Veranta Macro Series #1: Big Week in Macro-land

The Veranta macro-series brings you the latest macro developments, research and their impact crypto, forex and metals (all trade-able on Veranta). In the first series, we explore the FOMC meeting, treasury refunding, BoJ and crypto speculation. Please note that this is for educational purposes only, and nothing written here constitutes financial advice.

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FOMC Meeting

The Fed kept rates on hold as expected. Messaging around bond yields though was taken as a dovish sign by the market.

The Federal Reserve has been attempting to achieve a soft landing. They aim to tighten financial conditions through rate hikes, quantitative tightening, and hawkish messaging. This is done in order to slow down the economy just enough to bring inflation under control, without causing a severe recession. However, the US economy is currently performing well, largely due to a strong fiscal impulse. With robust GDP growth and a thriving labor market, the Fed is compelled to maintain tighter financial conditions for an extended period until the economy begins to slow down.

The Federal Reserve has made several references to the increase in long-term bond yields, which has led to a significant tightening of financial conditions in the past month or so (dovish messaging). When asked about this matter, Powell attempted to provide a balanced perspective and emphasized that the tightening of financial conditions should be “persistent,” indicating his lack of confidence that policy is currently restrictive enough (hawkish messaging).

Over the past couple of months, there has been a sell-off in long-end treasuries, resulting in a rise in long-end term premium. This can be attributed to concerns surrounding increased supply and the return of price discovery in the treasury market as price-agnostic buyers such as the Fed and foreign central banks step back. As a result, financial conditions have tightened, providing the Fed with more flexibility. However, it is crucial for the Fed to ensure a hawkish (or at least balanced) messaging regarding rates due to the highly reflexive nature of the market. If the market perceives a shift towards dovishness, it will once again reprice the term premium. This was exactly what occurred on Thursday when the market interpreted the message as signaling the end of rate hikes, leading to significant rallies in both bonds and equities. The DXY also declined to 106.19. Nevertheless, the market still priced in a possibility of further rate hikes, with approximately a 20% probability of a hike in the December meeting and around 25% in January.

However the non-farm payrolls print on Friday was decisively dovish and at this point the market is taking the narrative that the hiking cycle is over (Dec hike probability of ~5%, Jan hike of ~9% and DXY down to 105.2). Future data prints of similar nature could force the Fed to turn hawkish again.

US Economic Data

Economic data this week was a mixed bag, with some prints showing signs of cooling while others showing that the economy is still running hot. The higher for longer rate environment will continue till the Fed sees clear signs of economic slowdown, which they hope is just enough to control inflation without breaking something.

US Home Prices

US home values rose more than expected and posted record highs. (The national composite, 10 city composite and 7 individual city benchmarks are at their all time highs. Prices are at new records in Atlanta, Boston, Charlotte, Chicago, Detroit, Miami and New York). This is an inflationary dynamic.

Labor Market

JOLTS job vacancies in the US are still going strong at 9.55 million open positions showing a tight labor market. Strong labor demand is indicative of elevated levels of demand in the economy ( if businesses are hiring, consumers are still spending) and is inflationary. Its also indicative of a wage price spiral that’s inflationary as well. The employment cost index (ECI) also rose more than expected (1.1% vs 1% expectation).

However the Non Farm Payrolls data (one of the most important labor indices in the US) on Friday gave a dovish print at 150k new jobs added vs 180k expectations, showing cooling on this front (hot Sep and Aug numbers were also revised down which is further dovish). Unemployment rate also ticked up to 3.9% (against expectation of 3.8%). The markets cheered this data which shows signs of cooling in the economy (Fed policies are working, don’t need to hike more if the economy continues cooling). This also speaks volumes about the matching efficiency of US labor markets, with millions of jobs open and about 1.5 jobs available per unemployed person!

Manufacturing Data

ISM Manufacturing missed estimates (46.7 vs 49 expected) which was the 12th monthly contraction showing a slowdown in American manufacturing over the last year. This also shows slowdown in the economy and shows that Feds efforts are working and thus is dovish.

US Treasury Refunding Announcement

This is a critical data point for the bond market. US treasuries have had the worst selloff in living memory with ~50% drawdowns from all time highs and is a big input to tightening in financial conditions. Bond rates also feed into other risk asset sentiment and have a bearish overhang on equities. The data on how many new bonds the US govt is going to sell is a very important supply side variable whose influence on the world’s biggest asset market just can’t be overstated.

This week’s data point was bullish bonds. Treasury slashed its quarterly borrowing estimate from $852 Bn to $772 Bn in the Oct-Dec quarter which led to a long end bond rally. The increases in long end bond sales was also smaller than the market expected.

Bank of Japan Policy Meeting

BoJ has been one of the most dovish central banks in the world and is a major outlier compared to other central banks in terms of the hiking cycle (short end rates are still negative).

Since 2016, it has tried to suppress long term borrowing costs in an effort to stimulate growth in the economy. This policy is called Yield Curve Control (if long end yields rise too much, BoJ buys bonds to bring the yields back under control. This is effectively money printing by other means.) BoJs YCC policy is very important from a global liquidity standpoint, since Japanese investors buy foreign assets with the general liquidity available as yields of Japanese assets are very low. It has also encouraged the massive global yen carry trade (borrow cheap yen, and invest that capital in higher yielding assets abroad).

The BoJ is slowly trying to normalize policy, since this dovish stance negatively impacts the yen (carry trade again, borrow cheap yen and sell it to buy other assets in other currencies). The bigger the rate differential from other economies, the more headwinds for JPY. However a disorderly normalization could be a big global liquidity shock and could negatively impact other global assets if massive amounts of capital suddenly starts selling global assets and gets repatriated back to Japan. Thus the BoJ is trying to perform a very delicate balancing act.

Speculation around BoJ adjusting its yield curve control (YCC) policies and raising the cap on 10 yr JGB yields was rampant leading up to the meeting, but governor Ueda’s messaging was more uncertain than the market wanted (not being strongly decisive about YCC end means it could take much longer to end it). USD-JPY rose above 151, the weakest level since 1990, before paring losses!

Bank of England Policy Meeting

BoE kept rates on hold as expected for a 2nd consecutive meeting (after 14 consecutive hikes). The UK economy is facing unprecedented headwinds with high inflation and slowing growth. This stagflationary dynamic has kept the monetary policy committee sharply split between further hikes and holding. GBP-USD remained around the 1.22 handle till Thursday, and rallied above 1.23 after the dovish NFP print on Friday.

Crypto

Speculation around spot BTC ETF grew with Eric Balchunas, a Bloomberg ETF analyst pointing out moves by Blackrock to seed their ETF in Oct (which is usually done in preparation of an ETF launch)

Meanwhile BTC remains near the 35k resistance level. The 35–37k band is monthly resistance and is also the bottom of the higher 35–65k range. Breaking into this and holding support will be crucial for the next leg up.

BTC dominance remains at ~54% while ETHBTC continues to test the range lows near the 0.05 level. This still denotes that the market expects the next leg to be BTC led, and its important to keep an eye out on these metrics for any signs of a broader based rally.

Read more from the author (and our macro researcher), Fractalmonk: https://medium.com/@fractalmonk999