May 3, 2021

Markets Today: A bad end to a solid month

Markets turned a little sour at the end of the week.

Today’s podcast

Overview: A pub with no beer

  • Strong US economic data and more reports of prices/inflation starting to lift
  • Kaplan breaks ranks with Powell, argues for tapering talk and sees imbalances in markets
  • Coming this week: RBA & SoMP, NZ Employment, US Payrolls & ISMs, BoE, Norges Bank
  • Coming up: AU House Prices & Job Ads, GE Retail Sales, US Manufacturing ISM

Then the stockman rides up with his dry dusty throat; He breasts up to the bar and pulls a wad from his coat; But the smile on his face quickly turns to a sneer; As the barman says sadly the pub’s got no beer”, Slim Dusty (1957)

So fierce has the rebound in activity been in the UK since the easing of lockdown restrictions that pubs are facing a beer shortage on the May Day holiday weekend. That rebound is also prompting questions over the appropriateness of monetary policy on both sides of the Atlantic with the BoE expected to taper asset purchases at the upcoming May or June meeting. The Feds Kaplan (non-voter) is also eying an earlier tapering for the US, noting he had upgraded his forecasts and now sees the unemployment rate falling to 4.0% by the end of the year – pretty much where the Fed sees full employment. If such a scenario plays out, the appropriateness of current policy settings will continue to be tested with US Payrolls key to that debate. Chair Powell has previously noted it would take a string of months of job creation of about a million a month to achieve the substantial progress required to justify tapering QE given (note payrolls are currently 8.4m below pre-pandemic levels). A much “hotter” number would likely see more Fed officials break with Powell.

As for Friday’s moves, in equities and FX it appears to be mostly driven by month-end flows. The S&P500 fell -0.7%, though over the past week the S&P500 was flat and is up some 5.2% over the month of April. Will the old adage of “sell in May” and go aware play out this year is the question in the short-term. The fact equities weren’t able to extend the past week despite a record 87% of S&P500 companies beating earnings estimates suggests a lot of the good news has been priced. With more talk over valuations and asset tapering emerging, there is some evidence investors are being cautious. EPFR data for the week to Wednesday notes investors moved $57.3bn into cash, which also coincided with relatively low flows into equity mutual funds of $10.5bn. Other analysts note that S&P500 is currently 14% above its 200-day moving average and close to the 15% level which for some technicians suggests overextended gains. Underneath the headline index, 95% of S&P500 companies have traded above their 200-day moving average for 18 separate days, a rare feat with the prior record being 9 days back in September 2009.

The Fed’s Kaplan also notes that he is seeing “excesses and imbalances in financial markets” and is part of the reason why is advocating for a discussion on tapering “at the earliest opportunity” (see Reuters for Kaplan’s remarks ). The main overarching rationale remains on the pace of the recovery which he sees as being much faster than he previously expected and now forecasts unemployment at 4% by year’s end. If that scenario plays out, it is also conceivable rate rises may start earlier with Kaplan stating the Fed may need to raise rates next year. Former NY-Fed President Dudley also notes if the Fed is going to be late in tightening, then that will generate lags in responding to inflation pressures which would require more aggressive tightening later – nominating interest rates may need to rise to at least 3.5% and perhaps even above 4%!

Rates markets were little moved by Kaplan’s remarks with the US 10 Treasury yields down -0.8bps to 1.62%. It is worth noting though over the past week, a clear tilt has occurred to higher rates/inflation pricing with the US 10yr yield up 6bps, entirely reflected in the implied inflation breakeven which rose 6.5bps to 2.41% with the 10yr real yield broadly unchanged at -0.78%. Inflation fears are clearly lifting with several anecdotal reports of consumer goods manufacturers passing on costs to retailers – the w/e FT noted Nestle, Unilever, Reckitt Benckiser had raised prices in Q1, while Proctor & Gamble and Kimberly-Clark have announced “mid to high single-digit” price increases starting later in the year (see FT: Global brands prepare to hit customers with higher prices). Despite those price rises, central banks are still likely to see them as not being maintained.

The USD rose 0.7%, the largest rise since March 4, partly driven by month-end flows and on the better data (see below) and on Kaplan’s comments. USD gains were broad-based with EUR -0.7% (holding above 1.20 at 1.2022) and GBP -0.9%. The AUD (-0.7%) and NZD (0.8%) falls on Friday reflected the USD strength. JPY outperformed slightly, only up 0.3% to 109.30.

US data was very strong with the Chicago PMI lifting to its highest level since December 1983 to 72.1 against 65.0 expected. The prices paid series in the Chicago PMI also skyrocketed to a 41yr high with reports of raw material shortages and transportation problems. The Core PCE Deflator also came in one-tenth more than expected at 0.4% m/m v. 0.3% expected, though in this it was driven by the volatile “financial services charges and fees” component which rose 13.0% m/m and added some 0.1 points to the core deflator. PCE data also included the strong income figures which were boosted by the stimulus with personal income +21.1% m/m (consensus 20.0%), while spending rose only by 4.3% m/m and suggestive of higher consumer spending in Q2 in what could be a mammoth quarter for GDP on both sides of the Atlantic (as Europe eases lockdown restrictions). A lift in the Employment Cost Index to 0.9% q/q vs 0.7% expected, also has some asking whether wages pressures are lifting.

In contrast, European GDP data confirmed the recession with Q1 GDP -0.6% q/q vs -0.8% expected. With the vaccination programme back on track in the region and restrictions likely to ease, Q2 is expected to be much better. Markets are likely to continue to pivot towards a European re-opening trade, while Biden’s stimulus agenda looks like it will continue to be pushed back with the eventual envelope likely a lot lower given Democratic Senator Manchin’s ongoing push back. In a w/e interview, Manchin noted “ Now we’re in a situation we don’t have that urgency (unlike COVID-19 relief), that time sensitivity, that ‘We gotta do this. We gotta do infrastructure.’ Infrastructure should have been done 10, 20 years ago. It’s not like a do-or-die right now” and has previously said he is opposed to using budget reconciliation and bypassing filibusters again out of fears of the precedent it would set for future administrations (see USA Today interview for details).

Virus/vaccine news remains favourable for developed markets and continues to allow markets to price the other side of the recovery despite the woes being seen elsewhere, namely in India. US has now fully vaccinated 39.8% of its adult population – that 40% benchmark is widely seen by scientist as key in the fight against COVID with Israel showing a precipitous drop in new daily cases once this benchmark was seen. Across the Atlantic, the UK may be the first country to reach herd immunity according to the ONS. In England, an estimated 7 in 10 adults or 68.3% of the adult population  would have tested positive for antibodies against the coronavirus on a blood test in the week ending 11 April 2021, suggesting they had the infection in the past or have been vaccinated. Meanwhile the UK is now calling up people as young as 40 to be vaccinated.

Coming up this week

Domestic focus will be on the RBA this week with the Board Meeting on Tuesday and SoMP forecasts on Friday. Deputy Governor Debelle is also speaking on Thursday on ‘Monetary Policy during Covid’. Details below:

  • For the Board meeting we expect no change to rates or guidance in the post-Meeting Statement and instead look to Dr Debelle’s speech and the SoMP forecasts to guide. The forecast track for the economy will have to be upgraded given the unemployment rate at 5.6% is running nearly two years ahead of the RBA’s baseline forecasts (which only saw unemployment at 5½% by the end of June 2022 and staying there throughout H2 2022). How this outperformance is reflected in the inflation track and wage growth forecasts is uncertain.
  • The inflation and wage track will be key in helping shape expectations of whether the RBA will extend their 3yr YCC target from the April 2024 to November 2024 bond. NAB’ own forecasts sees core inflation at 2% at the end of 2023 and wages growth at 2.8%. That would suggest inflation could be sustainably within the target band in 2024 with NAB thinking the RBA will not extend its YCC target to the November 2024 bond, and instead will allow the April 2024 bond and YCC target to naturally mature as time progresses. Doing so would also allow the RBA to pivot more towards outcomes-based guidance and away from the calendar-based guidance of YCC.
  • As for QE, we will be watching closely any questions to Dr Debelle around bond market functioning given the RBA’s AGS holdings will be around 30% by September, while the budget’s better deficit profile will also mean running QE at $100bn every six months could start to hamper market functioning. Deloitte Access Economics’ Budget Preview pegs the deficit at $167bn in 2020-21 and $87bn in 2021-22, similar to NAB’s forecasts of $155bn in 2020-21 and $80bn in 2021-22. What other central banks are doing will also be important here given the QE program has been linked to the currency. An earlier tapering from the Fed could see similar moves by the RBA.

Offshore it’s a crowded calendar with the main highlights being US Payrolls, US ISMs, Bank of England, Norges Bank:

  • US Payrolls – April (Friday): Payrolls should show another near 1m jobs gain (consensus 978k), which would still leave Payrolls some 7.5m below pre-COVID levels. Chair Powell recently noted that it would take a strong months of job creation of about a million a month to achieve the substantial progress required to justify tapering QE. A much “hotter” payrolls number will though have markets questioning this guidance. The unemployment rate is expected to fall to 5.8% from 6.0%, though the shortfall in payrolls to pre0pandemic levels is the more relevant statistics.
  • BoE (Thursday): Focus on asset purchases with some expecting a tapering at this meeting or at the next meeting in June. The BoE is currently buying £4.4bn of government debt a week under its  £895 billion asset purchase programme, which if the current pace continued would max out in September. The BoE is also likely to upgrade its forecasts for the economy given the sharp snap back in activity.
  • Norges Bank (Thursday): Norges is the most hawkish major market central bank having already projected a rate rise in the latter half of 2021. We would expect Norges Bank to maintain this tone with the vaccine rollout progressing.
  • US ISMs – April (Manufacturing Monday, Services Wednesday): The ISMs are expected to remain at very elevated levels, with increased focus on measures of prices and supplier deliveries.
  • NZ Employment & RBNZ FSR (Wednesday): Employment growth is expected to be broadly steady, with focus instead on the RBNZ’s Financial Stability Review given the focus on housing.
  • China Caixin Services PMI & Trade Balance (Friday): Will be closely watched to see whether the Caixin version follows the weaker than expected official non-manufacturing PMI.

Coming up today

Domestically House Prices for April are out along with ANZ Job Ads. Offshore it is very quiet outside of the US given May Day Labour public holidays in many countries. Asia takes an even longer May Day Holiday with China out until Friday. The main piece of offshore data is the US Manufacturing ISM. Details below:

  • AU: House Prices & ANZ Job Ads: House prices are likely to have risen 1.8% in April, following March’s 2.8% rise. Job Ads are likely to remain elevated with SEEK noting its ads in March were the highest ever in the 23-year history of the company, while applications per ad were the lowest since 2012 and highlighting how strong labour demand is relative to the number of applicants..
  • GE: Retail Sales – March: Consensus is for +3.0% m/m after last month’s 2.7%
  • EZ: Final PMI – April: A final version of the Manufacturing PMI is expected to be un-revised at 63.3
  • US: ISM Manufacturing – April: Another strong manufacturing report is expected with consensus at 65.0 (from 64.7) with the possibility of upside risks given the Chicago PMI on Friday hit 72.1 in April and the highest since December 1983. There will also be focus on the prices and supplier deliveries parts of the report given some worries over inflation and in the Chicago PMI input prices hit their highest level in 41 years.

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