March 20. The Producers
In 1968 a movie came out called the Producers, subsequently rolled out as a Broadway play. The comparison to current events is irresistible (and I’d bet someone has already made it, but I can’t find it). Wikipedia describes the movie as below. I have inserted brackets with my own interpretation.
From Wikipedia: Max Bialystock is a washed-up, aging, fraudulent corruptible and greedy Broadway Producer [Wall Street] who ekes out a living romancing lascivious, wealthy elderly women [Yellen] in exchange for money for his next play. Accountant Leopold “Leo” Bloom [Congress] arrives at Max’s office to do his books and discovers there is a $2,000 discrepancy in the accounts of Max’s last play. Max persuades Leo to hide the relatively minor fraud, and while shuffling numbers, Leo has a revelation: a producer could make a lot more money with a flop than a hit by overselling shares in the production, because no one will audit the books of a play presumed to have lost money. Max immediately puts this scheme into action. They will oversell shares on a massive scale and produce a play that will close on opening night, thus avoiding payouts and leaving the duo free to flee to Rio de Janeiro with the profits.
The name of the play, destined for ruin but inexplicably adored by the public, is ‘Springtime for Hitler in Germany’. Well, it is the onset of Spring, and many are comparing our very own Donald Trump to Hitler. And sure enough, last week Yellen assured risk assets of monetary largesse in order to keep the farce going. Just keep over-selling shares with the promise of future returns in the form of higher equity prices and a robust economy.
The Fed had two choices last week, it could either lean dovishly, thereby weakening the dollar (or, said another way, boost commodity prices in terms of the dollar) which might relieve pressure on commodity dependent emerging markets and energy producers the world over, while also aiding banks and US exporters. This course of action might also give cover to China to push the yuan higher and crush speculators. The other choice was to push a hawkish agenda, and risk nascent rallies in commodities and further flatten the US curve. The Fed chose door number one. Equities and the more speculative fringes of the market ran with the message. EEM and HYG added to powerful gains made since mid-Feb. VIX closed near 14, its lowest level since right before the August yuan devaluation. Happy days.
The interest rate markets also took the message, but in a slightly more mechanical way. The curve steepened, with the belly leading way. The five year yield fell about 15 bps on the week to 133, while bonds only fell about half that amount, down 7.3 on the week. In Eurodollars, the curve is robotically linear. The first 10 one-year Eurodollar calendar spreads are between 25.5 and 28. It’s almost like central planning from China. One hike per year, we’re loyal communists. The pack spreads: White/Red 27.25. Red/Green 27.125. Green/Blue 25.25. Blue/Gold 23.625. Sell volatility and quell dissent. I don’t know that I’ve ever seen it like this.
Bernanke put out a blog this week (a link is at the bottom of this note), where he discusses negative interest rates and other tools of central banks. It’s just more of the same theoretical hogwash, though there is an interesting line in the beginning (echoed by a WSJ article Thursday): “…there are signs that monetary policy in the US and other industrial countries is reaching its limits, which makes it even more important that the collective response to a slowdown involve other policies-particularly fiscal policy.” [Wishful thinking]. According to BB, a cheaper cost of money should make people want to borrow and invest, and compress yields further out the rate spectrum. But, as soon as the central bank backstop is in question, things get shaky in a hurry, as we saw at the start of the year. Like Spock, he concludes with this: “Logically, when short term rates have been cut to zero, modestly negative rates seem a natural continuation; there is no clear discontinuity in the economic and financial effects of, say, a 0.1 pct interest rate and a -0.1 pct rate.” However, there are at least two real world considerations. First, the move to ZIRP or negative brings out the “Leo Blooms”, sharp penciled financiers who engage in stock buybacks and financial engineering rather than capex. (As an example, the spread between GAAP and non-GAAP earnings reports is consistently widening). Second, the constant discussion of unorthodox monetary policy reflects a lack of confidence in the economic system and makes the business sector uneasy. As Donald might say, reaching deep into the theoretical playbook is, well, stupid. Let me add a quote from a friend Derrick W, on how he perceives the CB’s:
Your comments about global central bankers and markets front-running them reminds me of an observation I recently had. Think of it as a trader would. Let’s say you figure out that every time the market crosses the 20 day moving average and you go with the momentum, you can make at least x number of ticks. So you start trading the strategy and make money doing it. You keep doing it because it works, but then after a while other people start to figure it out and do it also. Before you know it, your highly effective trading strategy is being taught in every business school, every analyst training program, every CFA and CMT textbook, and even in youtube videos, yahoo chat rooms, and CNBC. At that point, with every last market participant trying to pursue the exact same strategy, it stops working; there’s no one left to sell to when you want to sell, and no one left to buy from when you want to buy. Soon, the only way to make money in this overly crowded strategy is to anticipate and front run everybody else. Until everybody else figures that out too…
This is precisely what’s happening with monetary policy today. The “crowd” is the global central bankers all pursuing the exact same “trading” strategy, committing obscene amounts of capital to the same trade at the same time and falling flat because it’s simply too crowded. There’s no one left to sell to. And unlike a prudent trader who cuts his losses and adapts his strategy to an evolving market, the bureaucrats just keep doubling down, because all they have to do is print money to go bigger. Where traders have discipline and accountability to their PnL, central bankers have academic theory and accountability to no one but the bureaucrats and academics who created them. When will they get stopped out? That’s like asking a politician to admit he’s wrong. They only get stopped out when the people force them out, and by then the damage will already have been done… In the meantime, we’ll just keep front-running them.
The real problem is this. Official inflation statistics are starting to firm up, and the Fed’s dithering is helping commodity prices. As can be seen from the updated Bloomberg Commodity Index versus 2/10 chart below, one of these two has turned up. The other tends to lag a bit. I would also note that the ten year inflation indexed note yield ended Friday at just 25 bps, the lowest since last May, while the spread between tip and treasury closed at a new recent high above 162. At the same time, the Inventory to Sales Ratio at 1.4 is the highest it’s been in the past decade, outside of the peak of the great recession. https://research.stlouisfed.org/fred2/series/ISRATIO Stagflation.
White line 2/10 yield spread. Red line Bloomberg Commodity Index. BCOM has broken green trendline
One final note. China is still a big wildcard in the global economic picture. From a Bloomberg article Sunday quoting the PBoC head Zhou: “Lending as a share of GDP, especially corporate lending as a share of GDP, is too high.” The story goes on to quantify it, corporate debt alone(!) is 160% of GDP. In the US, though at a record of over $8T (according the Q4 Flow of Funds report), corp debt is only about 45% of GDP. On Business Insiders ‘Most Important Financial Charts” DB’s Joe LaVornga says that Household balance sheets are now stronger than corporates. (http://www.businessinsider.com/bi-most-important-charts-march-2016-2016-3 ) _____________________________________________________________________________________
Trade thoughts
The Fed’s dovish tilt would seem to be an engraved invitation to buy curve, though a stock market reversal to the downside or further shocks globally might change that picture in a hurry. Green/gold pack spread at 49…too cheap. June/July FF spread at 4.5…doesn’t reflect high enough odds of a hike in June and is a good hedge for long curve trades.
We all tend to remember the specifics of trades that did not quite go our way. One of mine was in April, 2001. I had all sorts of calls that expired right before Easter that year, which was April 15. They expired worthless. Then, on April 18, between meetings, the Fed announced a surprise cut of 50 bps. http://cnnfn.cnn.com/2001/04/18/economy/fed/
There will never be a surprise hike out of this Fed. But there are plenty of things that could lead to a surprise rally in rate futures. Don’t be the guy that buys calls expiring Thursday. Get yourself some cheap May treasury calls (Apr 22 expiry…FVK 121.5c 7.5) or some April ED midcurves, which ironically settle on April 15. Green April 9925c for cab.
_______________________________________________________
| 3/11/2016 | 3/18/2016 | chg | |
| UST 2Y | 95.3 | 83.5 | -11.8 |
| UST 5Y | 148.1 | 133.3 | -14.8 |
| UST 10Y | 197.5 | 187.0 | -10.5 |
| UST 30Y | 274.7 | 267.4 | -7.3 |
| GERM 2Y | -46.6 | -47.6 | -1.0 |
| GERM 10Y | 27.1 | 21.2 | -5.9 |
| EURO$ M6/M7 | 35.0 | 28.0 | -7.0 |
| EURO$ M7/M8 | 31.5 | 27.5 | -4.0 |
| EUR | 111.51 | 112.70 | 1.19 |
| CRUDE (1st cont) | 40.09 | 41.14 | 1.05 |
| SPX | 2022.19 | 2049.58 | 27.39 |
| VIX | 16.50 | 14.02 | -2.48 |
________________________________________________________
https://en.wikipedia.org/wiki/The_Producers_%281968_film%29
http://www.brookings.edu/blogs/ben-bernanke/posts/2016/03/18-negative-interest-rates
March 18. Fed’s move squelches volatility
–Interest rate futures continued to rally after the Fed’s shift back to the dovish camp. The ten year yield fell 3.3 bps to 190.3. The eurodollar curve flattened, with reds +2.25 and golds +5.125; red/gold pack spread is hovering around the lows at only 76.5 bps. One year calendar spreads also declined, with the first TEN (!) one-year spreads setting between 25 and 30.5. The implication is one hike per year. In fact, the June/July Fed fund spread, which would be expected to trade at least 12 bps if the Fed hiked in June (as the date of the June meeting is June 15, halfway through the month), closed at only 4.5 bps. Reflective of the move to an inert curve and Fed, implied vol in interest rates is seeping out like blood from another Chicago gunshot victim (21 shot and one stabbed yesterday). Sub 5% in TYM. Green and blue midcurve straddles lost 1-1.5 bps.
–However, we can all take solace from the rallies in risk assets and oil and commodities. Some of the financial stresses facing emerging market economies and junk bonds are being eased. EEM (emerging mkt etf) and HYG, JNK all have had strong rallies and are at levels not seen since early December. On the other hand, EUR and JPY also strengthened against the dollar. So as Brexit looms, Draghi is left with a stronger currency that will further sap the strength of the EU exporters.
–The fact remains that official inflation in the US has gently turned up. The boost in commodities will likely reinforce inflationary impulses. The back end of the curve has been conditioned to float to lower rates, but the curve will likely steepen going forward.
March 17. Just as inflation is turning, the Fed has self doubt
The Fed is belatedly coming towards the market view of growth and inflation just as inflation may have turned the corner. Somewhat interesting that as the Fed downgraded the 2016 inflation assessment, the spread between the ten year and inflation-indexed note spread made a new high at 159, highest since early December and 40 bps off the Feb low. Median dots dropped to 0.875 in 2016 and 1.875 in 2017. While EDZ16 closed at 9910, in the same ballpark as the Fed’s projection, EDZ17 closed 9877, more consistent with a FF rate of 1% to a bit higher. So the dot plot year-over-year spread is 100 bps, but Dec’16/Dec’17 is only 33 bps.
–There were some large put exits in euro$’s on early morning weakness in futures, for example, a seller of 60k EDU6 9900/9875 put spread at 6.0 (open int fell 97k and 65k). This trade was an exit of the top put spread of the 9900/9875/9850p fly, and there were other related exits as well. Good timing, as near interest rate futures exploded higher on the Fed’s announcement. Fives and tens made new lows early, had outside days and closed on the highs (and are higher yet this morning). Big steepener as the 5 yr yield (at the 3:00 pm floor close) was down 7.8 bps, while tens fell just 2.2 and bonds actually rose 1.3. The 5/30 treasury spread, which had been making new lows around 124 snapped back to end at 132.7.
–Dollar weakness is not likely to help the other central banks. EUR has been in a range of 105 to 115 for the last year and a quarter, and is last near 113, testing the upper range of the band. Not good news for Draghi. Also unwelcome for Japan with $/yen below 111.50 and ZH reporting that Japan’s exports to the US dropped by the most since 2011, and total exports were down 4%. While the Fed chose to highlight global risks based on China, the dovish stance unwittingly created new pressures on the EU and Japan.
–Precious metals exploded higher with gold up nearly $40 from the low, though still shy of last week’s high. Today’s news includes Jobless Claims, expected 270k, Philly Fed -1.4 from -2.8 last, JOLTS and Leading Indicators expected +0.2.
–With inflation measures turning up, and oil benefiting in part from a weaker dollar, the Fed’s announcement was an engraved invitation to buy the curve. Red/gold pack spread rose 6.625 to just over 79 bps. The low has only been 73 in the past month. This spread could easily move to well over 100 bps in short order if the Fed doesn’t backpedal over the next few days.
March 16. FOMC day
–So it’s come down to Hillary vs Trump. In a metaphor, the Washington DC subway system, said by Reuters to be the second largest in the country, has unexpectedly been shut down today for emergency inspections. Let’s hope Janet doesn’t take the subway to work.
–After retail sales data yesterday the Atlanta Fed GDPNow Q1 growth forecast was revised down to 1.9% from 2.2. Real consumer spending projection fell from 3.3% to 2.7%.
–Today’s news includes CPI expected -0.3 but Core +0.2. Housing Starts 1.146m. Industrial Production -0.2%. In front of today’s FOMC announcement and press conference, the front end of the curve continued to trade under pressure. EDM6 settled 9919, the lowest level since mid-January, at the 0.618 retracement of the late Dec low 9907.5 to Feb 11 high of 9939. One-year eurodollar calendars are around the midpoint of the year’s range. 5/30 treasury spread made a new recent low of 123.6, with the five year yield up 1 bp and the bond down 1.
–The dot plot for 2016 will come further down, more toward the market (one-year euro$ calendars around 32-35 bps are indicative of 1.5 hikes over a year, and EDZ6 settled 98.995, while the 17 dot average for 2016 in Dec was just above 1.25%). The surprise would be a tick higher in expected inflation back to 1.7% from 1.6 for 2016. While “transitory” factors holding down inflation appear to be abating, the market doesn’t quite buy into the growth story at this point. However, the Fed will also likely indicate that international stresses are moving into the rearview mirror, a slightly hawkish tilt.
March 15. Let’s stop all the negativity…
–Continued modest flattening bias in US rates in front of tomorrow’s Fed decision. For example, 2/10 treasury spread eased 2 bps to 100.1, with the ten year yield falling 1.4 to 196.1. With the expiration of March eurodollar contracts, I switched to June for packs, and the red/gold pack spread fell 1.875 to 73.5 bps. Gold and silver had big reversal days yesterday, with silver posting a new high early in the day and then closing lower on an outside day. Oil was weak as well, as Russia supported Iran’s position of not being bound by production caps. As of this writing CLJ -87 cents to 36.31; it had traded as high as 39 on Thursday. While higher oil prices have helped the energy sector, there were several articles on revolving credit lines to energy and exploration firms being slashed at semi-annual reviews, notably Whiting, which is expecting a cut of $1.2 billion, over 40%. The point is that a reduction in credit facilities operates with a lag, and pressure on the sector may continue.
–Volume in rates was quite light yesterday. BoJ kept steady policy, but removed language that it would cut rates further into negative territory if needed. Yen has rallied as a result, with $/yen just above 113. Perhaps the most important bullet point: KIUCHI SAID NEGATIVE RATES IMPAIR FUNCTION OF FINANCIAL MARKETS. This viewpoint appears to be garnering more traction among global central bank officials. (Though I don’t know how BoJ purchases of 3.3T yen in ETFs could be termed part of normally functioning markets). Interesting link yesterday says that Horseman Capital thinks a Japanese banking crisis will be the next shock that spills over into global markets. http://www.businessinsider.com/horseman-capital-japan-fund-short-regional-banks-2016-3
–US news today includes Retail Sales, expected -0.2, or +0.2 ex-auto and gas. PPI expected -0.2 with Core +0.1. Empire Mfg -10.5.
March 13. Weekly summary
Last week I noted the commodity resurgence and how it was beginning to spill over into the US curve, for example in one-year euro$ spreads. This theme has continued, with near one-year Eurodollar calendars posting new monthly highs. However, the peak spread of June’16 to June’17 is still only 35 bps, up just 5.5 on the week, so it’s hard to make the claim that the market is pricing for a much more aggressive Fed (in front of Wednesday’s FOMC and dot plot).
The big event of last week was the ECB meeting on Thursday. Certainly one goal of that meeting was to help the banks, and that part may have been deemed successful with many European bank stocks closing at one month highs. On Friday Banco Popular gained 12.7%, UniCredit 9.5%, etc. The other important goal of the central bank is to weaken the currency. That did not occur. EUR closed just above 110, right around the midpoint of the past year’s sideway range of 105 to 115. The ECB has to weaken the euro to provide stimulus. Even EURJPY (near 127) closed at the high of the last 18 sessions.
In the US the struggle is for growth and inflation. In terms of the latter, the tide appears to be shifting, with a slightly weaker dollar and incipient turn in commodities. However, the 2/10 treasury spread, while having closed at the high of the week just above 102, barely changed from the previous Friday. Treasury yields all ended the week higher, but are well within technical parameters from the beginning of the year (or longer). For example, the five year note has been in a range from about 185 to 115 for the past thirty months. The move from the late Dec high of 179 to the mid-Feb low of 112 captured nearly this entire longer term range. On Friday the yield was 148, just between the 50 and 61.8% retracement levels. The ten year yield is exactly at the 50% retracement of the year’s move from 230 to 166 (198), and the 30 year is just shy of halfway back. [Ten year yield chart below]
So, current levels don’t provide much of an “edge” unless one thinks there have truly been catalysts for trend change. On Thursday, I thought the conditions for a turn might be in place, with 1) continued commodity gains, 2) ECB measures and 3) a Reuters report on China: “China’s central bank is preparing regulations that would allow commercial lenders to swap non-performing loans of companies for stakes in those firms… The new rules would reduce commercial banks’ non-performing loan (NPL) ratios, and free up cash for fresh lending for investment in a new wave of infrastructure products and factory upgrades that the government hopes will rejuvenate the world’s second-largest economy.” I.e. stabilization in oil and other commodities along with central bank stimulus.
However, as mentioned, the Euro isn’t weakening. And on Saturday Bloomberg had this quote: “Excessive monetary policy stimulus isn’t necessary to achieve the target,” [PBoC Governor] Zhou said at a press conference in Beijing, referring to China’s plan for at least 6.5 percent growth over the next five years. “If there isn’t any big economic or financial turmoil, we’ll keep prudent monetary policy.” On Saturday Moody’s downgraded its outlook for Hong Kong from “stable” to “negative.” It appears that China continues to flounder. Money is still fleeing the country. From BBG: “Blackstone Group LP agreed to sell Strategic Hotels & Resorts Inc. to China’s Anbang Insurance Group Co. for about $6.5 billion, just three months after it purchased the U.S. luxury-resort company, according to people with knowledge of the matter.” Sort of reminds me of when the Japanese bought Pebble Beach Golf Course in the ‘deal of the year’, September 1990. (When the Nikkei was at 39000). From a 1990 NY Times article: In recent years, Japanese interests have taken control of New York’s Rockefeller Center, Columbia Pictures, CBS Records and several prestigious United States hotels.*
With regard to stimulus measures, equities were glad to accept the message and run with it. SPX gained 1% on the week and closed at a 2 ½ month high. But earnings are declining, and Business Insider (citing Chas Schwab) reports that one of the main drivers for stock strength, company buybacks, has slowed significantly. As I mentioned during the week, the Fed’s Flow of Funds Z.1 report showed deceleration in Consumer, Mortgage, Corporate and State/Local Gov’t borrowing over the past three quarters. This does NOT bode well for forward growth. Additionally there was this interesting note from AMZN’s chief tech officer: “The startup world is radically different today than it was ten years ago. A typical investment ten years ago, to be able to get a business off the ground that needs to scale in one way or another, was around $5 million. Today, for $50,000-$100,000, you can get yourself a pretty good businesses started … the rise of the whole startup culture is largely driven by cloud.” * Andreessen has said the same thing. Sort of makes one think that sky-high tech valuations need to come down. Barriers to entry have crumbled. My Nasdaq target is 3800-4000 by the end of Q3, so about 15% lower than current levels.
If you want to buy stocks based on Central Bank largesse, have at it. But keep in mind that the Fed’s bias toward higher inflation appears to have some support currently, and in spite of tepid growth, the Fed leans toward financial restraint. This week’s FOMC isn’t likely to reveal major changes, though I’d guess that nearer term dot averages will decline somewhat. If anything, there might be a surprise uptick in the 2016 inflation projection.
Aside from the Fed, the BoJ announcement is early Tuesday. PPI and Retail Sales also Tuesday. CPI, IP and the FOMC on Wednesday. Philly Fed and JOLTS Thursday.
_______________________________________________________
| 3/4/2016 | 3/11/2016 | chg | |
| UST 2Y | 87.0 | 95.3 | 8.3 |
| UST 5Y | 138.1 | 148.1 | 10.0 |
| UST 10Y | 189.2 | 197.5 | 8.3 |
| UST 30Y | 270.7 | 274.7 | 4.0 |
| GERM 2Y | -54.0 | -46.6 | 7.4 |
| GERM 10Y | 23.8 | 27.1 | 3.3 |
| EURO$ M6/M7 | 29.5 | 35.0 | 5.5 |
| EURO$ M7/M8 | 29.0 | 31.5 | 2.5 |
| EUR | 110.06 | 111.51 | 1.45 |
| CRUDE (1st cont) | 35.92 | 40.09 | 4.17 |
| SPX | 1999.99 | 2022.19 | 22.20 |
| VIX | 16.86 | 16.50 | -0.36 |
_________________________________________________________
March 11. Two major stimulus moves. Will the market buy it?
–Wild day yesterday with large ranges across many products as the ECB expanded QE to include investment grade corporate bonds. Earlier in the day, China also announced stimulus measures. From Reuters:
“China’s central bank is preparing regulations that would allow commercial lenders to swap non-performing loans of companies for stakes in those firms, two people with direct knowledge of the new policy told Reuters.
The new rules would reduce commercial banks’ non-performing loan (NPL) ratios, and free up cash for fresh lending for investment in a new wave of infrastructure products and factory upgrades that the government hopes will rejuvenate the world’s second-largest economy.”
–So two major stimulus catalysts, which should have been positive for risk assets, but as of yesterday’s close the result wasn’t particularly clear, with outside days in SPX, Nasdaq, and DJ Comp and the latter two closing slightly negative.
–5/30 made a new low yesterday at 125.8. Near eurodollar calendars made new highs. For example, EDM16/EDM17 jumped 5 bps to 33. EDU6/EDZ6 made a new high at 9 bps.
–March midcurves expire today
—————————
The Fed’s Z.1 Flow of Funds came out today for Q4. The press always focuses on Household Net Worth, but I just want to mention a few things from the summary tables of debt growth.
Over 2015, the big categories of debt growth DECELERATED. For example, Household Mortgage Growth was only 1.5% in Q4 vs 1.7 in Q3. Consumer Credit decelerated for the last three quarters. Corporate debt decelerated over the past three quarters, though the absolute level of $8.097T is at a record. State and local gov’t debt fell to zero growth in Q4. For some reasons the Federal Gov’t Growth Rate exploded at an 18.5% rate to a record $15.166 T. Decelerating growth levels of debt means deceleration in the economy. It’s that simple.
If table cannot be viewed here are last 3 qtrs growth rates, Q2, Q3, Q4: Mortgage 2.5, 1.7, 1.5. Cons Cred 8.5, 7.2, 5.9. Corp 8.6, 4.6, 2.7. State/local govt 1.0, 1.7, 0.0. Fed govt 2.4, 0.2, 18.5.
|
FROM Z.1 FED FLOW OF FUNDS REPORT |
10-Mar-16 |
||||
|
2015 |
HH Home Mortgage |
Consumer Credit |
Corporate |
State & Local Govt |
Fed Gov’t |
|
Q1 |
0.0 |
5.6 |
8.5 |
4.3 |
-1.1 |
|
Q2 |
2.5 |
8.5 |
8.6 |
1.0 |
2.4 |
|
Q3 |
1.7 |
7.2 |
4.6 |
1.7 |
0.2 |
|
Q4 |
1.5 |
5.9 |
2.7 |
0.0 |
18.5 |
|
Outstanding Amt |
9490.6 |
3533.1 |
8096.9 |
2979.6 |
15165.6 |
March 9. Flatter
–Rates eased yesterday with the ten year yield declining 7 bps to 1.832%. While next week’s FOMC meeting appears to be a dead issue, the idea of a hike in April or June remains a possibility. Over the past two days there have been sizable trades placed for the idea of hikes going forward. Yesterday it was EDU6 9912/9887/9862 put fly bought for 5.5 (settled there) in size of 40k. There was a similar size buyer of the April/May 9912.5 put calendar for just under 1 bp, targeting an April hike, (April should expire worthless, leaving a cheap residual bet for the late April FOMC).
–The 2/10 treasury spread made a new low during the day, but closed positive at 96. However, the red/gold euro$ pack spread closed at a new low just under 74.5 bps. The entire futures complex closed with lower yields on the day except for EDM6, which was unchanged at 9923.5. By maintaining a hawkish stance, the Fed is encouraging a flatter curve. If they simply dismissed the idea of any near term hikes, the curve would steepen, and the dollar would likely ease. A softer dollar would underpin a nascent recovery in commodities and help on the inflation side, while higher long rates might help quell some of the speculation in, for example, CRE (noted by the Fed as a risk factor).
–ECB meeting is tomorrow. Risks loom large, as noted by this clip on Italy’s financial sector from Business Insider. “At the core of the issue is the concerning level of Non-Performing Loans (NPL’s) on banks’ books, with estimates ranging from 17% to 21% of total lending. This amounts to approximately €200 billion of NPL’s, or 12% of Italy’s GDP. Moreover, in some cases, bad loans make up an alarming 30% of individual banks’ balance sheets.” The article further notes that Italy’s plan to set up a “bad bank” is now prohibited by EU rules.
–Ten year note auction today.
March 8. Mixed signals
–China’s exports were reported down 25.4%, expected -14%. I suppose that’s because China is turning into a ‘service’ economy, right? A lot of things aren’t exactly hanging together right now. Where had the demand for raw commodities come from? China – in order to manufacture and export. Well the raw commodity prices, iron ore, lumber, copper, oil, all reflect renewed demand, but perhaps the rest of the world isn’t buying the finished products? Leading to increased inventories and price cuts, perhaps through a weaker currency, which would rekindle fears of a global deflationary wave.
–The above is just a speculative ramble, but US stock indices are slightly below yesterday’s lows as of this writing, and interest rate futures are seeing a nice bounce higher after yesterday’s low volume churn probing lower prices. At yesterday’s futures settle, the ten year yield had gained 2.3 bps to 190.2, and the green euro$ pack (weakest part of the curve) was down 3.75 bps. 5/30 yield spread again edged to a new monthly low of 128.5. Crude oil popped convincing above the late Jan/early Feb highs, and once again there were trades placed in euro$ options to target the next hike. For example, a new buyer of 60k EDM6 9925/9912/9900 p fly for 3.5 (settled there). With EDH6 trading 9934.5 and expiring Monday, the target 9912.5 strike is 22 bps lower – a play for expected June hike.
–As noted yesterday, EDZ6 finally traded back down to the level from January 27, when there was a big outright seller of the contract at 9910.5 to 9908. In the interim the high trade was 9937.5. This contract has the most open interest of any on the curve, at 1.329m. Halfway back from the late Dec low of 9873.5 to the Feb 11 of 9937.5 is 9905.5; yesterday’s low was 9906.
–While many analysts talk about global monetary policy divergence, I would point to recent stream of conflicting data within the US. As alluded to above, the plunge in China’s exports doesn’t seem to square with the commodity rally. But how about yesterday’s Fed Labor Market Conditions? On the heels of Friday’s strong 241k gain in nonfarm payrolls, Labor Conditions came out -2.4, the weakest since 2009. Or how about yesterday’s outright decline in revolving credit (-1.3% or -$1.1B) vs the gains reported Friday in retail employment? Even the Fed’s data doesn’t tell a cohesive story. For example, the financial stress index from the Cleveland Fed is AT the 2010 high and just below the 2011/12 high, whereas the St Louis stress index is rising, but still below zero. In stocks, ZH notes a widening chasm between GAAP and non-GAAP reported earnings. While near euro$ calendar spreads again edged to new highs, one-year spreads holding barely above 30 bps suggest only one more hike this year.
–Treasury auction of 3’s today (followed by 10’s and 30’s Wed/Th). NFIB Small Biz optimism also this morning, expected 94.0..
March 7. BIS says faith in Central Banks is waning
–Better than expected NFP sent interest rate futures lower, with the ten year yield up 5.2 bps to 187.9. This week brings auctions of 3s, 10s and 30s. Stanley Fischer speaks today to the NABE at 2:30 EST.
–Near eurodollar calendar spreads made new highs Friday. For example, what is once again the peak one-year spread, March’16 to March’17, rose 4.5 bps to 31.5. Most one year spreads are holding around 1/4% (28-29 bps), indicating a rather slow pace for any tightening. Additionally, the 5/30 treasury spread actually flattened slightly on Friday with the five year yield up 5.1 and the bond up 4.4; spread closed 132.2.
–As if Draghi’s job at this week’s ECB meeting wasn’t hard enough, the BIS came out and said that the market’s faith in central bankers is faltering. From The Times: “The global economy is heading for a storm as faith in policymakers dwindles, according to a stark warning from one of the world’s most respected financial institutions.
The uneasy calm in financial markets last year has given way to turbulence, the Bank for International Settlements, known as the central bank for the world’s central banks, said in its latest quarterly report.”
–From Reuters, “The Bank of Japan (BOJ) is expected to cut next fiscal year’s economic and price forecasts at a quarterly review in April, sources say, reflecting growing gloom in the bank after its most recent stimulus measures fell on stony ground.” The article further echoes the same theme, “…there is waning confidence that monetary policy is providing an effective boost to the economy.”
–On the other hand, stimulus measures in China must be having some positive effects, because there is a broad upturn in industrial commodities. China’s reserves were reported as having fallen just $28.6 billion vs expected $40b.
