Todays podcast

Overview Half the Way

• Fed lifts Funds Rate target 0.5% as widely expected
• QT starts June 1 at -$47.5bn per month, to reach $95bn in three months
• USD falls, front end UST yields falls as Powell rules out >50bps future moves
• AUD/USD up over 2% and best performing major currency of last 24 hours
• BoE tonight next central bank cab off the rank (+25bps expected)

Stronger every day; Oh, no Don’t take me half the way, Don’t take me half the way – Crystal Gale

Except in Australia and the UK (both for now at least) 50bps is confirmed as the new 25bps, The Federal Reserve following in the footsteps of the Bank of Canada and Reserve Bank of New Zealand in lifting its key policy rate by 0.5% (in the Fed’s case to a target range of 0.75-1.00%).  Significantly, Fed chair Powell says 50bps follow-ups are on the table for the next couple of meetings. Most of the market reaction (yields down, USD down, risk assets up) stemmed from this apparent ruling out of 75bps (or larger) future rate rise.  In other news, the US ISM services PMI fell slightly against expectations for a small rise, while oil prices are up over 5% on confirmation the EU is looking to ban imports of Russian crude within six months. The Bank of England meets tonight and is widely expected to lift Bank Rate by 25bps to 1.0%

The post-meeting FOMC Statement starts by saying household spending and business fixed investment remained strong (notwithstanding the Q1 GDP dip), that job gains have been robust in recent months and that the unemployment rate has declined substantially. Inflation remains elevated, reflecting supply and demand imbalances related to the pandemic, higher energy prices, and broader price pressures, it says. Ukraine is mentioned up top as something that will both weigh on activity and add to upward pressure on prices, while China’s zero-covid policy as likely to exacerbate supply chain disruptions. The Fed is ‘highly attentive’ to inflation risk’ – leaving readers in no doubt where the ‘dual mandated’ FOMC’s current priorities lie. The decision was approved unanimously (so no dissent from James Bullard, who had been making the case for a 75bps rise ahead of the meeting, though also indicating he would defer to the chair).

The announcement of June 1 for the start of QT was, Powell said in the press conference, a case of ‘just pick a date’ with nothing magic about it. This was pretty much as expected, while the decision to start QT with a month cap of $47.5bn ($30bn Treasuries, $17,bn) rising to $95bn in total within three months. This was in line with prior indications.

The highlight of the press conference as far as market reaction was concerned (and faster a relatively subdued reaction to the Statement was Powell’s comments that 75bps isn’t something the FOMC is actively considering and that 50bps is on the table for the next couple of meetings .  Powell (said the Fed ‘won’t hesitate’ to go above neutral if needed, though pulled back a little from this assertion later on saying only that it was ‘possible’ we move to a restrictive setting. Semantics maybe. The last (March) FPOMC ‘dot plot, by way of reminder has the ‘long run’ median dot at 2.4% inside a 2-3% range.

With markets well braced for Powell to sound hawkish (which he was) and the Fed delivering no more than was priced into the meeting, it was the apparent ruling out of 75bps future moves that elicited the most post-Fed reaction (bearing in mind Fed Funds futures as of Tuesday’s market close had some 110bps of tightening priced across the May and June meetings combined). 2-year treasury yields are down 14bps on the day and 10s -4bps, so a significant ‘bull steepening’ of the yield curve.

Equity markets also liked the ‘no to 75(ps)’ message, equity markets liked the ‘no 75s’) the NADDAQ just ending the NY day a cool 3.2% higher and the S&P500 by 3%. You might be forgiven though for thinking the Fed had just signalled that it might soon be done tightening (!) though in the context of how much equity markets had fallen in April and the reasons behind it, arguable it is more a case of a market that heavily ‘sold the rumour’ now buying the fact of the Fed’s may actions.

In FX, the across-the board sell-off in the USD has been significant, though the 1% fall in the DXY index should best be seen in the context of the 6% April rally. Given the strong post-Fed risk rally, and the jump in oil prices, it is not surprising that the AUD (+2.25% to ~0.7250 ) has been the best performing major currency in the past 24 hours (and with the lack of any meaningful reaction out of the RBA earlier this week perhaps owing something to FX market inertia in front of the Fed).

NZD is the second best performing of the majors, up 1.7% but which means AUD/NZD is up another 0.5% to 1.1087, its highest since 10 August 2018.  RBNZ Governor Adrian Orr is crossing the wires right now, noting the RBNZ was one of the first CBs to start tightening, that he has no regrets on monetary policy and is ‘proud’ of where we are and, in a line borrowed from RBA Governor Lowe on Tuesday, says that ‘it’s now business as usual’ on monetary policy. Whether than means future policy tightening increments will be 25bps not 50bps remains to be seen – probably not is the initial reaction from our BNZ colleagues, rather it means tightening policy to get inflation (and employment) back to where they need to be.

The more than 5% oil price jump comes on conformation that the EU plans to ban Russian crude oil over the next six months, refined fuels by the end of the year and bar European ships from transporting Russian petroleum products. Sources suggest that Hungary and Slovakia, who are more reliant on Russian oil, will be granted a longer timeframe, through to the end of next year. All 27 EU members will need to agree for the plan to progress.  If agreed, the question then becomes what will Russia’s response be, and a cut in the EU gas supply would be highly problematic for the region next winter.

In economic news, the US services ISM index fell 1.2pts to 57.1 in April against expectations for a small lift. Like the manufacturing version released earlier this week, supply chain issues and inflationary pressures remained intense. The employment index fell 4.5pts to 49.5, as much a reflection of the difficulty in finding staff than weaker labour demand. Separately, the change in ADP private payrolls for April was weaker than expected at 247k, but that shouldn’t change expectations for nonfarm payrolls at the end of the week, given its non-existent track record in predicting that official figures. The US March trade balance was -$109.8bn versus $107.1bn expected while MBA Mortgage applications were up 2.5% last week, but this is after an 8.5% prior week drop.  The trend is sharply down (-47.5% year on year).

Coming Up

• The Bank of England is next central bank cab off the rank.  A 25bps hike in Bank Rate to 1% is highly likely. We also expect repetition of the prior guidance that ‘further modest tightening might be needed’, if so probably with some qualification.  2 or perhaps as many as 3 MPC members could dissent and vote for no change (after 1 in March – Haskel).  New BoE CPI forecast using the market rates curve will likely show CPI circa 1.3%-1.5% in 2years (i.e. too low), 1.9%-2% by Q2/Q3, 2024 on unchanged (1%) rates.
• Data wise, the Caixin Services PMI is of keen interest as the latest gauge of the impact lockdowns in Shanghai and elsewhere have had on service sector activity and where the consensus is for a drop to 40 from 42, i.e. a faster pace of contraction than in March which did not contain a full month of lockdowns. The official Services index published last weekend, recall, was 41.9 from 48.4
• Locally, we have March Building Approvals and Trade data. After the outsized 43.5% jump in approvals in February, some payback is to be expected (NAB -15.0%, market -12%). On trade, February’s surplus of $7.466bn was smaller than expected and well down on January, so some improvement is to be expected for March (NAB $9.0bn, market $8.4bn)
• Offshore, German factory orders will be worth a look – has China’s zero lockdowns yet impacted German export orders?). Market is -1.1% after -22.% in February.  1he US has weekly jobless claims, Q1 non-farm productivity and Unit Labor Costs, the latter two series highly volatile through and out of the pandemic so still more noise than signal at present.

Market Prices

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