Commodity prices, especially those of thriving industrial metals, have also rallied courtesy of the weaker greenback. Emerging market currencies are collectively stronger, too. This is all coming because traders are more-or-less betting that the Fed is at the end of its hiking cycle, and financial conditions will not be constricted by policy-maker intervention. Relatively cheap money will continue to flow, as yields remain depressed, and allow for the (sometimes wonton) risk-taking conditions that markets have grown used to in the past decade.
3. Some risk being taken again, though somewhat nervously: The play into risk-assets makes everything sound quite rosy. There are caveats to this, however. And that relates to what’s been inferred about global growth from the Fed’s meeting this morning. Implicitly, at the very least, the Fed has acknowledged that growth in the US and world economy is all but certain to slow-down.
It wasn’t said outright – a central banker would never want to be anything less than cautiously optimistic – but the tone of Fed Chair Powell at his presser suggests a Fed that is sufficiently concerned about the global economy that they will definitively reverse its policy “normalisation” course. Positivity was maintained by the Fed about US economic conditions, outrightly. However, the market has read between the lines, and it doesn’t like what it sees.
4. Interest rates are now expected to be on hold for this cycle: So: although swung around post release, the more important bond market is telling a clearer story. The yield on the US 10 Year Treasuries have tumbled nearly 8 points to 2.53 percent, and the yield on US 2 Year Treasuries has fallen 7 points to 2.39 per cent. More remarkably, the yield on Treasuries with 3, 5- and 7-year maturities have dropped over nine points, creating a yield curve with a very flat belly.
Of most concern here is that all of these securities are trading just at, or well below, the Fed’s current effective overnight-cash-rate of 2.40 per cent. Traders are now pricing in a greater than 50 per cent chance the Fed will cut rates by early next year, on the basis of deteriorating economic conditions.
5. It’s getting harder for the Fed to get the right balance: The tight rope is getting narrower. For market participants, as always: on one side of it sits the need for accommodative financial conditions, on the other the need for robust growth conditions. It’s the rudimentary in principle, though complicated in practice, interplay between the credit cycle and the business cycle. Out of this Fed meeting, the proverbial tight rope walker is nervously shifting her gaze down towards the economic growth outlook.
Powell and his team have apparently not struck the necessary equilibrium in its approach to its policy and communications to the market. Yes (again), risk assets have rallied, but right now, not in such a way that suggests the bulls are significantly more confident in the investment environment being planted before them.
6. Other stories also important, though not as much as the Fed: Some of this could be attributed to the overhang coming from some of the other significant economic stories yesterday. Sentiment has been dented by news that key EU figure Donald Tusk may demand that no Brexit extension is granted for the UK; it has also been liver-punched by a story suggesting US President Trump does not necessarily see a lifting of tariffs on China occurring in any US-Sino trade deal.
Once more: it does appear that markets have seen the greatest gravitas in the Fed meeting, though. And traders’ nervousness is being betrayed by this: despite a dovish tact, corporate credit spreads have rallied, the VIX is off its multi-year lows, and US Break-evens are revealing greater inflation risk in the US economy.
7. Australian markets to be defined by Fed and employment numbers: Fittingly, SPI Futures are suggesting the ASX200 will open somewhere between 5-and-10 points lower this morning. Speaking of markets and the growth outlook, not only will Australian trade be impacted by the fall-out from the Fed’s nervously dovish tilt, we also get some highly anticipated employment figures out this morning.
The currency and rates markets will be what to watch for: the themes driving the ASX200 this week is the renewed push in iron ore prices, along with the rotation into yield-driven defensive sectors as Australian ACGB yields tumble. The RBA have hitched their hopes for the Australian economy on a tightening labour market and subsequent lift in wages growth and inflation. Watch therefore today for any major downside miss in employment numbers.
8. Market watch:
- AUD +0.7% to 71.34 US cents
- On Wall St near 4pm: Dow -0.6% S&P 500 -0.3% Nasdaq +0.1%
- In New York, BHP +1% Rio +0.2% Atlassian +0.4%
- In Europe: Stoxx 50 -1.1% FTSE -0.5% CAC -0.8% DAX -1.6%
- Spot gold -0.4% to $US1301.15 an ounce at 12.59pm New York time
- Brent crude +0.8% to $US68.18 a barrel
- US oil +1.3% to $US59.80 a barrel
- Iron ore -3.4% to $US84.30 a tonne
- Dalian iron ore -0.1% to 613 yuan
- LME aluminium -0.5% to $US1937 a tonne
- LME copper -0.03 per cent at $US6457 a tonne
- 2-year yield: US 2.40% Australia 1.54%
- 5-year yield: US 2.33% Australia 1.55%
- 10-year yield: US 2.52% Australia 1.93% Germany 0.08%
- US-Australia 10-year yield gap near 7.20am AEDT: 59 basis points
This column was produced in commercial partnership
between The Sydney Morning Herald, The Age and IG