Markets
The S&P 500 waffled in quiet session Wednesday but ultimately managed to move higher and notch another record close.
US Small Caps underperformed while (mega cap Tech) led the way higher. FOMC March minutes offered no clear direction on the timing of interest-rate moves.
Elsewhere, Treasury Secretary Janet Yellen gave a detailed sales pitch for the Biden administration’s proposed new corporate tax code while the president made his case for infrastructure spending.
After two days of moving higher, S&P implieds took a breather. The curve closed broadly lower down 75-15bp out through June 2022, with shorter dates underperforming the most.
SPX 1m skew was flat on the day. But the VIX resumed its downward move, closing at 17.1. The whole VIX curve is now trading below 25 for the first time since February 2020 which should encourage global risk-taking/
A second minute on the minutes
The minutes of the March 16-17 FOMC meeting reiterates an evidence-based approach to the monetary policy where “various participants noted that changes in the policy path should be based primarily on observed outcomes rather than forecasts.”
There is a slightly more upbeat take on the economic outlook, with participants citing considerable risks around the pandemic downgraded to “most” from “many;” an early sign that the Committee sees the economy move away from negative effects of the virus. This assessment could improve quite quickly at upcoming meetings as the US continues its rapid vaccine rollout, at least by large economies' standards.
For equites, the FOMC’s view that higher inflation through 2021 is transitory is very supportive for now, but nothing new. Meanwhile, the Committee is not ready to push back against higher UST yields either implicitly or explicitly, where “Financing conditions for nonfinancial businesses in capital markets remained broadly accommodative over the inter-meeting period, supported by low-interest rates and high equity valuations.”
This is perhaps not as dovish as some FX and gold traders had positioned for, but it doesn't skew dollar risk aggressively in either direction at the moment.
Bonds are mostly concerned about inflation risk with could start to get fleshed out in this month's CPI release. Given that more prominent sectors (Tech) continue to struggle in the face of higher US bond yields, the most significant risk is that inflation readings rise and the markets then start to price in a sooner than later Fed taper and quicker rates normalization path.
Steps towards a taper would be potentially more impactful for yields (higher), equities (lower), but dollar non-concensus. Nonetheless, steps towards a taper are incremental: “it would likely be some time until substantial further progress toward the Committee's maximum-employment and price-stability goals would be realized.”
The Reserve Bank of India’s (RBI’s) monetary policy decision opens the door to further USD/INR upside. The central bank left its main monetary policy settings unchanged (repo rate at 4.00%), as expected. However, combining an upbeat economic view that sees risks to inflation in both directions and a new INR1 trn bond-buying plan is capping yields and is positive for equities and USD/INR. INR weakness reflects the dovish RBI stance with CPI inflation (5.03% y/y) sitting towards the top of the central bank’s 2%-6% target band.
US equities moved sideways again on Wednesday, firmly planted in wait and see mode ahead of earnings season, and oil finds some traction.
The S&P was up 0.1%—the only thing notable about that was that it was enough to set a fresh record high. US 10-year yields were up 2bps to 1.67%. Oil was up 0.7%.
Markets
In an echo of yesterday's morning note, it's not unusual for the market to pause at record highs, even more so as the S&P moves towards its upper reaches, hinting investors could be exhausted from chasing strength.
But more poignantly, they likely need a little more confirmation at precisely what stage of the recovery we are at, and more specifically for bond yield concerns, exactly where inflation sits as the technical correction lowers US 10-y bond yields. Given that more prominent sectors (Tech) continue to struggle in the face of higher US bond yields, the most significant risk is that inflation readings force the Fed's hands to modify their normalization plans.
Still, the recent shift lower in US Bond yields indicates a market positioned for higher bond yields, where price action is likely to be of the "two steps up, one step back" variety. And according to the latest trend, the S&P 500 should be expected to move in tandem, making headway when Treasuries ease back and then consolidating or seeing small profit-taking as yields step up.
But it has been a hugely impressive run in US equities given the high US yields and the negative buzz around corporate tax hikes, especially when the quarter-end pension rebalancing kept a good chunk of investors on the sidelines. However, the Q1 earnings season is probably limiting appetite to add risk as the markets need corroborative evidence to justify lofty valuations.
And what is encouraging for investors is, according to the chatter around the Prime Broker markets, active equity manager positioning has been essentially unchanged for the past month (slightly Underweight), indicating little participation in recent market moves. So there could be a test of higher reaches and a solid attempt to break new ground, possibly above S&P 500 4100 if the active community kicks in a post-earnings season.
There is still some room to the upside; however, on a cautionary note, the viewfinder points to some significant consolidation in stocks as the street soon begins to factor in growth peaking over the next three months, which would be historically consistent as the markets enter the window of maximal US data (April, May, June).
Outside of the FOMC minutes, it's been a pretty quiet start to the week in terms of news flows. Still, the short term momentum appears to remain in favor of the bulls as investors seem happy and willing to bet on an economic rebound over the coming months in light of the robust data during the recent week. And on top of all that, equity volatility continued to remain tepid around its lowest levels since the pandemic began, encouraging risk-taking.
A Minute On The Minutes
The March FOMC minutes indicated that the Federal Reserve's view of the economy continued to improve—but slowly, while containing little in the way of surprises while publicly stating "that now was not the time to talk about taper."
On inflation, most participants pointed out supply constraints could contribute to price increases for some goods in the coming months as the economy reopens. Still, that inflation reading would likely edge down next year. The US 10y yield's response to the release was muted by design.
With 8 million reasons (US unemployed) and knowing full well the impact from past taper mistakes, and while the statement gives voice to the many, all in all, it is consistent with the narrative Federal Reserve Chair Jerome Powell has been pushing. It may be a little surprising that there was no controversy around new members forecasting a hike in 2020, which gives the minutes a dovish feel.
But they read like a very unified Fed that is fully aware that there is NO real-life playbook to script the recovery; hence, the policy path would be based "primarily on observed outcomes rather than forecasts." Overall, the market is relatively unchanged.
Oil Markets
After another whippy session as the market continues to digest the competing narrative of US growth and Europe's vaccine catch-up recovery versus the uncertain supply conditions. Traders are trying to hash out a near term sweet spot around Brent $63 to provide a springboard for the build-up to a pent up summer travel boom in the US where gasoline demand should soar, and a further pick up in the air travel could assuage jet fuel concerns.
The third and fourth wave virus outbreaks in Europe and parts of Asia, notably India, have elevated lockdown concerns that continue to weigh in the market top side ambitions hitting the prompt demand outlooks. And at this stage of the oil market recovery, COVID-19 resurgence continues walking back investors thoughts of an oil super-cycle down to a very ordinary rebound as the last few miles remain littered with supply and demand speed bumps.
Walking down memory lane, typically, summer driving season is an absolute rocker for US gasoline sales. This year, demand should blow through the roof if we believe the max optimism forward-looking gauges around consumer confidence and the ISM.
On the DOE inventory data, The crude supply excess is eroded by rising refining runs; distillate stocks 6.9mb (5%) above their five-year average and refining runs continue to improve; as more robust gasoline demand is boosting US refining margins, and this should continue to improve.
But of course, traders would feel more comfortable pushing oil higher if the product supplies moved in the other direction today!
Forex
The EUR was steady this morning on good data, holding onto the decent gains posted over the last week. Upward revisions to the flash services PMIs for March helped buoy the mood.
GBP gingerly bounced back from some initial overnight weakness which preceded a downward revision to the March Services PMI.
Most FX traders expect the dollar to drift off. There aren't any signs of big outright "dollar sellers" yet; instead, the street seems to feel that the dollar has reached its upper bounds, so it's more a case of not wanting to buy it further.
EUR/USD has probably bottomed, but there's only limited upside. Same for USD/JPY— the call is more for it having topped than returning to the low 100s.
Although I'm not privy to the flow, the Toshiba (OTC:TOSYY) - CVC deal could be weighing on the USD/JPY. Private deals at this scale are unusual and almost unheard of in Japan. There will be considerable pressure for USD/JPY to absorb, if the deal goes through.
The Malaysian Ringgit
Despite a positive vibe in the local bond market, the ringgit searches for fresh exogenous catalysts while getting ping-ponged between broader US dollar moves in G-10 and whipsawing oil prices.
Gold Market
Gold struggles to push back above 1740, let alone test the 1750 pivot level as the Fed minutes were extremely balanced and didn't perhaps wax as dovish as some had expected. US yield eventually ticked higher post FOMC minutes as the path of least resistance for the US recovery is higher into the summer and supporting higher US yields outlook.