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"Clueless", Reaccomodating Fed Spurs Epidemic Of Record Low Yields Around The Globe

If it wasn’t obvious that Fed normalization was going to be difficult, it should be now. Risk assets don’t appear to be ready for significant removal of accommodation".

      - Deutsche Bank's Dominic Konstam

So much for "the recovery" (in the US or elsewhere) and a mythical world in which a seamless handover from the Fed to the economy can ever take place.

As Deutsche Bank correctly summarizes, markets were left scratching their heads last night as to whether the FOMC minutes released were actually from the right meeting. They were certainly more dovish than that implied by the increases in the dots 3 weeks ago and the associated statement.

If there is anyone who goes postal in the Marriner Eccles building it will probably be a Fed Fund Futures/Eurodollar trader: "after the FOMC back on September 16th the market re-priced Fed interest rates notably higher with Dec 16 Fed Funds futures moving from 1.67% to 1.82%. However reading the minutes last night it’s clear that some members see risks more on the downside than they let on at the time. Indeed on the committee a number of participants said growth “might be slower than they expected if foreign economic growth came in weaker than anticipated,” and that "Some participants expressed concern that the persistent shortfall of economic growth and inflation in the euro area could lead to a further appreciation of the dollar and have adverse effects on the U.S. external sector." This sounds like a committee that will clearly raise rates as they expect if everything is ok in the world but won't if events turn out more negatively. The same Dec 16 Fed Fund Futures contract is now at 1.575% and has fallen fast in recent days."

DB's Jim Reid concludes it correctly, if tongue in cheek - the Fed has NO IDEA what it is doing anymore, ot what will happen next month, let alone next summer:

Overall we think the market pays too much attention to the dots which are based on economic forecasts that since the crisis have proved pretty unreliable. Fed funds will end up moving with the actually path of the global economy and asset prices rather than the forecast of them. For now we would happily take the under in any under/over game based on market expectations for Fed Funds over the next couple of years.

Translation: the Fed is absolutely clueless, however that is great news for risk assets as it means the Fed's CTRL and P buttons are about to get some serious exercise, leading to hilarious overnight headlines such as:

  • IRELAND SELLS 10-YEAR BONDS AT RECORD-LOW YIELD OF 1.63%
  • GERMAN 10-YEAR BUNDS RISE; YIELD FALLS 2 BASIS POINTS TO 0.88%
  • DUTCH 10-YEAR GOVERNMENT BOND YIELD DROPS TO RECORD-LOW 1.021%
  • PORTUGUESE 10-YEAR BOND YIELD DROPS TO RECORD-LOW 2.942%
  • FRENCH 10-YEAR GOVERNMENT BOND YIELDS DROP TO RECORD-LOW 1.214%
  • U.S. 10-YEAR NOTE YIELD DROPS TO 2.296%, LOWEST SINCE JUNE 2013
  • SPANISH 10-YEAR BOND YIELD DROPS TO RECORD-LOW 2.038%
  • FINNISH 10-YEAR YIELD DROPS TO 1% FOR FIRST TIME ON RECORD

And that is all you need to know about the "global recovery" and the Fed's 2015 "rate hike."

Market Wrap:

European stocks rebound from 2-month low on speculation Fed will keep rates near zero after minutes of last meeting showed policy makers were concerned about global growth. Basic resources sector leads gains in Europe as commodities and bonds also rally. Asian stocks rise. Dollar falls. WTI trades near 17-month low as gain in U.S. stockpiles is more than forecast.

  • S&P 500 futures up 0.3% to 1966.9
  • Stoxx Europe 600 up 1% to 331.24
  • US 10Y yield down 1bps to 2.31%
  • German 10Y yield down 3bps to 0.88%
  • MSCI Asia Pacific up 0.7% to 139.05
  • Gold spot up 0.6% to $1227.9/oz

Overnight, markets in Asia have responded broadly positively to the minutes with the Hang Seng up +0.9% whilst the MSCI APEX 50 is up +0.7%. These moves were also supported by news that China Premier Li Keqiang had pledged further measures to lower financing costs (BBG). Japanese markets are responding less positively overnight with the Nikkei slightly down as we type, likely driven by the -0.8% drop we’ve seen in USDJPY since the minutes were released. Asian credit has responded strongly with iTraxx Asia trading -3bps tighter. Asian stocks gain, led by financials. Chalco rises after Alcoa profit beat estimates. Tianhe Chemicals drops after denying fraud claims. IT, industrials underperform. MSCI Asia Pacific up 0.7% to 139.05; Nikkei 225 down 0.75%, Hang Seng up 1.17%, Kospi down 0.39%, Shanghai Composite up 0.28%, ASX up 1.06%, Sensex up 1.52%. 8/10 sectors gain with financials and materials rising most. Japanese machine orders rise 4.7% m/m; est 0.5%

European equity markets recovered a significant portion of the week’s sharp losses, with the DAX future now sitting over 100 points above the week’s low print as the strong Wall Street close lifted stocks across the board. The materials sector is the strongest performing sector today, with miners lifted by a rally in not just precious, but also industrial metals, pushing miners such as Antofagasta, Fresnillo and Randgold Resources to the top of the board on the Stoxx 600. In individual stocks news, GlaxoSmithKline, one of the UK’s largest companies, became the latest company to warn that the strong GBP will hit their upcoming EPS numbers. Traditionally signalling the beginning of US earnings season, Alcoa (AA) beat expectations, as higher aluminium prices allowed the upstream business to record the best performance since 2008. Looking ahead, both PepsiCo and Family Dollar are due to report today. All sectors rise led by basic resources, technology; German Aug. exports drop 5.8% m/m; est. -4.0%.

Bulletin Headlin Summary from RanSquawk and Bloomberg:

  • T-notes rally further in Europe, with the US 10yr yield falling to June 2013 lows (levels seen in the wake of Bernanke’s ‘taper tantrum’ speech on May 22nd 2013) after the FOMC’s dovish minutes
  • Eurozone bond yields fall to record lows as the hunt-for-yield trade is revitalized, benefiting the periphery
  • ECB President Draghi due to be speaking with Fed’s Fischer at 1600BST/1000CDT, shortly before the 30yr Bond auction from the US Treasury

FIXED INCOME

European bond yields all traded lower this morning after yesterday’s FOMC minutes provided a fillip for carry trades, as the hunt for yield across the continent pressed Spanish, Portuguese, French and Dutch 10yr yields to record lows (alongside many others in the Eurozone). The upside in T-notes has persisted ahead of the CBOT open, with 10yr Treasury yields indicated to open at the lowest levels since June 2013 (just weeks after the initial taper tantrum). Spillover buying in Treasuries coupled with a poor German trade balance pushed Bund futures to contract highs for the third consecutive session, with markets shrugging off supply from both Ireland the

FX

USD/JPY suffered the brunt of the USD weakness post-FOMC, falling to monthly lows of 107.61 as interest-rate differentials prompted a flight into the JPY. As such, the pair traded in very close proximity to the 107.50 level – at which USD 3bln worth of options are due to expire at today’s 10am (1500BST) NY cut.

Overnight, focus was on AUD following the employment report coming under scrutiny after the ABS dropped its seasonal adjustments to the figures. Employment Change printed an 18 month low at -29.7K vs. Exp. 15.5K (Prev. 32.1K) while the unemployment rate remained unchanged at 6.1%. Analysts at Westpac, using their own seasonal adjustment analysis, see the true figure at approximately -172K. This spurred a counterintuitive move in AUD/USD with the pair initially spiking lower led by algo-selling before recovering losses bolstered by a flurry of hedge fund buying.

COMMODITIES

Spot gold and silver both trade strongly, buoyed by the broad-based USD weakness after the dovish FOMC minutes yesterday. Silver now sits just below the 21DMA line at USD 17.78/oz. WTI and Brent crude futures are also seen higher, as the bout of USD weakness provides a boon for all USD-denominated commodities. Looking ahead, EIA NatGas Storage Change is expected to show a build of 109bcf, followed by Oct’14 Brent crude options expiring at the pit close.

* * *

DB's Jim Reid concludes the overnight recap:

We'd agree with DB’s US Rates Strategist Dominic Konstam who said in his latest piece a couple of days ago that “If it wasn’t obvious that Fed normalization was going to be difficult, it should be now. Risk assets don’t appear to be ready for significant removal of accommodation". So with all this, markets re-priced the Fed again after last night's minutes, and we saw the S&P 500 (+1.75%) see its best day of the year whilst US credit markets also rallied with CDX IG closing the day -2.5bps tighter. These moves stand in stark contrast to what was another weak day for European markets (which closed before the minutes were released). The Stoxx 600, CAC and DAX all lost around another -1%. European credit markets fared better with iTraxx Main flat whilst Xover widened just +1bp.

Overnight, markets in Asia have responded broadly positively to the minutes with the Hang Seng up +0.9% whilst the MSCI APEX 50 is up +0.7%. These moves were also supported by news that China Premier Li Keqiang had pledged further measures to lower financing costs (BBG). Japanese markets are responding less positively overnight with the Nikkei slightly down as we type, likely driven by the -0.8% drop we’ve seen in USDJPY since the minutes were released. Asian credit has responded strongly with iTraxx Asia trading -3bps tighter.

In terms of news yesterday, the main European data point was Spanish August Industrial Output which disappointed, rising +0.6% YoY vs +0.9% expected. We also learned that Russia’s bond auction struggled, as the government raised less than half the amount that it had intended to, and the central bank said it had sold $420m of foreign currency on October 6th to support the struggling Ruble (BBG). Earnings season also unofficially kicked off positively yesterday as Alcoa reported after the close. The company beat revenue and earnings estimates and the aluminum-maker’s shares increased almost 2% in after-hours trading after rising around 1% during the regular session (CNBC). Looking ahead Alcoa forecast global aluminium demand to grow by 7% in 2014.

Yesterday the IMF released its latest semi-annual global financial stability report and it provides plenty of food for thought for those worried about the state of the world’s financial system. To be fair that's the point of this report in many ways and if it didn't highlight the risks then it wouldn't be a particularly relevant publication. In the report, the IMF discusses how, “, the global economic recovery continues to rely heavily on accommodative monetary policies in advanced economies,” however, “although the economic benefits are becoming more evident in some economies, market and liquidity risks have increased to levels that could compromise financial stability if left unaddressed.” As evidence of their concerns, the IMF notes that accommodative policies have, “resulted in price appreciation, spread compression, and record low volatility in many areas reaching levels that indicate divergence from fundamentals,” however the biggest cause for their concern is the level of, “synchronicity,” seen in these moves (across broad asset classes and countries) which they describe as, “unprecedented.” The report highlights a number of other concerns. These include how “Capital markets have become more significant providers of credit since the crisis, shifting the focus of risks to the shadow banking system”, where they cite large global asset management firms as a particular case for concern, and also how, “Emerging markets are [now] more vulnerable to shocks from advanced economies.” In terms of what this means going forward, the Fund argues that, “Monetary policy should remain committed to achieving the central banks’ mandate of price stability and—where relevant—output stability,” with macro-prudential policies should be the, “the first line of defense against financial excesses”. The report is very broad and covers many other issues not mentioned here, including that Eurozone banks may not be able to meet the demands of their economies in their current form, and overall makes for an interesting read.

Overnight the Italian parliament’s upper house voted on labour reforms. As DB European Economist Marco Stringa wrote earlier in the week the parliament was voting on, “a so called "delegation law"”, which whilst not a vote on final labour reforms, it does mark “the beginning of the labour reform process, which should be completed in 2015.” The Italian PM Renzi won the vote by 165 to 111.

Looking to the day ahead, in Europe we have Germany’s August current account balance (expected in at +€13.8bn) and also France’s August trade balance (expected at -€5.5bn). We will also get Greek September CPI which is expected in at -0.3% YoY. The ECB will publish its latest monthly report whilst the Bank of England will announce its latest rates decisions (expected unchanged). In the US we will get initial jobless claims (expected in at 295k) and August wholesale inventory and trade sales MoM growth (both expected in at +0.3%).