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 Thursday 22 September 2016

AM Bulletin: Fed loses the (dot) plot

 

 

Indices Update

Last night the US Federal Reserve concluded its much-heralded September meeting. The FOMC voted to keep rates unchanged, while signalling the likelihood of a December hike – as expected. In addition, Fed Chair Janet Yellen took a number of opportunities to drive home the message that every Fed meeting is “live” when it comes to the possibility of a rate hike. In this she was desperately attempting to convince someone somewhere that the Fed could raise rates in November – one week ahead of the US Presidential Election.

The key paragraph from this month’s statement ran as follows:

"The committee judges that the case for an increase in the federal funds rate has strengthened but decided, for the time being, to wait for further evidence of continued progress toward its objectives”.

And this is why many commentators feel that the Fed has lost the plot. Bear in mind, just a few weeks ago, Janet Yellen and her Vice-Chair Stanley Fischer said the coast was clear for two rate hikes before the year-end. What has happened since then? Well we’ve had a disappointing Non-Farm Payroll number, weak manufacturing and services PMIs, ditto industrial production and retail sales, while the latest housing data (previously a bright spot) has been patchy. The only recent “good news” was a pick-up in inflation as measured by the CPI. But as the Fed prefers Core PCE as its inflation measure, this is neither here nor there. So, if the case for a rate hike has strengthened, it’s not because the economic data is improving. To their credit, Esther George, Loretta Mester and Eric Rosengren dissented from the statement.

Interestingly, the Fed chose not to blame uncertainty over global conditions for their decision. But the inconsistencies between their statement and forecasts, together with the Yellen/Fischer-hawk/dove flip-flop have left a bad taste with many commentators. This September meeting could well go down in history as the one where the Fed “jumped the shark”. This is where the Fed has shown that it just doesn’t dare raise rates despite claiming that the US economy is improving. And as for December: all the major economic data points are trending the wrong way. If the Fed couldn’t hike yesterday, there’s no way it will be able to hike in three months’ time. In fact, it’s more likely to cut if anything.

The Fed also released its latest Summary of Economic Projections. This is where the central bank gives its outlook for GDP growth, unemployment, inflation and the fed funds rate to 2018 and beyond. According to this, committee members reduced their expectations for both economic growth, inflation and the fed funds rate this year. Back in December when the FOMC voted to hike rates by 0.25%, they also projected a further 100-basis points-worth of tightening for 2016. This was one of the reasons for the stock market slump at the beginning of this year. Now the FOMC members foresee a move to a 0.65% this year which suggests a quarter point move, which, as noted above, is most unlikely.

Yesterday morning the Bank of Japan (BOJ) announced that it was keeping its key Policy Rate unchanged at minus 0.1%. In addition it abandoned its 80 trillion yen per annum target for asset purchases. These could now expand until CPI inflation exceeds 2%. Bear in mind that inflation is currently running at minus 0.4%, so the BOJ may have to buy loads more assets before it hits, let alone exceeds 2%. The trouble is that it’s running out of stuff to buy.

The BOJ also introduced a target yield for the 10-year Japanese government bond (JGB) of zero, effectively taking control of the first 10 years of the bond market and yield curve. The idea is that as the BOJ has a short-term interest rate of -0.1% then it can achieve a positive yield curve by anchoring the 10-year at zero. Bear in mind that the 10-year yield was minus 0.035% ahead of the announcement. Now the BOJ can steepen the yield curve and so boost the profitability of the banking sector by taking its Policy Rate further into negative territory. The BoJ has branded the programme "Quantitative and qualitative monetary easing with yield curve control."

Banks rallied on the news. In fact, global stock index futures, the dollar, gold, silver and oil were all firmer in early trade while the yen weakened initially. However, by the time the US opened the Japanese currency had rallied sharply. It now seems investors are unimpressed by the BOJ’s latest intervention.

The FTSE 100 ended the day 3.98 points higher at 6,834.8

The German DAX rose 42.6 points or 0.4% to end the day at 10,436.5

The US30 closed up 163.7 points to finish at 18,293.7 The S&P 500 ended up 1.1% at 2,163.1 while the Nasdaq 100 rose 1.0% to close at 4,853.8

Equities

Yesterday morning Majestic Wine (WINE) issued a profit warning for the year ending March 2017. The drinks merchant said that it would fall short of its £400 million revenue target and pre-tax profits forecast of £16.1 million, although it gave no indication of how large the miss could be. The firm blamed challenging trading conditions and a disappointing US marketing drive. It said sales were flat and margins falling while its direct marketing campaign in the US appears to have fallen flat. Despite this, chief executive Rowan Gormley said the company was still on track to grow sales from £400 million to £500 million by 2019 and there was no threat to the dividend. The stock ended the day at 330 pence down 23.9%.

Commodities Update

Brent and WTI both shot higher in early trade yesterday following the latest US inventory update from the American Petroleum Institute (API) after Tuesday’s close. The consensus expectation was for a build in crude stockpiles of 3.3 million barrels for the week ended 16th September. However, there was a draw of 7.5 million barrels and crude shot higher. There was also a bigger-than-expected drawdown in gasoline stocks which declined by 2.5 million barrels on expectations of a 1.4 million barrel drawdown. However, this was partially offset by distillate stocks which rose for the sixth consecutive week.

The large crude drawdown was confirmed yesterday afternoon following the Energy Information Administration (EIA) inventory update. The EIA calculated a fall of 6.2 million barrels in crude stocks (on expectations of a 3.3 million decline). However, it also confirmed a modesty build at the Cushing, Oklahoma hub and an increase in distillate inventories. However, crude’s gains were capped to some extent as the EIA reported a rise in US production for the second consecutive week.

Gold and silver shot higher yesterday as investors absorbed the latest monetary shenanigans from the Bank of Japan (BOJ). Overnight the BOJ announced fresh measures designed to boost growth, lift inflation and weaken the yen. The BOJ kept its headline interest rate unchanged, but set a 0% target for 10-year JGB yields and abandoned its target for monetary base. The news saw the dollar rally and the yen weaken. However, the dollar gave back its gains ahead of the Federal Reserve rate decision and went into the meeting little-changed against most of the majors. Meanwhile, the Japanese yen fell sharply in the immediate aftermath of the BOJ decision but then reversed direction as the trading session progressed. After investors and analysts had spent some time considering the BOJ’s moves, the general feeling was that, once again, the BOJ has come up short. This helped to push gold back above $1,320 – a level that had previously acted as support. Silver pushed back up towards $20 per ounce.

Both precious metals flew higher following the Fed’s decision to keep rates on hold. They have pulled back a touch in early morning trade.

Forex Update

The US dollar, euro and British pound went into the Fed meeting relatively unchanged. However, there were some big currency moves yesterday with the Japanese yen exhibiting the most volatility early on.  The yen fell sharply after the BOJ kept its key interest rate unchanged at -0.1%, abandoned its monetary base target (and said this could expand until CPI inflation exceeds 2%) and introduced a target yield for the 10-year Japanese government bond (JGB) of zero, effectively taking control of the first 10 years of the bond market and yield curve. However, a few hours after the decision the yen began to strengthen. By the European close it had rallied over 1% against both the US dollar and euro, with the USDJPY trading close to 100.50. This move indicates that investors were unimpressed by the BOJ’s latest intervention and the supposed overhaul of its stimulus programme. This means more grief for Governor Haruhiko Kuroda and Prime Minister Shinzo Abe.

As far as the Fed was concerned, the market expectation was that the FOMC would hold off from tightening monetary policy. A number of economic data releases over the past few weeks indicated that the US economy wasn’t as robust as the Federal Reserve would like us to believe. Last week’s US Retail Sales data was pretty grim and this is expected to negatively affect estimates for third quarter GDP. As expected, the Fed declined to hike rates despite insisting that the case for a rate rise had strengthened recently. Naturally, the dollar slumped on the news and has continued to fall further this morning.

Upcoming events

Today’s significant economic events include the release of the ECB’s latest Economic Bulletin. We also have a statement from the Bank of England’s Financial Policy Committee. From the US we have Weekly Jobless Claims and Existing Home Sales. There are speeches from ECB President Mario Draghi and Bank of England Governor Mark Carney.  

Disclaimer:

Spread Co is an execution only service provider. The material on this page is for general information purposes only, and does not take into account your personal circumstances or objectives. Nothing in this material is (or should be considered to be) financial, investment or other advice on which reliance should be placed. No opinion given in the material constitutes a recommendation by Spread Co Ltd or the author that any particular investment, security, transaction or investment strategy is suitable for any specific person.

 

Posted by David Morrison

Tagged: AM Bulletin

Category: AM Bulletin


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