Posts in Global Economy
The New Regime

Friday’s initial price action in response to the June U.S. payroll report provides a nice microcosm for investors’ mood and short-term expectations. The data themselves were so-so. The unemployment rate increased slightly, due mainly to a lower labour force participation rate, and wage growth slipped, albeit marginally. Markets, however, homed in on the above-consensus increase in headline payrolls, a 224K jump relative to expectations of a 160K gain, and immediately started selling equities and bonds. Running the risk of skipping several important steps in the argument, I reckon the story is relatively simple. Markets have been angling for a 50bp cut by the Fed in July, a position that was washed out, at least for the time being, by Friday’s above-consensus NFP print. Even if this interpretation is right—and it might not be—it doesn’t change the main thrust of the story, which I have been trying to describe on these pages in recent months. Markets have made their bet on further easing by monetary policymakers, and they’re now expecting central banks to deliver. Friday’s session suggests that the consensus is easily spooked, though as I type, Spoos are virtually flat on the day, and EDZ9 is still pricing-in two-to-three cuts between now and year-end.

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Circular Reasoning

It’s easy to trip over trying to formulate a market narrative at the moment. One interpretation of the dramatic decline in global bond yields is that the smart money is de-risking their portfolios ahead of global slowdown and a rout in equities and credit. The ramp-up in the global trade wars, and still-soggy economic data seem to confirm this version of the narrative, but it is also a somewhat naive story. The global economy is not in perfect shape, but it is hardly on the brink of a recession, especially not since it is usually coordinated tightening by central banks that push the major economies over the edge in the first place. The market is now pricing-in one-to-two rate cuts by the Fed this year, and three in 2020. The money market curve in the Eurozone is even starting to price in the idea that the ECB will further scythe its deposit rate below -0.4%. The argument in the U.S. is particularly delicious. Last year, the consensus was angling for a recession in 2020 based on the idea that the Fed was in search for a “neutral” FF rate at about 3%. Now that the Fed has thrown in the towel, the idea is that it will cut rates to prevent the recession that it itself was supposed to have sown the seeds for in the first place, by hiking interest rates.

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It's time to play defense

After two weeks on the road seeing investors, I am convinced that portfolio managers are becoming increasingly sceptical about the synchronized global recovery. That’s probably a good shout. I recently surveyed global leading indicators, and didn’t like what I was seeing. The data since have been worse. My in-house diffusion index of global leading indices has been flat since the start of the year. Its message is simple, global manufacturing accelerated sharply for most of last year, but momentum petered out in Q1. It doesn’t yet point to an outright slowdown, though other short-leading indices, such as the PMIs, do. The signal is more uniformly downbeat for the global economy if we look at liquidity indicators. Inflation is rising, with oil prices at a 12-month high, and nominal M1 growth is decelerating. Historically, this has been one of the more reliable omens for slowing growth in the global economy. Of course, investors don’t have to peruse economic data to tell them that something is afoot. Let me see whether I can remember everything. We have had wobbles in emerging markets, the return of political risk and higher bond yields, and even euro-exit chatter, in the Eurozone periphery as well as the morbid fascination that Deutsche Bank is going to blow a hole in the European, and perhaps even in the global economy.

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