The Team is Coming Together for March

All right now, we’ve got another Fed dove who seems to be on board with a March rate hike. The team is coming together. Fed Governor Lael Brainard last night said “assuming continued progress, it will likely be appropriate soon to remove additional accommodation, continuing on a gradual path.” She also mentioned the need to shrink the balance sheet at some point. Powell speaks today and Yellen and Fischer tomorrow should fully corral all the troops when they speak. Using the fed funds mid point, rate hike odds are now up to 88% and 74% if you use the .66% effective rate. Let’s call that almost a done deal. Not only is this past week a big change in terms of rate hike expectations for March, the December fed funds futures contract is now pricing in a 40% chance of 4 hikes this year. Imagine that, we may actually see a one handle on the fed funds rate again. I actually doubted that it would ever happen again with the current economic bent of the FOMC.

One sector that is highly sensitive to short term interest rates is the auto sector as most loans are priced off the short end. It took record incentives in February according to JD Power to generate the same amount of vehicle sales as seen last February. Those enticements were up 10% y/o/y. Auto sales of 17.47mm SAAR was also no different than January. This follows Q4 where delinquency rates for prime and subprime loans rose 13% y/o/y. It’s called pulling forward a lot of sales over the past 8 years and then running out of things to pull forward. I see peak autos in this chart.

Initial jobless claims plunged by 19k w/o/w to 223k, well below the estimate of 245k. There was likely seasonally adjustment issues around President’s Day holiday so wait a week to see the real trend. This brings the 4 week average down to 234k from 241k. Continuing claims, delayed by a week, rose by 3k. I’m copying and pasting my bottom line from last week because it still applies: “Bottom line, employers are optimistically awaiting fiscal reform and that combined with the difficulty of finding competent employees is why there continues to be a modest pace of firing’s.”

Well, Mario Draghi finally got his 2% print in headline CPI again for the first time in 4 years. February printed exactly 2% y/o/y, up from 1.8% in January and in line with the forecast. One year ago headline CPI was -.2% so I would call this a rapid change of events mostly thanks to energy costs as we know. Nevermind though because Draghi says he now just follows the core rate which rose .9% y/o/y for the 3^rd month in a row as expected. Services inflation remains very steady with its 1.3% gain, matching the quickest pace since March 2016. It was the goods side that kept a lid on the core rate as non energy industrial goods prices were up just .2% y/o/y. As the figures were in line, the 5 yr 5 yr euro inflation swap is unchanged at 1.71%. It traded as low as 1.25% back in September and sat at 2.10% when the ECB decided that negative interest rates was a good idea in June 2014.

We hear a lot about the political overhang in Europe ahead of elections in France (Le Pen is not going to win), the Netherlands and Germany (the Germans love the EU) this year but I still believe the biggest risk to Europe is the ECB itself. I’ll say again that negative interest rates are weapons of mass confiscation. They are literally bleeding the banking system on a daily basis. For all the excitement in global equity markets, the Euro STOXX bank index is still down 27% from June 2014 and that comes after a 50% rally off the lows last July. Japanese banks can sympathize as the Topix bank index is still lower by 20% from its recent peak even after a 60% rally off the lows last year. The ECB meets again next Thursday ahead of the trim of 25% in monthly QE beginning on April 1.

Speaking again of European inflation, a day after German CPI printed 2.2% y/o/y in February vs 1.9% in January, today they told us that January import prices rose a whopping .9% m/o/m and 6% y/o/y (highest since May 2011). Yes, petro had a big impact but ex petro prices, import prices were still up 3% y/o/y. The German 10 yr yield is up for the 4^th straight day and by 3 bps to .31%. I don’t advise Mario Draghi to walk the streets of any German cities and towns right now. He should stick to armored vehicles for his transportation.

Lastly in Europe, the eurozone January unemployment rate held at 9.6% as expected, the lowest in almost 8 years. On a eurozone harmonized measure, the German unemployment rate fell to just 3.8% while France held at 10% and Italy did at 11.9%. The Spanish rate fell two tenths to 18.2%. Jobs progress is being made in Europe but there is still a long ways to go as the unemployment rate low pre recession was 7.2% in March ’08.

Following a strong export number out of South Korea yesterday for January, they reported a big upside to industrial production of 3.3% m/o/m vs the estimate of up .3% led by semi’s. The caveat is this is a hugely volatile number month to month. The y/o/y gain was 1.7%. The disappointment was the February manufacturing PMI which is still below 50 at 49.2 from 49 in January. The Kospi was up .5% and it remains a stock market that I really like because its one of the cheapest and hopefully change is a comin with the maybe restructuring of the chaebol’s.

The Hang Seng index didn’t care that President Trump sounded optimistic, smooth and stuck to the teleprompter Tuesday night, it focused on rising US interest rates that they import via the FX peg. It fell for the 5^th day in the past 6 led by a drop in property stocks. A massive bubble is the adjective that comes to mind when I see the stats on Hong Kong property prices and now we have a pin courtesy of the FOMC.