The time from when we last published our latest addition of the Daily Grail has been rather eventful. From the blistering jobs report 2 weeks ago that propelled market's expectation for a June rate hike even higher, to the continuation of monetary policy bifurcation by the world's central banks that will soon see the Euro trading at par to the Dollar, the month of March has so far endowed the financial markets with much needed cross-asset volatility.
Today, we will discus in brief about several of these noteworthy developments that have one way or another gained media coverage and will have further reaching ramifications in the time to come. Sit tight and enjoy the read.
Flight To Liquidity Spurs Dollar Buying Frenzy
The strength in the dollar has been the piecemeal development over the 3 months that have since elapsed this year. The green back has appreciated against all of the G7 currencies and especially so against the EUR, AUD, and NZD. More recently however, there has been a specific development across various asset classes characterized by heightened volatility (both realized and implied) and you guessed it, even more strength in the dollar.
In case readers missed it, the US Bureau of Labor Statistics (BLS) released its non-farm payrolls (NFP) report for the month of February on 6 March. A total of 295,000 non-farm jobs were added for the month ending 28 February, handily beating consensus estimates of a 235,000 print and higher than January's 239,000 figure. The U3 unemployment rate ticked down 0.2% from January's 5.7% and beat expectations of a 5.6% print; this is the lowest since the depth of the financial crisis in 2009. Average hourly earning also rose by 2%, and factoring in America's first ever deflation since Lehman, real earnings actually rose more than the nominal figure.
This slew of purportedly good news ultimately coalesced into a massive capitulation of risk across almost all risk assets including equities, corporate credit, FX carry, and even the entire treasury curve! We were monitoring our quote list and it was an utter sea of red that Friday. It was readily apparent that positions were being liquidated across the board and that flush of capital remained as liquidity - also known as cash, or the dollar.
We spoke to several other seasoned traders on the weekend following the 6th; they were pretty much of the same sentiments. It wasn't flight to safety. It was flight to liquidity. And there is a quantum of difference between the two. That day saw the EURUSD plunge more than 200 pips from high to low; the most traded currency pair in the world absolutely cratered 350 pips that week alone, breaching the critical 1.1 big figure after the ECB's commencement of sovereign bond buying the day before.
The logic behind the sell-off in risk and subsequent flight to liquidity was widely reported to have been the usual tantrum of a Fed rate hike being pushed earlier in light of good economic data. We see plenty of questionable defects in this argument. For instance, Bloomberg reported earlier today that broad US macroeconomic data has been the most disappointing in the world; on top of missing estimates in the worst fashion since 2009. Hardly palatable, but the markets and especially the greenback seem fixated only on the labor market. In our eyes, this behavior is not only perplexing but outright precarious.
More from Bloomberg:
The punchline to us, and one that we think is not often discussed, is that of expectations. While we agree that the quality of US macroeconomic data has somewhat deteriorated over the past few months, the lion's share of the this 'bad' patch of data can be attributed to the over exuberant estimates brought over from 2014. Analyst estimates are inherently lagging in nature; those with long enough experience in the financial markets know this, such as the folks at Bloomberg, "the surprise shortfall in the U.S. doesn't necessarily mean the world's largest economy is in dire straights. It's just falling short of some perhaps overly elevated expectations. "
However, that being said, we must still direct attention to the what we feel is still the most important measure of all: Prices. And they haven't been rising, not at all. As we reported 2 weeks ago, America officially slipped into the deflationary club with it's first ever -0.1% annualized price change since Lehman, joining Europe in this Frozen tale. Thursday's PPI report highlight how dire straits actually were from prices. Producer prices fell 0.6% in February over the same period last year and 0.5% over January. Even after isolating weak energy prices, American producers still experienced the first negative annualized price change on record. So no matter how we look at prices, broadly or narrowly, they are declining - whether due to waning demand or widespread disinflationary forces is not of great concern.
Regarding the Fed's mandate of stable employment and a healthy level of inflation, it is obvious which is the red herring. During Janet Yellen's congressional testimony 2 weeks back, she provided little clarification as to when the Fed would raise rates from the zero bound. Instead, she added yet more ambiguity to the guidance that the FOMC will base its policy decisions on data.
However, we note that the chairwomen did say that the FOMC may raise rates at any policy meeting. In the market's eyes that meant a June hike. But as we have repeatedly said, the market will believe that it wants to believe.
For now, that believe is a June hike. We have our own reservations, and we strongly caution against being too committed to this consensus. The upside-downside risks are way too asymmetric for big punches to be thrown in the ring. We feel it is just not worth it at this juncture.
On the topic of volatility and cross-asset performance, the dollar has been the clear winner. The losers are equities, the front end of UST curve, corporate credit, and FX carry. The VIX hasn't really traded at huge premiums (above 30) but equities have taken a beating as of late. On the treasury curve, we have seen a bear flattener trade at play (short end under performance). Any trader with a short 5s10s30s butterfly position on would have seen a nice payoff in the last month or so.
The strength in the dollar isn't all because of a "data-dependent" Fed. A lot of it has been because many other currencies have been sold hard; those include the Euro, Pound, Canadian dollar, most EM currencies, and currencies of countries whose central banks have eased monetary policy. With all that selling, the dollar naturally had to be bid. Nothing more than Newton's third law of motion.
ECB's €1.1trn QE - The PSPP
On 22 January, the ECB unveiled something the world had never seen before. Mario Draghi, President of the European Central Bank and perhaps the world's second most power person following Janet Yellen (the Chairwoman succeeding Ben Bernanke, also known as the Chairsatan), announced that for the first time in the 14 years of the Euro's existence, the ECB was going to monetize debt securities to the tune of €60bn/month. Just 2 short months ago, the ECB termed this open market operation the EAPP (Expanded Asset Purchase Program).
2 months and 1000 pips later, the ECB has coined a new term - the PSPP (Public Sector Purchase Program). We have to give the ECB some applause for coming up with these really beautiful names, because our friends across the pond didn't really bother about masking what is essentially just asset monetization; they just called it QE.
The ECB might want to consider calling its PSPP Q€ instead. Jokes aside, the PSPP will run in conjunction to the EAPP, totaling €60bn/month in combined purchases which will include private sector covered bonds, agency debt securities, and government debt securities. The program will last till September 2016 at the earliest but technically has no end date - an open ended program is that it really is. The ECB officially started open market operations under the PSPP on 9 March 2015.
We will furnish readers with the full technicalities of the PSPP in a separate note on the Daily Grail; for those who wish to gorge their eyes on the sheer size of the ECB's largest ever bazooka, they can have them all.
What we will say here is nothing new to most people - the PSPP will do little to augment a Eurozone whose economy is in broad structural decline. What the PSPP will however achieve is:
Bring sovereign yields even lower and even more negative;
Suck whatever marginal volatility there is left in the European bond markets, lifting all boats in the process;
And incapacitate the markets' price discovery functions
In short, the rich will get richer while the rest, well, nothing really changes for them. Deflation would be a plus for the consumer, but other than that we cannot see a sliver lining to in an environment where nearly half of all outstanding sovereign debt securities in the Eurozone trades with a negative yield.
The big question on the minds of currency traders across all trading desks is when will parity be attained on EURUSD. Not if but when. Technically, price action doesn't seem like it has caught a serious bid. Wednesday's bounce in prices seems to have been caused by a slack in open interest as some shorts were covered. The bounce was short lived and prices resumed to attack the technically important 1.05 area in earnest thereafter, closing under the Maginot Line on Friday. We are curious on how the markets collectively thread a precarious dollar against a depreciating Euro.
Then again, as we said back in December 2014, shorting the Euro will probably be the easiest trade for 2015 as it had been for last year. The main beneficiaries of this extended debt monetization program would most certainly be German assets. Expect Germany's economy to drift even further from that of the Eurozone's as a competitively devalued Euro makes German exports more attractive. On top of that, their economy is fully prepared to capitalize on this potential windfall; with record low unemployment and low production costs, it is a win-win for Europe's only existing powerhouse.
Greek-Troika Vendetta Keeps Keeping On
So much for all those talks of a "Grexit" in January and February. After all that pompous bluster, Greece is still in the European Union, still used the Euro as its currency, hasn't defaulted on its debt, still has a national flag, and hasn't forgotten how to say "Γαμώ την Ευρώπη". So all must be well, right?
Wrong. Unless our readers have been oblivious to what was previously called the 'news', one should understand that all is absolutely not well in the basket case country. Far from it.
First, we should perhaps summarize the events that have transpired in the troubled nations over the last couple of months. As a reminder, we have covered the events orbiting such relevant topics in the past and we encourage readers to view those notes here, here, and here.
But as for now, here is the chronology:
- Greece's previous Prime Minister Antonis Samaras failed for the third and final time to get enough backing for his presidential candidate. Snap parliamentary election are called
- Fears that radical-left party Syriza will take power; Syriza campaigns radically changing trajectory of Greece regarding austerity and structural reforms to economy
- Snap elections held, Syriza indeed takes majority
- Syriza and new Prime Minister Alexis Tsipras form coalition; cabinet is sworn in
- Syriza begins furious talks with Troika (ECB, IMF, EC) on striking agreement to secure next tranche of bailout funding; then current tranche expires 28 February
- Tsipras promises Greeks that his government will not continue previous path of austerity and painful fiscal reforms
- ECB kills clause that exempts Greek debt securities from ECB collateral requirements; access to ECB liquidity essentially gone
- After lots of jawboning and verbal nukes dropped on both sides, Greek coffers is left with 2 weeks of cash
- Syriza requests bridge loan from Troika but simultaneously threatens to default if demands not met
- "Grexit" talks alternate on and off every other day
- Deal finally struck after long overnight discussions in third Greek-Troika meeting; previous two were uneventful
- Troika to grant €240bn in additional bailout tranche, will expire in June; on conditionality that Greece satisfy austerity and fiscal re-structuring mandates Troika has set
- Talks to reach solid and quantifiable agreement to Greek overhauls continue with latest EC meeting with EC held in Brussles; inconclusive hitherto
- EC President Jean Claude-Juncker not satisfied with Greece's latest measures
- Greece continues to ask for WW2 reparations from Germany, leaves latter furious
- Greek Finance Minister Yanis Varoufakis says ECB's PSPP (QE) ineffective and potentially counter-productive
- German Finance Minister Wolfgang Schäuble says disorderly "Grexit" possible
- Greece expected to receive €240bn bailout tranche Friday (3/13)
Just for laughs, here is what we found while reading into Friday's digest. None other than the Greek Finance Minister, Yanis Varoufakis - the very same clown who suggested the ECB bought GGBs and held them till maturity, because it could cover any losses when the mature at par in 2040- went all out in his typical good cop purveyor self saying:
"QE is all around us and optimism is in the air. At the risk to sound the party pooper, I find it hard to understand how the broadening of the monetary base in our fragmented and fragmenting monetary union will transform itself into a substantial increase in productive investments. The result of this is going to be an equity run boost that will prove unsustainable."
Why of course Mr Varoufakis, we totally understand why you said that. Just look at how Greek stocks were raped this week when the ECB's PSPP started, while the rest of Europe enjoyed the upside. What do we say? Jealous sore losers and empty vessels make the most noise.
And so the theatrical Greek soap oprah goes on. We can summarize all of those 18 points into one sentence: Nothing has changed. However, a great deal of hilarity has been introduced to what will go down in the history books as one of the most epic "kicking the can down the road" farces ever.
Momentary Policy Chasm Widens
Back in 24 February, we put out a note detailing how the world was seeing an unprecedented trend in Central Bank policy easing, the likes of which haven't been seen since 2008. It was 20 dovish central banks then. In a matter of 20 days, this number has risen to 24. 24 central banks have now eased monetary policy in 2014.
It must be noted that many of these central banks have eased multiple times in 2015. That brings the easing count way higher than 24. They include the Central Bank of Russia (2x), PBoC (2x), Reserve Bank of India (2x), and Danish Central Bank (4x!).
We are greatly anticipating the moment the "currency wars" salvos start firing in earnest in a 2010 redux. The latest the the easing party have been South Korea, Thailand, and Russia.
Monetary policy bifurcation is something we have spoken at large about. This is one reason why we have been endowed with strong trends in the FX markets which would usually be in their slumber at this time in the year. This is also another reason why the greenback has been so incredibly strong.
In the current climate, any currency of whose central bank refrains from and is currently not in any type of asset purchase program, will see moderate to high relative strength.
Below is the updated list of all 24 central banks who have eased policy so far in 2014:
1. Jan. 1 UZBEKISTAN
Uzbekistan's central bank cuts its refinancing rate to 9 percent from 10 percent.
2. Jan. 7/Feb. 4 ROMANIA
Romania's central bank cuts its key interest rate by a total of 50 basis points, taking it to a new record low of 2.25 percent. Most analysts polled by Reuters had expected the latest cut.
3. Jan. 15 SWITZERLAND
The Swiss National Bank stuns markets by scrapping the franc's three-year-old exchange rate cap to the euro, leading to an unprecedented surge in the currency. This de facto tightening, however, is in part offset by a cut in the interest rate on certain sight deposit account balances by 0.5 percentage points to -0.75 percent.
4. Jan. 15, March 3, INDIA
The Reserve Bank of India surprises markets with a 25 basis point cut in rates to 7.75 percent and signals it could lower them further, amid signs of cooling inflation and growth struggling to recover from its weakest levels since the 1980s. Then on March 3, it followed through on its promise and indeed cut rates one more time, this time to 7.50%
5. Jan. 15 EGYPT
Egypt's central bank makes a surprise 50 basis point cut in its main interest rates, reducing the overnight deposit and lending rates to 8.75 and 9.75 percent, respectively.
6. Jan. 16 PERU
Peru's central bank surprises the market with a cut in its benchmark interest rate to 3.25 percent from 3.5 percent after the country posts its worst monthly economic expansion since 2009.
Jan. 20 TURKEY
Turkey's central bank lowers its main interest rate, but draws heavy criticism from government ministers who say the 50 basis point cut, five months before a parliamentary election, is not enough to support growth.
8. Jan. 21 CANADA
The Bank of Canada shocks markets by cutting interest rates to 0.75 percent from 1 percent, where it had been since September 2010, ending the longest period of unchanged rates in Canada since 1950.
9. Jan. 22 EUROPEAN CENTRAL BANK
The ECB launches a government bond-buying programme which will pump over a trillion euros into a sagging economy starting in March and running through to September next year, and perhaps beyond.
10. Jan. 24 PAKISTAN
Pakistan's central bank cuts its key discount rate to 8.5 percent from 9.5 percent, citing lower inflationary pressure due to falling global oil prices. Central Bank Governor Ashraf Wathra says the new rate will be in place for two months, until the next central bank meeting to discuss further policy.
11. Jan. 28 SINGAPORE
The Monetary Authority of Singapore unexpectedly eases policy, saying in an unscheduled policy statement that it will reduce the slope of its policy band for the Singapore dollar because the inflation outlook has "shifted significantly" since its last review in October 2014.
12. Jan. 28 ALBANIA
Albania's central bank cuts its benchmark interest rate to a record low 2 percent. This follows three rate cuts last year, the most recent in November.
13. Jan. 30/March 13 RUSSIA
Russia's central bank cuts its one-week minimum auction repo rate by 100 basis points to 14 percent, less than two months after cutting it by two points to 15 percent, as fears of recession mount following the fall in global oil prices and Western sanctions over the Ukraine crisis.
14. Feb. 3 AUSTRALIA
The Reserve Bank of Australia cuts its cash rate to an all-time low of 2.25 percent, seeking to spur a sluggish economy while keeping downward pressure on the local dollar.
15. Feb. 4/28 CHINA
China's central bank cuts interest rates for the second time in one month to fight off economic slowdown and rising deflation risks. Following a system-wide cut to bank reserve requirements in early February, policy makers followed up with a cut in benchmark interest and saving rates at the end of the month.
16. Jan. 19/22/29/Feb. 5 DENMARK
The Danish central bank cuts interest rates a remarkable four times in less than three weeks, and intervenes regularly in the currency market to keep the crown within the narrow range of its peg to the euro.
17. Feb. 13 SWEDEN
Sweden's central bank cut its key repo rate to -0.1 percent from zero where it had been since October, and said it would buy 10 billion Swedish crowns worth of bonds
18. Feb. 17 INDONESIA
Indonesia’s central bank unexpectedly cut its main interest rate for the first time in three years
19. Feb. 18 BOTSWANA
The Bank of Botswana reduced its benchmark interest rate for the first time in more than a year to help support the economy as inflation pressures ease.
The rate was cut by 1 percentage point to 6.5 percent, the first adjustment since Oct. 2013, the central bank said in an e-mailed statement on Wednesday.
20. Feb. 23 ISRAEL
The Bank of Israel reduced its interest rate by 0.15 percentage points, to 0.10 percent in order to stimulate a return of the inflation rate to within the price stability target of 1–3 percent a year over the next twelve months, and to support growth while maintaining financial stability.
21. March 4, POLAND
The Monetary Policy Council lowered its benchmark seven-day reference rate by 50 basis points to 1.5 percent, matching the prediction of 11 of 36 economists in a Bloomberg survey. Twenty-three analysts forecast a 25 basis-point reduction, while two predicted no change.
22. March 11, THAILAND
The Southeast Asian country -- a onetime export powerhouse that’s seen its manufacturing mojo dim somewhat in recent years amid historic flooding and political infighting -- lowered its main rate to 1.75 percent.
23. March 11, SOUTH KOREA
In a surprise move, the Bank of Korea cut its policy rate from 2.00% to a record low 1.75%.
24. March 12, SERBIA
Serbia's central bank cut its benchmark interest rate for the first time since November to 7.5%, moving to ward off deflation and support economic growth on the back of a new IMF loan deal. The cut - by 50 basis points - was in line with the expectations