If I were to guess the tone of Janet Yellen’s testimony today is it would be similar to what Lael Brainard said yesterday. We’ll hear about hesitation about another rate hike in September because of the recent inflation stats and she’ll state that QT will begin instead sooner rather than later. Notice how not one Federal Reserve member has used the term ‘quantitative tightening,’ instead referring to it in other ways while ‘quantitative easing’ was freely used and was another way of saying “So tonight I’m gonna party like it’s 1999.” The BoJ and ECB have of course kept that party going since our QE ended.
Ahead of this sovereign bonds are bouncing but keep in mind when looking at the German 10 yr bund yield, there is a new on the run issue as today they auctioned off paper maturing in 2027 which yielded .59%, the highest level since the last day of 2015 and now sits at .61%. The auction was mediocre as the bid to cover of 1.4 matched the lowest since March. A few days after offering to buy unlimited amounts of 10 yr JGB paper because the yield got to .10%, the BoJ today tried to bully the 3-5 yr maturity range after yields there got to their least negative in 18 months. They increased their buying of this range of paper by 10% from what they did last week. It’s all about yield curve control.
Investors Intelligence said Bulls fell 2.5 pts to 50 and all went to the Correction side as Bears actually fell by .2 pts to 18.6. I keep saying this but will again, the S&P 500 has basically done nothing since March 1st when the Bulls reached their 30 yr high. It’s up 1.2% over the 4+ months. The broader Value Line equal weighted index is down 1.5% since then. Point being, from strictly a sentiment standpoint and putting all other influences aside, we likely need a cooling of enthusiasm in order to set the stage for another leg higher. Getting to the point above on QE and its impact, that Value Line index of 1700 stocks basically flat lined from when Fed QE ended until November 8th, 2016 when Trump won. Its rally since off a 4 month low beginning the next day of 14% essentially ended on December 9th 2016. Since December 18th, 2013, the day QE3 tapering began this broad index is up 9.2% in total over this 3 ½ yr period. All I’m trying to do here is distinguishing between the action in market cap heavy indices dominated by the large companies which of course have done much better from the equal weighted ones.
VALUE LINE EQUAL WEIGHTED INDEX since QE3 taper began and which ended in late 2014
Coincident with the rise in Treasury yields, mortgage applications took a hit w/o/w. The average 30 yr mortgage rose 2 bps w/o/w and are up 9 bps over the past two weeks to 4.22% vs 3.6% last July. Refi’s plunged by 13% and are down 58% y/o/y. Thus, a 62 bp increase in rates drove an almost 60% drop in refi’s. And some aren’t worried about the impact of higher rates on an economy that no longer has economic cycles but instead has credit cycles? Purchase applications fell 2.5% w/o/w and are now down in 4 of the last 5 weeks while still higher by 3.5% y/o/y. In response to the Fed driven rise in short term rates, the percentage of mortgages that are adjustable rate have fallen to the lowest since February.
Expect a rate hike at 10am est from the Bank of Canada of 25 bps to .75%. This has been anticipated based on the recent good data out of Canada at the same time Governor Poloz and other members have hinted at it as the BoC joins others this year in removing extreme accommodation in some fashion. Keep in mind though that the BoC cut rates from 1% to the current .50% since 2015 so they are just taking back one of those ‘emergency’ cuts. Ahead of the meeting, the Canadian dollar sits just below its best level vs the US dollar since last September. It’s 10 yr yield is just 5 bps less than the highest level since late 2014. I like the Canadian dollar on any dips.
A dichotomy is developing in China with its money supply and credit loan data. Money supply as measured by M2 in June slowed to 9.4% y/o/y growth from 9.6% in May and one tenth less than expected. With data going back to 1996, this is the slowest pace of gain ever seen even though the PBOC said that we “shouldn’t read too much into slower M2 growth.” On the flip side, Aggregate Financing in June rose 1.78T yuan, 280b above expectations, up from 1.06T in May and higher by 8% y/o/y. Of this, 1.54T were lent from banks with the ‘shadow side’ delivering the balance. A PBOC spokeswoman tried to square the circle on this discrepancy by saying “Financial institutions’ off book expansion has slowed, leading to slower deposit creation and M2 growth, which is the result of financial deleveraging” and that slower money supply growth will be the “new normal.” Thus, the still high credit growth is now being driven by the banks which Chinese authorities can better control. Even so, credit growth is still excessive and it’s still taking more and more to generate less GDP growth. This data came after the Shanghai close where it was down slightly while the H share index rallied by 1% after a 2% jump yesterday.
In the UK, 175k net jobs were created for the 3 months ended May which was well above expectations of 120k and that helped bring the unemployment rate down one tenth to 4.5%, the lowest since 1975. On the wage side, weekly earnings ex bonus’ grew by 2% y/o/y, one tenth more than expected and up from 1.8% in the prior month. These gains are only modest though, especially against CPI which is running 50% higher. Mark Carney and some members of the BoE are reluctant to reverse the most extreme monetary policy in the history of the country on the hopes that wages rebound above inflation. Easier to control however is trying to lower inflation below the nominal wage increases. Pressure is certainly growing on the BoE to at least take back the emergency rate cut after Brexit as after all, the BoE economic estimates were badly wrong that precipitated that cut.
Lastly in the UK, the June jobless claims figure rose by 6k after rising by 7.5k in May and which is a 4 month low. On the data the pound is up a touch while Gilt yields are flat. The BoE next meets on August 3rd.
Continuing a string of relatively good economic data, the hard data point that is industrial production for May was up by 1.3% m/o/m, 3 tenths more than expected but was offset by a downward revision to April. Call it a push. The euro, which touched its highest level yesterday vs the US dollar since May 2016 above $1.15, is down slightly. I’ve been bullish on the euro since $1.05 and remain so. The next big event is next Thursday’s ECB meeting where they will likely leave out the phrase “we’ll increase QE if need be” and which will be a precursor to a further taper in September.