September 27, 2017

Markets Today: Dear Prudence

Fed chair Janet Yellen spoke last night and opined that it would be ‘Imprudent to keep monetary policy on hold until inflation hits 2%’

We also heard from new Atlanta Fed President Raphael Bostic, who said he’s hearing anecdotes of more pressure on wages and prices, more so when he started in June.  Bostic isn’t an FOMC voter this year – he will be next – but his comments have  worked with the grain of Yellen’s remarks to see market pricing for a December Fed rate rise move up to closer to 70% from around 65% this time yesterday.

We’ve been having a healthy debate within the NAB research team about whether some central banks are now elevating the importance of financial stability concerns over achievement of inflation targets in setting monetary policy. Certainty financial stability was afforded somewhat elevated status in the restated Treasury/RBA agreement after Phil Lowe took the reins from Glenn Stevens last year, but frankly it’s hard to detect any ‘sea change’ of attitude amongst central bankers.

Perhaps the more important point to emphasise is that central bankers – of which Janet Yellen remains the most important in the world – are happy to be gradually normalising policy as long as they have confidence inflation will be moving up towards target in future.  Waiting until the target is met before setting rates close to neutral would be too late – a point made forcefully by Bank of Canada Governor Stephen Poloz earlier in the year when the BoC first moved rates up from 0.5%. This has implications for RBA policy next year.

US yields are +/- 1.5bps higher across the curve and the DXY dollar index up another 0.4% to 93.02, so now over 2% up on its early September lows.  US equity market haven’t been fazed by the rising prospects of the Fed delivering on its median 2017 ‘dot’, closing little changed. This is also because we haven’t seen any further ratcheting up of N. Korea tensions in the past 24 hours.   This shows up in USD/JPY moving back up to around ¥112.25 from ¥11.50 yesterday, albeit partly a by-product of generalised US dollar strength.

The latter has overwhelmed the impact of less market risk aversion to see AUD/USD fall below 79 cents for the first time this month and to its lowest intra-day level – 0.7859 – since mid-August. Whether we can down to as low as 0,.75 by year end – NAB FX Strategy’s recently revised forecast – is probably now more in the hands of US tax reform progress, or otherwise, and commodity prices, than  whether the Fed does now actually deliver a December rates rise (which NAB thinks they do).

US dollar strength overnight also owes something to further pressure on the Euro, linked to Sunday’s German election results and with an eye to an ‘illegal’ referendum on Catalonia independence this weekend and then looking ahead, Italian elections next year. EUR/USD dropped to its lowest levels in over a month overnight.

US data has been largely a sideshow, but the very  small fall in US consumer confidence (119.8 from 120.4) tells us that the recent hurricanes haven’t had nearly as depressing an effect on consumer psyche as hurricane Katrina in 2005, a catastrophe accompanied by awful scene of thousands of Illinois residents holed up for days in inhumane conditions.

Coming Up

Officially not due to be released until tonight but prone to be comprehensively leaked during our morning, the US administration and Republican leadership are slated to jointly reveal their framework for tax reform on Wednesday. Reports this week suggest that the so called ‘Big Six’ are not yet all on the same page (that’s Treasury secretary Mnuchin, Trump’s chief economic adviser Gary Cohn, House Speaker Paul Ryan, Senate majority leader Mitch McConnell, House Ways and Means committee Chairman Kevin Brady and Senator Orrin Hatch).  The particular point of contention is reported to be taxes on the wealthiest, in particular whether there should be any net tax cut on the wealthiest Americans, even if the top rate of income tax is reduced to 35% from 39.5% as reportedly proposed.

What emerges on this today will be of keen interest, as will any reference to measures that would prompt large scale repatriation of US multinationals’ profits currently housed abroad.

While equity markets may have incorporated some (modest) expectation of corporate tax reform into market pricing, we doubt that bond markets or the US dollar have, suggesting much more upside for yields and the dollar should tax reform hopes take a significant step higher.

Other than this, there’s nothing top drawer as far as known data or events go today. US durable goods orders are the main US release (also pending home sales).  James Bullard and Lael Brainard (both currently resident doves) are the allotted Fed speakers.  The CBI distributive (retail) trades survey for September will be of interest for UK markets, as a guide to official retail sales due in a couple of weeks.


On global stock markets, the S&P 500 was +0.01%. Bond markets saw US 10-years +1.41bp to 2.23%. In commodities, Brent crude oil -1.10% to $58.37, gold-0.9% to $1,295, iron ore +3.0% to $64.95, steam coal +0.1% to $97.00, met. coal +0.1% to $205.00. AUD is at 0.7886 and the range since yesterday 5pm Sydney time is 0.7859 to 0.7949.

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