Mutual Daily Mutterings
Quote of the day…
“Don’t wrestle with pigs. You both get dirty and the pig likes it.”– Mark Twain
Chart du jour…Fed balance sheet vs US Credit spreads…
Source: Bloomberg, Mutual Limited
Overview…”holding on too tight…”
- When thinking of markets right now, and the outlook for growth assets, i.e. stocks, I keep coming back to a line from Top Gun, near the start when ‘Cougar’ hands in his wings after losing the plot…”I’m holding on too tight. I’ve lost the edge”…for me, that’s what markets are like at the moment, everything is wound up as tight as a drum, and it won’t take much to unravel. A taper tantrum could be that catalyst…but, probably not quite yet.
- Ahead of the FOMC meeting (tonight), some last-minute jockeying for position saw US stocks close moderately down on the day. Markets also had to digest a drop in US retail sales and an uptick in US producer prices. European markets were generally firmer. US treasury 10-year yields lingered near 1.5%, unchanged. Oil traded at the highest level since 2018, up +1.8% (Brent at US$74.26/bl), with some forecasts at US$100/bl. Commodities elsewhere were broadly softer.
- Talking heads… “after nearly a year of anti-climactic FOMC meetings, tomorrow’s meeting has the potential to move markets because it will likely start the process of the Fed communicating tapering of this historic accommodation…that’s going to be a tricky minefield for the Fed to navigate.”
- For what it’s worth, consensus seems to be leading to the so-called dot plots to point to an interest-rate hike in 2023, but the bank is unlikely to signal a scaling back of bond purchases until later this year with the two weaker-than-expected jobs reports since April putting a line through taper talk for now. So, a dead-rubber according to consensus. Consensus (Bloomberg Survey) expect the Fed to continue their assessment of the recent inflation surge as “transitory.”
- If consensus proves correct, and talk of tapering is shunned for now, then it’s ‘business as usual’, markets will likely range trade in the absence of an alternative and meaningful catalyst. Interestingly, the US Fed’s balance sheet surpassed US$8 trillion last week (rounded), equal to ~33% of annual US GDP. For context, since 2008 the balance sheet has averaged US$3.8 trillion, which is where it was (but declining) on the eve of the COVID pandemic.
- Offshore Stocks – modest falls across the board, but immediately before the FOMC, I wouldn’t read too much into that, just some last-minute re-positioning as markets digest the US retail sales data. Within the S&P 500 more stocks gained than fell, but more sectors fell than gained. REITS (-1.0%), Tech (-0.6%) and Telcos (-0.6%) dragged markets into the gutter, while at the top of the leader board we had Energy (+2.1%), up strongly as Brent (+1.8%) and WTI (+2.0%) reached new three-year highs. Industrials (+0.5%), Utilities (+0.4%), and Financials (+0.2%) were also firmer on the day.
- Local stocks – “We’ll get higher and higher, Straight up we’ll climb, We’ll get higher and higher, Leave it all behind”….Van Halen’s “Dreams”, when Sammy Hagar was on lead vocals, a period best forgotten. The ASX 200 hit yet another historical high yesterday with a solid and relatively broad-based rally. Every sector closed up on the day, led by Healthcare (+2.0%), Tech (+1.6%), and Staples (+1.5%), although it was Financials (+1.3%) that had the most significant impact, contributing just under half of the daily gains for the ASX 200. No sector was left behind, although Utilities (+0.0%) was a straggler and worst performer on the day. With recent gains, i.e. up +6.5% in the past three-weeks, relative strength indicators are now flashing ‘overbought’ heading into the business side of the Fed meeting. Overnight offshore leads are softer, with futures down -0.2%.
- Offshore Credit – ahead of the FOMC, I would have thought little done, but it was an active day in US primary markets, led by Macquarie (Group) and ANZ. All up $8.3bn printed with books generically 2x oversubscribed. Macquarie issued a dual tranche US$1.25bn 6.25-NC-5.25 deal at T+85 bps vs IPT of T+105 bps, and a US$1.0bn 11-NC-10 deal at T+120 bps vs IPT of T+140 bps. Books were 1.7x – 2.7x over-subscribed. While final pricing details are not yet available, I calculate the 6.25-NC-5.25 deal swaps back at around BBSW+125 – 130 bps (ball-park). The closest comp in AUD is a Dec-27 deal, which is 15 months longer and is pricing around +121 bps. The ANZ deal was out of the New Zealand entity, a 5-year US$1bn fixed line at T+50 bps, or BBSW+55 bps (ball-park).
- Local Credit – lighter volumes in secondary with investors interest focused on primary action with a slew of deals or IOI’s out in the ether. Wesfarmers (A-) formerly launched its 7Y (at +90 – 95 bps) and 10Y (at +110 – 115 bps) sustainability linked bond, the first of its kind in A$ bond markets (I think), which attracted some “mixed feedback from the market that the sustainability performance targets in the term-sheet perhaps do not go far enough” (Citi). A handful of other deals hit the market also, mainly Kangaroo deals, including a Goldman Sachs 6-NC-5. Minimal movement in spreads on the day.
- Bonds & Rates – minimal movement in yields yesterday, and last night, very little movement in treasuries ahead of the FOMC meeting. The June futures expired yesterday, which will clear some of the uncertainty and liquidity concerns of recent trading. Also yesterday, the RBA meeting (June) minutes were released, which indicated that more bond buying will likely be announced in just under three weeks at the July Board meeting – “members thought it would be premature to consider ceasing the program”. At this stage, three options are on the table according to the RBA: (i) repeat $100bn of purchases for another 6 months; (ii) scale back the amount purchased or spread the purchases over a longer period (i.e. a taper); (iii) move to an approach where the pace of the bond purchases is reviewed more frequently, based on the flow of data and the economic outlook. Reading various market commentaries, I’d suggest the consensus line of thinking is what’s behind door number 2, the second option. Expectations are building that the RBA will ‘trim’ it’s bond buying program from $100bn to $50bn over the following six months, or $2.5bn per week, down from $5.0bn per week. Having said that, some smart people think they’ll take option number 1. I’m leaning toward the tapering option, which should see some selling pressure on bonds (yields higher). Next up for the RBA, Governor Lowe will be delivering a speech today titled, “From Recovery to Expansion.”
Macro – “US retail sales fell more than expected in May, signalling consumers are shifting more spending to services. Sales tumbled -1.3% versus an upwardly revised +0.9% gain in April. Consensus saw a -0.8% drop. After pandemic demand for goods was propped up by higher savings, the decline suggests that as travel picks up and entertainment venues reopen, spending on goods is starting to moderate. Further stats: U.S. factory output grew +0.9% last month, more than expected, with total industrial production edging up +0.8%. PPI picked up more than anticipated to 6.6% from 6.2%. The New York Fed’s Empire manufacturing gauge fell to 17.4 in June”.
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Scott Rundell, Chief Investment Officer
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