June 14. The Fed’s ‘America First’ Policy
-As advertised, the Fed raised the FF target range by 25 bps, and IOER by 20 bps. The statement was altered to indicate decreased accommodation. In terms of SEP, FF in 2018 were projected to end 2018 at 2.4 vs 2.1 in March, and Core PCE went from 1.9 to 2.0, while PCE went from 1.9 to 2.1. The initial response was a flatter curve and sell off in rate futures; 2/10 treasury spread marked at 40.5 and 5/30 at 25.5 shortly after the announcement, and 39.9, 26.4 at futures settlement, with 2/10 at a new low for the cycle Red/gold pack spread settled 10.375, approaching the low of 8.25 on August 17. As mentioned yesterday, the low in Feb 2006 (the last hiking cycle) was 10.25. And, as EDM8 expires on Monday, if we use EDU19 and EDU22 as the pack starts, red/gold closed 7.25. It’s not quite inversion, but it’s getting closer. Late in the day there was a 20k block sale of EDZ9/EDZ1 at 4.0 bps (it had settled 4.5). The ten year yield was up only 2 bps to 2.977.
–As Powell announced press conferences after every Fed meeting beginning in January, off-quarterly FF spreads saw decent action. Oct/Nov FF spread went from 2.5 to 1.0 on heavy sales as odds for a Nov 8 hike fizzled, while Jan/Feb traded up to 4.0, settling +0.5 at 3.5. While the ‘dots’ indicate 2 more hikes into year end, EDU8 9737.5 puts were still offered at 0.75 late yesterday with EDU8 9750 bid. I would also note that July/Jan FF spread, which should capture the ‘two more hikes’ scenario, are less than fully embracing that outcome, having settled at 36.5. This, in spite of Powell characterizing the economy as “very strong” and noting widespread comments of skilled labor shortages.
–Today brings the ECB and discussions about the end of bond buying. So who is going to buy Italian bonds?
–In terms of tightening dollar liquidity, a couple of charts below relate to Emerging markets. At the top is EMB, the Emerging Market Bond etf, which closed at a new low. Beneath that is JPM EM FX Index, which is also at a new low. Note as well that even though the PBOC did not follow the Fed with a rate increase, the Shanghai Comp is at new lows for the year. Since making a high with Nasdaq in late Jan, SHCOMP and Nasdaq have completely parted ways. Will EM stress spill over into US markets? For now, Powell’s on the America First playbook, focused on the domestic economy.
