrive. Like inflation, certain categories of wealth are likely to stall, if not actually reverse. Although, since the end of Q1, SPX is up about 15%. So… it’s not ending yet. In fact, the one-year gain from the end of June 2020 to end of June this year is over 38%.
I’ve included the chart of the level (rather than yoy change) of net worth below. It’s now at $137 trillion. Over six times GDP. By any reasonable definition, net worth is inflated. Somehow, we are supposed to suspend belief that this set-up could trickle over into sustained strength in the prices of goods and services. It’s pretty obvious that prices are increasing, and inflation numbers from last week bear this out. Yoy CPI 5.4%, PPI 7.8% and U of Mich 5-10 year inflation expectations survey was 3%, equaling the high of the last ten years.
The final chart below is Net Worth divided by GDP. For proponents of “reversion to the mean” this one is sending out a little warning. From 1950 until 1995 this ratio never got above 3.9x. From 1995 until 2014, what we might call the age of the internet, it never got above 4.9x. From then on, what we might call the age of QE and extreme Central Bank Intervention, it has taken off.
This is the outcome of financial repression. Fun while it lasts.
Retail Sales on Tuesday. Also on Tuesday, Powell Hosts a Town Hall meeting with educators. On Wednesday we have a 20 year auction and the Fed minutes; discussions about trimming bond purchases is the main topic of interest. Phllly Fed Thursday, along with 30-year TIPS.
OTHER MARKET THOUGHTS/TRADES
Last week there was a buyer of 100k 3EH2 9950 calls for 2.0 (ref 9852), which caught the market’s attention. The underlying contract is EDH’25 which settled Friday at 9858.5. 3EH2 9950c settled 2.0. Since the onset of COVID, the only time the 15th quarterly ED contract (now EDH’25) settled above 9950 was the brief period from May to September of 2020, during lockdown, where the high price on settlement hit 9968.5. Maybe this buy a hedge for the idea that the delta variant is going to run right down the Greek alphabet and spark renewed lockdowns.
An alternative message is sent by the peak one-year calendar on the Eurodollar strip. As mentioned last week, this peak is EDU’22/EDU’23 at 61.0 (9970.5 and 9909.5). Last Friday it settled 59.5, so the spread rose 1.5 in spite of some rate contracts closing at lower yields on the week. The market still looks for the onset of an attempt at Fed normalization beginning around the end of 2022.
| 8/6/2021 | 8/13/2021 | chg | ||
| UST 2Y | 20.6 | 21.3 | 0.7 | |
| UST 5Y | 76.4 | 78.7 | 2.3 | |
| UST 10Y | 131.2 | 129.7 | -1.5 | |
| UST 30Y | 197.4 | 194.6 | -2.8 | |
| GERM 2Y | -75.6 | -73.9 | 1.7 | |
| GERM 10Y | -45.6 | -46.7 | -1.1 | |
| JPN 30Y | 63.6 | 65.0 | 1.4 | |
| CHINA 10Y | 281.5 | 289.2 | 7.7 | |
| EURO$ Z1/Z2 | 28.0 | 27.5 | -0.5 | |
| EURO$ Z2/Z3 | 54.0 | 55.5 | 1.5 | |
| EURO$ Z3/Z4 | 34.5 | 35.5 | 1.0 | |
| EUR | 117.64 | 117.99 | 0.35 | |
| CRUDE (active) | 68.28 | 68.44 | 0.16 | |
| SPX | 4436.52 | 4468.00 | 31.48 | 0.7% |
| VIX | 16.15 | 15.45 | -0.70 | |
Inflation internalized
August 12, 2021
–CPI which came out as expected 5.4% with Core 4.3%, was easily absorbed. Price pressures appear to be broadening, but fixed income showed little net change. Solid ten year auction results with a yield of 1.34%, about 3 bps thru. Indirects, related to buying by foreign central banks, went from just over $24 billion at the last two auctions to $31 billion yesterday. I can’t help but think that the new SRF (Standing Repo Facility) is supporting foreign demand, which may also occur with today’s 30-yr. It’s still awfully hard to reconcile a ten-yr yield just over 1.3% with core inflation over 4%, but if the Fed wants to provide unlimited carry, it makes more sense.
–What is interesting is that even with an exceptionally strong 10 yr auction, the eurodollar curve steepened a bit more, with reds to golds (2nd to 5th spread) making a new recent high at 113.25 bps, up 3.5 on the day. I have attached a chart of red/green pack spread (2nd to 3rd year spread) which also moved to a new recent high of 58. Since March it has been in a sideways range of around 45 to 67 and is now in the middle. Relative pressure on greens indicates the market is still expecting hikes…greens are EDU’23, Z’23, H’24, M’24.
–Implied vol was hammered, for example EDM’23 9925 straddle down 2 bps to 55.5. Notable long liquidation of TYU puts, mostly in 133p. No fear of today’s PPI with Core expected 5.6% ypy. There is also a crop report at 11:00 CST.
Heavy weight on interest rate contracts
August 11, 2021
–CPI and ten year auction today. CPI expected +0.5 on the month, year/year 5.3 vs 5.4 last and Core 4.3 from 4.5. Senate passed the $3.5 trillion spending bill; the government’s monthly budget statement also released today.
–Yields edged higher with tens up 2.7 to 1.342%. Greens (3rd yr) were the weakest on the euro$ strip settling -3.375. Once again, red/gold pack spread eked out a new high at 57.75. The peak one-year calendar remains EDU’22/EDU’23 at 63.5 which rose 1.5 to a new high.
–While futures ended lower on the day, there was no sense of panicky put buying, in fact, it was the opposite. The day started with a seller of 30k 2EU 9900p at 6.0 ref 9906 in EDU’23 (settled at 7.0 vs 9904). There was a 25k risk reversal, selling EDH2 9975p and buying the 9987.5c flat, both options settled 2.25 vs 9983.5. In TY a couple of new notable call spread buys: +35k of each TY3Q (Aug 20 expiry) 134/135 cs for 15 (settled 13) and TYU1 134/135cs for 17, (settled 15 vs 133-175). Even though option activity was weighted toward directionally bullish plays, there is a heavy weight of selling pressure across the curve. For example, EDZ’23 printed 9923 right after the weak ADP data on Wednesday. This morning it is 31 lower at 9892 (down 1.5 from yesterday settlement).
Let’s taper
August 10, 2021
–Yesterday saw follow-thru from Friday’s strong employment report with a push to slightly higher yields, supported by bearish comments from both Bostic and from Kaplan (the latter in an Odd Lots podcast). Tens rose 2.7 bps to 1.315%. Three year notes are auctioned today with tens to follow on Wednesday and 30’s Thursday. The blue eurodollar pack (4th year) was weakest on the strip, closing -5.5. Greens, the third year, fell 4.125, but it’s worth noting that new recent highs were posted in several red/green one-year calendars. For example, EDU’22/EDU’23 which is the peak point on the curve settled 62, up 2.5 on the day. As noted over the weekend, the high of any one-year calendar in this cycle has been 78 bps, back on April 5 (it was EDM’23/EDM’24).
–The JOLTS data on job openings exceeded 1 million at 1.0073, a new high. This data point relates directly to Kaplan’s interview, where he notes supply and demand imbalances, and specifically cites the labor market. He said that 3 million workers have been lost to retirement (partially related to covid), and that demand across the economy is very strong. He emphasized several times that the economy does not have a DEMAND problem, noting that the Fed is quite good at directly influencing that side of the equation, but that SUPPLY will take a while to come back, and the Fed has much less power there, and for that reason he does not describe inflation as transitory. In fact he said the Dallas Fed sees a broadening of price pressures, which is hurting lower and middle income sectors (this echoes Manchin’s letter that called on Powell to stop QE due to the “inflation tax” that middle America is feeling). Kaplan said his contacts in business were not only raising prices, but were feeling more confident in their ability to increase prices further.
–On the question of taper, he would like it to be sooner rather than later and added that it could be accomplished in about 8 months, though he wanted to make a clear distinction between raising the FF target rate and tapering. He opined that getting the taper done rather quickly might actually forestall having to raise rates. (Is the thinking here that the long end will do the heavy lifting?).
–One other note, I have attached a chart of the deceleration in M2 growth, that some, including David Rosenberg are using as indication of peak growth and inflation. Certainly the money supply is still growing aggressively at 12% yoy, even though the growth rate has fallen from 25%. In any event, at the margin it might tend to remove liquidity that has bolstered both stocks and bonds…..
–Large late buyer of 30k 0EZ 9937/9912ps for 3.0 covered 9954 with 16 delta. Settled 2.75 vs 53.5. Taper done quickly leaves a window for tightening into the end of 2022? August midurves expire Friday. Buyer of 10k 3EQ 9850p for 0.5 (settled 0.25) with EDU’24 9869.0. Looking for a crazy strong CPI tomorrow?
Tight jobs
August 9, 2021
–Gold crashed last night, with GCZ falling to 1678, but it has now bounced $65 off the low and is trading 1743. The last time gold traded below 1700 was in March, when SPX was trading around 3800 (vs 4436 now). Crude oil is also under pressure, printing -2.87 at 65.41, fully ten dollars off last month’s high. Blame it on the delta variant. Or the bossa nova.
–A strong jobs report caused tens to jump 7.3 bps to 1.288%, with NFP 943k and Hourly earnings +4.0% yoy. Today features the JOLTS report. (Job Openings). Pre-covid the high in this series was 7.574 million in late 2018. After the plunge it’s now a record high at 9.2 million. I’m sure the tweet below is supposed to be funny… but it has a ring of truth: “Got a CV today and the guy literally listed one of his skills as ‘googling’. We’re interviewing him.”
–The $1 trillion infrastructure bill is closer to passage. A friend mentioned that he needed to buy a basic steel outbuilding for his business, and that the quote has gone from $19 sqft a bit over a year ago to $36 now. More gov’t inspired demand at a time when commodity prices are strong and labor markets tight, while delta causes fresh obstacles to supply chains in China. Gold is trying to tell us it’s deflationary? (or that USD is about to tear higher, or that someone needed to raise some funds fast).
–Gold eurodollar pack (5th year) surprisingly led the strip lower Friday, settling -7.75. Greens (3rd) were -6 and blues (4th) -6.875. This week the treasury auctions 3s, 10s and 30s starting tomorrow. CPI and PPI out Wednesday and Thursday.
Inflation tax
August 8, 2021 – Weekly Comment
Senator Joe Manchin sent a letter to Chairman Powell on Thursday, August 5. Here are the key lines:
“…I am increasingly alarmed that the Fed continues to inject record amounts of stimulus into our economy by continuing an emergency level of quantitative easing…” And, “I am deeply concerned that the continuing stimulus put forth by the Fed, and proposal for additional fiscal stimulus, will lead to our economy overheating and to unavoidable inflation taxes that hard working Americans cannot afford.”
What’s the significance of the Manchin letter? One interpretation might be that if a Senator has finally identified the problem that it is probably close to over. Could it be an attempt to shift more responsibility onto the Fed and away from elected politicians? Re-imposing Covid mask rules regardless of vaccination status is already sitting uneasily on the populace. I think the articulation of inflation as a tax might be the key takeaway that resonates with the population at large. The fact that used car prices may level off in support of the transitory argument will have little impact on a larger change in inflation perceptions. When inflation is loosely equated with wage gains, as it has been by the Fed, it’s an acceptable goal. When inflation is framed by a top politician as a tax causing a decline in living standards when there is already pervasive discussion of wealth inequality, it becomes a problem.
Over time, I have never really thought that changes in treasury supply correlated well to rates. When things are going badly in the economy, rates go down, and this is often accompanied by greater treasury supply as government spends more for unemployment etc. When things are great, there might be less treasury supply as tax revenues increase. Less supply might be thought of as supporting higher, not lower rates. However, for the sake of the tapering discussion, let’s talk a little bit about supply and demand. The below excerpt is from the Treasury Borrowing Advisory Committee (TBAC) recommendation to Sec’y Yellen dated August 3, 2021.
Given the current fiscal and economic outlook, the Committee strongly supports coupon reductions beginning at the November refunding. The Committee estimates that beginning the adjustment in November rather than waiting until the February 2022 refunding results in about a $350 billion reduction in the amount of coupon debt outstanding, allowing the Treasury to maintain more T-bill supply for a given amount of coupon cuts. For November, the Committee recommends reductions of 2-, 3-, and 5-year securities by $2 billion per month. The Committee also recommends reductions of the 10-year security by $3 billion, and the 30-year security by $2 billion for both new issues and reopenings in the quarter. For 7-year and 20-year securities, the Committee recommends declines of $3 billion and $4 billion, respectively, which are somewhat larger than the declines in surrounding securities. It was expected that, based on current fiscal and economic projections, these cuts would need to be sustained over a few quarters in order to maintain T-bills in the recommended range of 15 to 20% of total debt outstanding over time.
This amounts to a reduction in treasury supply of $18 billion per month starting in November. The Fed is buying $80 billion per month in treasuries. Apart from the implications of a broader shift in policy, a taper announcement should be easily absorbed with reduced purchases offset by lower supply. Additionally, as mentioned by Guy Lebas in a twitter thread, the creation of a Standing Repo Facility reduces risk of foreign CBs to own treasuries. “These CBs use USD for managing FX fluctuations, but now with SRF, they need less cash, can own treasuries, clip the coupon and freely convert to USD via the Fed efficiently.”
We’re now three weeks away from Jackson Hole when some believe Powell could lay the foundation for a specific taper announcement. The next payroll report comes the following week, on Sept 3. The next FOMC is September 22. CPI on Wednesday and PPI Thursday. Another strong payroll report should easily clear the way for tapering to begin at the September meeting, especially if other data remain solid. The BOE was hawkish last week, and this weekend, ECB’s Weidmann warned on inflation. “We have to make it clear again and again that we will tighten monetary policy if the price outlook calls for it.” Treasury auctions of $58 billion 3’s, $41B 10’s and $27B 30’s.
OTHER MARKET THOUGHTS/TRADES
Hawkish comments by Clarida last week were punctuated by a strong employment report on Friday, causing the market to freshly evaluate both the timing of the taper and the onset of a move away from funding rates near zero percent. On the week, the green Eurodollar pack (3rd year) was the weakest part of the curve, falling 9.125 bps. Reds (2nd year) fell 6.75 bps and blues (4th) fell 7.5. The five year note rose 6.4 on the week to 0.764% and tens up 5.4 bps to 1.288%.
Many contracts put in outside range weeks and closed near the lows, including FVU, TYU, EDZ2, EDZ3, EDZ4. Five month highs were posted on the weaker than expected ADP release on Wednesday morning, followed by a sharp end-of-week sell off. As an example, EDZ3 ticked a high of 9923.0 on Wednesday and a low of 9898.5 on Friday, a range of nearly ¼%, closing at 9900.5. This type of formation across many contracts signals a trend change, where rallies should now be sold.
In terms of calendar spreads, the highest one-year calendar settlement over the cycle has been EDM23/EDM24 which peaked at settle of 78 on April 5. Currently, that calendar is 48.0 and the peak on the curve is has moved forward to EDU22/EDU23 at 59.5 as the market has somewhat moved the tightening schedule up even as the magnitude of potential hikes has (for now) declined.
| 7/30/2021 | 8/6/2021 | chg | ||
| UST 2Y | 18.6 | 20.6 | 2.0 | |
| UST 5Y | 70.0 | 76.4 | 6.4 | |
| UST 10Y | 123.4 | 128.8 | 5.4 | w/I 131.2 |
| UST 30Y | 189.4 | 193.4 | 4.0 | w/I 194.7 |
| GERM 2Y | -76.2 | -75.6 | 0.6 | |
| GERM 10Y | -46.1 | -45.6 | 0.5 | |
| JPN 30Y | 63.5 | 63.6 | 0.1 | |
| CHINA 10Y | 285.5 | 281.5 | -4.0 | |
| EURO$ Z1/Z2 | 22.5 | 28.0 | 5.5 | |
| EURO$ Z2/Z3 | 50.5 | 54.0 | 3.5 | |
| EURO$ Z3/Z4 | 35.5 | 34.5 | -1.0 | |
| EUR | 118.69 | 117.64 | -1.05 | |
| CRUDE (active) | 73.95 | 68.28 | -5.67 | |
| SPX | 4395.26 | 4436.52 | 41.26 | 0.9% |
| VIX | 18.24 | 16.15 | -2.09 | |
https://www.cnn.com/2021/08/06/business/inflation-fed-manchin/index.html
https://home.treasury.gov/news/press-releases/jy0308
https://home.treasury.gov/system/files/221/TBACRecommendedFinancingTableQ42021-08042021.pdf
New shorts in front of payrolls
August 6, 2021
–Payrolls today expected 870k with yoy Avg Hourly Earnings expected +3.9% from 3.6 last. Technical seasonal factors are a tailwind behind NFP forecasts. In the past few days, Clarida said he expects the next couple of jobs reports to show strength, and Waller said he was hoping for strong data. Is it possible they’re telegraphing what they have already seen in comparable data? Once again, greens (3rd year on strip) led the way lower, closing -6.0 on the day, bringing the two day loss to almost 11.5 bps. EDZ3 traded a high of 9923 on Wednesday and now prints 9904.
–Large option plays reinforced weakness in greens, for example, a buyer of 40k 2EZ1 9875/9850ps for 3.75 to 3.80 synthetically (settled 4.0 vs 9906 in EDZ3) and a buyer of 40k 2EH2 9875/9825ps for 8.5, which settled 10 ref EDH4 9897.5. This latter spread has a delta of 21, so approximately 8k futures, and open interest rose in the underlying contract by 18k. Also worth a mention is a rise in EDZ’24 open interest of 30k contracts. Settlement price was 9873.0, down 5.5 on the day. Of course, this was one of the legs on the EDZ’22/EDZ’24 buy recommendation from a couple of weeks ago over 100 bps. The spread traded 80 on Wednesday and settled 84.0 yesterday. Somewhat interesting that it appears shorts are being aggressively added to one leg of a spread position that remains under water, even as the biggest report of the month looms. On a technical basis, EDZ4 traded a high of 9889 on July 20. It then put in a low of 9866.5 on July 22, had a small bounce and then equaled the 9866.5 low on July 28. On Wednesday’s ADP it eclipsed the July high by 0.5, printing 9889.5, and is working on an outside weekly range (current price 9869.5). A close below 66.5 would signal a double top with an objective around 9844. By the way, the low after the hawkish June FOMC was 9833.5, so there has been a good deal of play in this contract.
