Hey guys,
Feels good to be back writing. I missed you last week, I was locked in building my macro guide titled ‘The Four Foundations Of Macro’.
It’s out in March, and I honestly can’t wait to show you guys what I’ve been working on, but most importantly, see how much and fast some of you will progress through the guide.
Anyways, back to the matter.
U.S CPI print came in slightly hotter, and as mentioned in my last research note, global liquidity levels have been on the rise and this isn’t as good as everyone thinks it to be.
We’ll get into that below, as for now, lend me your attention.
6.4% CPI YoY, Surprised? No.
Tuesday afternoon, the BLS released the inflation figures for January, and both core inflation and normal CPI came in above expectations. If you ask me, I’m not at all surprised that inflation came in hotter, from what I can see in the markets, I don’t think traders are either.
Here’s why.
As I mentioned in my last note, liquidity has been rising in the global economy since October ‘22, right around the time when the Bank of England had to step in to save UK Gilt markets, and change their open market operations from quantitative tightening to quantitative easing overnight. To prevent this from spreading into the treasury market, the Fed didn’t expand their TGA account (the account the Fed conduct transactions with), but what we’ve seen happen is volatility in bond markets, particularly the repo market, come down. Now I know a lot of you may not know exactly what the repo market is and it’s functions, so I’ll try to break that down in an article at some time, I’ve broken it down in my macro guide for the go getters.
Here’s a quick explanation of how bond market volatility affects financial conditions and liquidity; as volatility in the bond market rises, this increases uncertainty amongst investors and as such, less market participants leads to lower liquidity levels resulting in an increase in credit spreads from the institutions to the wider economy. So, a reduced level of volatility within the repo market/debt market, provides an environment where credit access is increased which leads to looser financial conditions.
Figure 2, emphasises my point of conditions loosening, but after the most recent CPI print, and some hawkish comments made by President Loretta Mester of the Federal Bank of Cleveland, where she said she sees a “compelling economic case” for jolting Fed funds rate by another 50bps hike. As always, well known hawk James Bullard said, he wouldn’t rule out another 50bps hike at the March meeting.
Another perspective I’ve observed which plays a part in the recent rise in global liquidity levels is the PBOC, the People’s Bank Of China. China’s central bank has been injecting huge amounts of liquidity into the Chinese economy after announcing it’s reopening early in December which by figure 2, you can see this provided the S&P 500 with another leg to the upside mid December ‘22.
Why? Very simple, a $17 trillion economy relaxed its Covid measures, an economy that drives global synchronised growth and also plays a pivotal role in easing bottlenecks.
So, when you have the Bank of England saving the Gilt market by purchasing bonds, injecting liquidity, volatility in the U.S bond market declining making liquidity widely available and the PBOC pumping the world’s leading economy (in terms of growth) with huge stimulus what else do you expect?
Here are some details you didn’t know about the Chinese stimulus package.
An easier chart to understand below.
It’s estimated that the PBOC liquidity injections in December and January totalled $450 billion, for perspective, that is around 3x the total injections in the past two years. Here’s the issue, issuance of credit is the driver of inflation, not only that but commodities are tightly linked to the activity and economy of China due to China’s huge demand for commodities. So, large stimulus packages, mass liquidity injections, record loan amounts all lead to higher commodity prices that in turn have can cause inflationary pressures around the globe.
Moving forward, the Fed needs to get financial markets back in line with Fed policy. Higher for longer. Not, ‘yolo on some meme stocks, we’re done here’.
As of Friday the 17th, US10yr is yielding 3.8%.
It’s now being priced in that the Fed funds rate will climb through 5.3% in July vs expectations two weeks ago which perceived Fed funds rate to peak at around 4.9%.
Interesting isn’t it?
As always I like to end this with my thoughts and trade ideas:
My trade idea for the short term, 6months to a year, is Dollar shorts and Yen longs; I’ll cover that in detail but from the breakdown above it’s clear the dollar has been on the backfoot and still has room to the downside in my views.
Here’s where we are currently on the index 104.00, after a year like last year where the dollar returned a staggering 12% I fancy my odds looking short on the dollar.
Guys, that’s the end of the article for today.
Really appreciate your consistency if you’re a loyal reader, or if you are new, I appreciate your readership.
I’m running full steam to get my new macro guide out to you guys by the end of March this year, that’s the launch season so bookmark it.
I can guarantee this will get your knowledge above 90% of traders in less than 90% of the time, more about this to come in March.
(P.S you’ll have first grabs with a promotion as well)
Until next time,
Joe