With non-farm payrolls out of the US later today we’re capping off a 10 day period which we may well look back upon in the months and years ahead as DEFINING. What have we seen so far?
- The end of balance sheet expansion in the US. A statement that was more hawkish than expected from the FOMC, with hikes in the Fed Funds rate by mid-2015 a distinct possibility. Say it with me… dollar positive!
- A shock announcement from the Bank of Japan with an announcement that the expansion of their balance sheet would be unexpectedly increased, and actions from the State Pension which will shift portfolio allocations away from bonds to more risky equities. Say it with me…yen negative!
- The ECB and Bank of England keeping rates unchanged at near zero levels, and Mario Draghi announcing the intention to expand the ECB balance sheet by one half, or I might as well say it.. € 1trn. Say it with me… euro negative!
And now today we have the US employment data announcement. If it’s a good one, it will confirm the strength of the US economy, and our expectations for rate hikes next year. Call me cynical, but surely the Heads of the BoJ, ECB and Federal Reserve have been in touch. I smell coordination here. In the end, given the market’s reaction to the FOMC statement, I’m not even sure they needed it, but as they say (at least those of us who like playing chess).. over-protect your strength. We just may get out of this global crisis in an orderly fashion of some sort. Don’t get me wrong, I see troubles in select Emerging Markets on the horizon, and we will all do well to be vigilant, but in terms of the bigger picture this is surely the best outcome.
Looking ahead to the data today, having seen the ISM non-manufacturing employment data jumping up to a 9yr high mid-week, it’s hard not be extremely bullish about employment prospects in the US and the unemployment rate is already at 5.9%. If we start seeing accelerating employment growth the Federal Reserve may even have to seriously consider pre-empting the risk of a meaningful jump in wage growth. That means interest rates higher, earlier, the US consumer potentially resuming the role they’ve played for decades.. saviour of the global economy. And here we were just a few years ago talking about BRICS, secular decline of the US economy etc etc.. we should all be ashamed of ourselves!
It’s no surprise that over the past week, we have seen US equities make new record highs, Japanese equities making multi-year highs, and asset markets in general rallying. Folks, we could be in for a tremendous rally into yearend. There has been a lot of fear, and as this leaks out of the market with massive amounts of liquidity being added/created, there is only one thing to do and that is to buy equities. The big currency trades have official sanction: EUR/USD to go lower, USD/JPY to go higher and these, the two largest currency pairs will exert their gravitational effects on their satellite currencies. We have already seen USD/KRW making 12month highs in reaction to USD/JPY, it’s a reasonable assumption that more is to come.
As in all things human, it can’t all be silver linings. There are dark clouds in emerging markets with the weakness of oil prices. The naira is a case in point, the Nigerian currency is now weaker than it’s been for a decade. A decade! You could say it’s in free-fall, but that’s probably pushing it. But this is what you get when the substantive majority of government revenues are generated by the proceeds of crude oil sales. This is what you get when rainy day funds are squandered before it rains. This is what you get when you have elections within the next year and fiscal expenditures are not as controlled as perhaps they could have been. But Nigeria is not unique.. granted it’s problems might be.. but you only have to look at the Russian rouble or the Brazilian real to see my point. It’s fair to ask the question.. that if weakening of the euro and the Japanese yen is such a good thing for the Eurozone and the Japanese economy why can’t it be good to see some of these other currencies weaken? It’s apples and oranges. These emerging markets have a higher dependence on financing from abroad, and money is flowing out of these markets at a fairly rapid clip. At some point we will have to sit down and figure out when it becomes a serious problem. It might be that the overwhelmingly positive actions we’ve seen by major central banks in the last week will be seen as global growth positive and thus by extension we can have a calmer view of some of these Emerging Markets. But as I’ve said before, some of these markets have their own specific issues that require mitigation from within.
We are now in an era of macro-economic differentiation. There will be exciting opportunities for macro traders. We’ve seen similar times before, but they’re never ever quite the same. Is this 1983/4 or 1993/4? Who knows! For now it’s clear EUR/USD has official sanction to go lower and USD/JPY has official sanction to go higher. Need I say more?