With US yields basing and rising ever so slightly, extremely rates-finicky long-duration tech assets sold off on what’s become a very typical and all-but-expected two steps forward and one step back routine for tech shares as US rates ebb and then start to flow higher again.
US yields nudged slightly higher after the Federal Reserve’s Beige Book gave rise to the tug of war between inflation and growth, with the report suggesting that businesses were raising bottom line prices between February and April, indicating that firms feel comfortable passing the higher input cost on to consumers amid a rapidly improving US labour market.
The extent to which bond markets experience any hint of inflation tantrum that elicits much higher yields depends mainly on corporate pricing power, Fed credibility and energy prices.
However, the consensus from currency traders is that the fixed income weakness comes down to the rebound in the oil price, with Brent up 4.3% on the day. I'm not sure I agree, as it’s likely more a confluence of the Beige Book hinting at corporate pricing power, higher oil prices and the ECB's Villeroy suggesting of a "possible PEPP exit by March 2022", turning the Bund mini tantrum wheels in motion as 10y EUR v US spread narrowed in the late afternoon in London.
Today's US retail sales print is now increasingly important. With forecasts for 7.2% in the control group – and while it does seem the talk on the street is more about downside risk to that number than upside – on a data beat, will retail sales be the "rock the bond boat" type of number that the market might think could push the Fed along the string? Probably not as, for now – at least at the core of the FOMC – the hurdle for more hawkish communication is pretty high, particularly for the April 27-28 meeting. But beyond then, holding onto downside risks will prove more difficult as incoming data improve.
Oil surged on news of a large draw in products stocks. In the latest week, crude stocks dropped 5.9 mln barrels against forecasts for a 2.9 mln draw. Distillate stocks were down 2.1 mln vs predictions for one mln build, and the weaker US dollar confirmed oil trading is open for business again.
It was a truly bullish oil report from the US, according to the headline numbers. The US oil complex once again seems to be moving in the right direction with a sizeable oil draw, a much smaller than expected gasoline build and, finally, a draw in distillates again. This speaks volumes about the US demand recovery and inventories getting consumed thanks to OPEC supply curtailments.
Like OPEC on Tuesday, the IEA raised its estimate for 2021 demand yesterday; the new number is 96.7mb/d, about 230kb/d higher than the last estimate and a 5.7mb increase vs 2020. Non-OPEC supply for 2021 is estimated up only 600kb/d vs the previous year, to 63.8mb/d. Risks remain on the omnipresent Covid concerns, but the agencies so far seem constructive on the oil outlook. The proof again starts to show up in pudding with the market improving and inventories declining.
But, make no mistake, the world is still dealing with the second variant. Governments are trying to resist lockdown blockades, but complicating matters is the cloud hanging over the Adenoviral vector vaccine. It’s worth considering that easy-to-store vaccines such as AZN and J&J are critical in the global programme to counter Covid as medical experts continue to examine potential side effects.
However, it might be time for traders to take a step back and book some profits; higher prices driven by robust demand could eventually trigger more supply from OPEC+.
As oil prices shift back to the higher end of the perceived comfort zone ($60-70), there will be cries from buyers in Asia and even the US administration to keep a lid on prices as the last thing the recovery needs is higher inflation inputs driving global yields higher. OPEC+ is cognisant of this viewpoint as Russian Energy Minister Alexander Novak reminded us in early April: " it is now critical neither to overheat nor to undersupply the oil market."
Commodity G10 rallied broadly on the back of a surging oil price after the truly bullish EIA report, while CAD is lagging behind its peer. The spiking Covid cases and new lockdown in Toronto weigh on the currency and lower the probability of BOC taper announcement in their decision next week.
And while the Fed seems keen to avoid any taper talk, the ECB appears content to address it head-on. The ECB's Banque de France Governor Francois Villeroy de Galhau told Bloomberg this morning that the central bank could "possibly exit PEPP by March 2022". That sounds like a recipe for a market tantrum to me. Hence the markets now view a greater chance of higher yields and steeper curves into the June ECB decision, where a phasing out of PEPP will be discussed and possibly decided.
So, with 10y EUR vs US spread narrowed, it's providing a slight advantage to the EURO on the race to policy normalization.
With US yields remaining near the bottom of the perceived current ranges and oil rallying magnificently overnight night after a genuinely bullish EIA inventory report driving G-10 commodity currencies higher, one could expect the ringgit to hitch a ride on this oil price momentum with flows into the O&G sectors looking to improve.
Gold has reverted closer to the $1,730 pivot zone, a level where it's been see-sawing for what seems like forever. Gold is broadly staying within the current ranges, although the market has been trading firmer on balance. The dollar's pullback has likely been a key supportive factor, along with a more balanced positioning. While stocks have been acting as competition for gold lately, equities at all-time highs are likely encouraging stronger hands back to the fray while looking for policy diversification.
Biden's Econ Team Doesn't Want Higher Rates
The NY Times reports that President Biden's economics team has double-checked the Fed's inflation forecasts to ensure the stimulus plan doesn't cause an inflation leap beyond what the Fed could control. It said they concluded that it wouldn't and that the Fed's numbers and analysis look right.
In other words, the Biden administration provided a formal pushback on the fears of people like prominent US economist Larry Summers. Still, the Times said that Biden's team remained wary and that the infrastructure package has been designed to slowly feed money into the economy to avoid an inflation surge.
Interesting in all this is the fear that they do generate inflation. The Times said that White House officials are running multiple intraday inflation checks. NOTE: one interpretation of what's happening could well be that cheap money is critical to the whole process. It's not that the White House doesn't want inflation; instead, it can't afford to have the Fed raise interest rates because there's inflation. The White House might not conflict with the Fed because it was under Trump, but the fear is still the same: for the plan to work, rates have to be left low.
You can read the full article here.
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