Summary: The Fed’s 75bps rate hike came with a strong message emerging from the Dot Plot that rate hikes will continue despite risks of slower economic growth and higher unemployment rate. Clear focus remains on tightening the financial conditions, which was reflected in equities and other risk assets. Russia’s partial mobilization has raised geopolitical concerns as well, adding a risk-off bid to the US dollar. EURUSD appears to be heading for 0.98 even as pressure on the Japanese yen remains capped due to lower long-end US yields. Hard to expect Bank of Japan pivot today, but FX comments could be the highlight before focus turns to another jumbo hike from the Bank of England later.
What is happening in markets?
Nasdaq 100 (USNAS100.I) and S&P 500 (US500.I) are looking bearish again
The Fed managed to deliver a hawkish surprise without going for a 100bps rate hike, as the message was clear – rate hikes will continue even if economic pain worsens. While the initial reaction from equities was a negative one, some ground was regained with Powell’s presser, once again, lacking further hawkish surprises. However, Powell said in his concluding Q&A response that rates will likely get to levels seen in the Dot Plot, reigniting their signaling power after initially warnings against taking the Dot Plot as Fed’s plan. Whether that was the catalyst or not is hard to tell, but stocks went on to sustain new lows into the close. What’s for sure is the Dot Plot still gives a clearer message on the Fed’s path than Powell. S&P500 fell below 3800 to close down 1.7% while NASDAQ 100 was down 1.8%. General Mills (GIS:xnys) reported better-than-expected earnings and raised its outlook, which helped it to defy the broader market decline, while also lifting other food stocks such as B&G Foods (BGS:xnys) and Kellogg (K:xnys), and supporting the overall consumer staples sector.
Another chemical manufacturer joined the chorus of negative pre-announcements. Chemours (CC:xnys) revised down its 2022 EBITDA by 7% from its previous guidance, citing weaker demand from Europe and Asia.
Lennar (LEN:xnys), up by 0.9%, reported adj. EPS of USD5.18, beating consensus estimate of USD4.87, primarily due to a lower tax rate and an improvement on margins. Unit orders, however, fell 12% Y/Y, missing expectations of modest growth, signing moderating housing demand, especially in Texas and the West.
U.S. treasuries (TLT:xnas, IEF:xnas, SHY:xnas)
After the Fed delivering a 75bps hike as expected but signaling a hawkish higher terminal rate of 4.6% in 2023 as well as projecting lower real GDP growth rates (0.2% in 2022, 1.2% in 2023, 1.7% in 2024) and higher unemployment rates (4.4% in 2023, 4.4% in 2024, 4.3% in 2025) than the long-run equilibrium levels (1.8% real GDP growth, 4% unemployment rate) anticipated by the Fed, the treasuries yield curve went further inverted, with 2-10 year spread closing at -54bps. Traders sold the 2-year notes, bring yields up by 7bps to 4.05% in response to clear “no pivot” message from the Fed. On the other hand, long-end yields declined on the Fed’s acceptance of slower growth and higher unemployment for longer as a price to put inflation under control. The 10-year yields fell 3bps to 3.53% and 30-year yields plunged 7bps to 3.50%. The U.S. yield curve’s trend to go deeper into inversion continues. The 3-month bills versus 10-year notes yield spread may go negative (inverted) as the 3-month rates keep rising on Fed tightening and the 10-year yield being anchored by improved inflation expectations.
Hong Kong’s Hang Seng (HSIU2) and China’s CSI300 (03188:xhkg)
Stocks in Hong Kong, Shanghai, and Shenzhen bourses continued to decline, with Hang Seng Index and CSI300 Index falling 1.8% and 0.7% respectively, and both making new lows. Hang Seng Tech Index (HSTECH.I) lost 3%, dragged down by China Internet, tech hardware, and EV names. Sunny Optical (02382:xhkg) tumbled 10.5% as analysts had concerns over a saturated smartphone market and increased competition in smartphone cameras. Alibaba (09988:xhkg) and Tencent (00700:xhkg) declined 3.7% and 2.5% respectively. While real estate stocks gained on the mainland bourses after some Chinese cities relaxed second-property buying restrictions, shares of Chinese developers traded in Hong Kong fell, with CIFI 00884:xhkg) tumbling 11.3%, Country Garden (02007:xhkg) sliding 4%. The solar power space plunged from 5% to 8%. Following the news of a partial mobilization in Russia to bolster armed forces, higher crude oil prices boosted the shares prices of energy companies, CNOOC (00883:xhkg) up by 2.2%, PetroChina (00857:xhkg) up by 1.2%. %. A tanker shipping company, COSCO Shipping Energy Transportation (01138:xhkg) soared more than 8%. Bloomberg reported that Chinese refiners are applying for quotas from the Chinese government to export as much as 16.5 million tons of fuel oil, such as gasoline and diesel. A dry bulk shipping company, Pacific Basin (02343:xhkg) surged 7.9% after the Baltic Dry Index jumped over 11%. The tanker shipping space and natural gas space gained and outperformed in A shares.
Asian markets to face risk-off after a hawkish Fed message
Australia holds a National Day of Mourning to honour the Queen. Trading of ASX instruments will not occur as the ASX is closed. Trading resumes Friday September 23. Japan’s Nikkei 225 opened down 1.4%, eying the Bank of Japan meeting later today. Taiwan, Indonesia and the Philippines are also likely to raise rates today.
AUDNZD and the NZ trade balance
AUDNZD remained supported above 1.1320 and upside tests were seen with the relative current account balances in play. NZ reported August trade data this morning and imports accelerated while exports have declined. The deficit in NZ Trade Balance data has widened further to -$12.28B vs. the prior release of -$11.97B on an annual basis. Also, the monthly deficit has widened to -$2,447M against the former figure of -$1,406M. This is a contrast to Australia which is reporting fresh highs in trade balance due to its bulk of commodity exports. The next focus for AUDNZD is perhaps 1.1516, the high of 2015.
EURUSD heading for 0.98
EURUSD broke lower to fresh 20-year lows of 0.9814 amid Putin’s partial mobilization and the strength of the dollar from the hawkish Fed signals. While the ECB stays hawkish as well, the relative hawkishness still tilts in favour of the Fed due to the harsh winter coming up especially for Europe as Russia has cut gas supplies. Stronger case of a recession also continues to bode for more downside in EURUSD in the near-term.
Crude oil (CLU2 & LCOV2)
Crude oil prices bumped up higher on Wednesday after Putin’s speech but gains faded later in the day amid a hawkish Fed boosting the US dollar and strengthening the case for a deeper economic slowdown. The EIA data saw a 1.1mn barrel build in crude stocks, similar to the private data, although given the 6.9mn barrel SPR release, that was a net 5.8mn draw. WTI futures slid below $83/barrel although some recovery was seen in early Asian hours, and Brent futures attempted to head back over the $90/barrel mark.
What to consider?
Powell beats the hawkish drum louder
The Federal Reserve delivered its third consecutive 75bps rate hike and showed no sign of easing its push into restrictive territory as it battles to cool inflation. This comes despite Fed’s latest projections showing slower growth and a rise in unemployment next year. The FOMC raised the benchmark rate to 3-3.25% and projected the terminal rate at 4.6% in 2023, suggesting Fed will remain committed to bring inflation down even if that means significant economic pain.
Fed members estimate the economy will grow 0.2% in 2022, down sharply from a prior forecast of 1.7%. Growth forecasts were also revised lower for 2023 and 2024 to 1.2% and 1.7% from 1.7% and 1.9%, respectively. The central bank now sees the unemployment rate at 3.8% at year-end, up slightly from a prior forecast of 3.7%. But labor supply and demand may likely be restored in subsequent years, with unemployment expected to reach 4.4% in 2023 and remain unchanged the following year, according to the Fed's projections. That is above the prior June forecast of 3.9% and 4.1% unemployment in 2023 and 2024, respectively.
Russia’s partial mobilization spurs risk off
Russian President Putin, in his televised speech to the nation Wednesday morning, announced partial mobilization, calling up 300k reserves, whilst threatening the west with “All means of destruction, including nuclear ones”. Referendums in Donetsk, Luhansk, Kherson and Zaporozhye (15% of Ukraine territory) are scheduled September 23-27, and any fighting in these regions will eb considered as attacks on “Russian territory” and thus pave the way for a potential military escalation, justifying the use of mass destruction weapons.
Looking out for some FX comments at the Bank of Japan meeting
While it is still hard to expect a pivot from the Bank of Japan this week, given that Governor Kuroda remains focused on achieving wage inflation, the meeting will still likely have key market implications. There will likely be increased voicing of concerns by the authorities on yen weakness, and there is also some chatter around the Bank of Japan bolstering its lending programs to support the private sector as high inflation curbs spending. Also watch for intervention risks as highlighted here.
Bank of England may tilt to hawkish despite recession concerns
The BoE meets on Thursday after last week’s meeting was delayed by a week for Queen Elizabeth II’s funeral. Policymakers are expected to hike rates by another 50bps, which would bring the Bank Rate to 2.25%, although a 75bps hike is still on the table. Beyond September, analysts forecast a 50bps increase in November and 25bps in December, taking the Bank Rate to 3%, where it is expected to stay until October 2023. Also worth highlighting is the “fiscal event” delivered by new Chancellor of the Exchequer Kwasi Kwarteng on Friday. This will be his first statement on how he plans to deliver new Prime Minister Liz Truss' pledge to make the U.K. a low tax economy, which risks stoking inflation in the medium-term. However, short-term plans on energy support package suggests lower inflation to end this year, but that wouldn’t be enough for the BoE to go easy on its inflation fight.
Rio Tinto joins BHP in saying Copper’s near-term outlook is challenged
Rio Tinto’s CEO has joined a suite of companies, including BHP, saying copper’s short-term outlook faces pressure. From supply-chain issues to 30-year high inflation and restricted demand from China, the metal is seeing less demand, and supply is outpacing supply. However, that is not expected to be the case over the longer term. Goldman Sachs predicts copper demand will be greater than supply by 2025, and will push prices to twice their current levels. Copper is used in everything from buildings to automobiles, to wiring in homes and mobile phones.
Chinese media called for Loan Prime Rate Cuts
Although the Loan Prime Rates (“LPR”) were fixed at the same level earlier this week, leading Chinese financial newspapers, including the China Securities Journal and Shanghai Securities Journal are calling for LPR cuts in the coming months to boost the economy.
Temporary measures to shield European consumers from high energy prices are becoming permanent
According to the calculations of the Brussels-based think tank Bruegel, European governments have allocated about €500bn to protect consumers since September 2021 (see the report). The exact figure is higher because Bruegel has not yet counted the most recent packages from the United Kingdom, Germany and Denmark. We would not be surprised if the total amount will reach at some point next year €1tr. But there is more. European governments have also allocated more to support utilities facing risk of liquidity crisis (several instruments are used including loans, bailouts and fully fledged nationalisation). This represents a total amount of €450bn (this is actually above half of the NexGenerationEU funding which was agreed after the Covid crisis).
Dreadful growth forecasts for the eurozone
We all know forecasting is a tricky task, even more so in the current macroeconomic environment (the impact of the energy crisis is tough to assess). Yesterday, Deutsche Bank revised downward its 2023 growth forecast for the eurozone, from minus 0.3 % to minus 2.2 %. This is a massive drop in GDP if it happens. It would actually be the third lowest euro area GDP growth since WW2 (behind 2009 and 2020, of course). This shows how expectations are low for the eurozone next year.
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