International market analysis and insights from Stephen Innes, Chief Global Market Strategist at Axi,
The Federal Reserve’s tapering push back is not only a foreshadow of Chair Powell’s speech later this week, but it also repaved the runway for the stimulus reflation trade to fly higher.
We know vaccine means brighter day and blue sky ahead. And with the Fed verbally pushing back against steepeners, once the US presidential inauguration chaos on the Beltway hits the rear-view mirror, investors will start surfing the stimulus wave again.
Stocks and commodities are marching higher, and it’s no coincidence risk is up in Asia after the US dollar is down for the first time in four days.
The drivers are non-toxic – curve steepening too far too fast, and Fed rhetoric but we will soon move past the 30y auction this Thursday.
We are seeing profit-taking and pairing downside risk ahead of CPI later today where the call is lackluster at best but watch out if the big inflation uglies surprisingly rear their heads.
Powell is speaking this Thursday where he may pour some cold water on the narrative around the tapering of purchases – but on the back of FOMC voter Bostic’s where he said he could advocate a normalization in policy as early as mid-2022 if the recovery is faster than expected.
The implied probability for a hike by the end of 2022 has risen from 10% pre-Georgia run-offs to now 35%, which is not unreasonable when you consider the Bank of Canada is priced at 113% probability of a hike by the end of 2022.
Impeachment is a concern for the fiscal stimulus timeline (which will impact the Fed outlook). Still, it may only push things back by a week or two beyond the inauguration to late Jan/early Feb.
BOE on negative rates
Bank of England (BOE) Governor Bailey also went back on negative rates in the UK this morning, helping to drive GBPUSD which also has a bit of a gravitational pull on other G-10.
Meanwhile, Covid continues to drive restrictions in the face of vaccinations, with German Chancellor Angela Merkel warning that Germany may need another ten weeks of lockdowns.
Simultaneously, China has locked-down cities in Hebei and Heilongjiang provinces ahead of the Lunar New Year on Feb 12. It makes us wonder if the world will be dealing back and forth restrictions indefinitely on spikes in Covid that occur even after we achieve “herd immunity.”
CPI is the major focus of the day and given the FOMC pushback on tapering has opened the small door for risk-taking, I would expect investors to walk through it until it slams shut.
Inflation expectations had rallied to the highest since early 2018 when President Trump was cutting corporate taxes into an economic upcycle. At face value, it seems the Feds are prepared to keep real rates in check via its Treasury purchases that absorb any supply the market can’t handle. Indeed, this is the FED current mantra and might be unlikely to change until the virus passes, and a good chunk of the economic damage has been corrected.
For the steepeners to continue, something must give way. Either inflation expectations will need to move back up to levels not seen since before the 2008 financial crisis, or real rates will need to surge, triggered by a hefty Fed taper.
The conjecture is never a pure science, but a taper doesn’t feel likely in this type of economic environment.