Doctor Jay sticks with a virus contingent script


No change in message from the Federal Reserve as the big market trends of the summer are maintained. The US dollar index keeps falling, testing the lows of May 2018, while gold looks set to test $2,000 an ounce. Treasury yields remain near the bottom of their range — with a 10-year note below 0.6 per cent — and likely stay in the basement until the pandemic and the risk of new waves abates. The Move index, a measure of short-term Treasury market implied volatility, sits at a record low.

The latest statement from the Federal Open Market Committee is hardly earth-shattering with this new line:

“The path of the economy will depend significantly on the course of the virus.”

Jay Powell, the Fed chairman, said during the press conference afterwards that it was a fundamental point and the FOMC felt it needed to be in the statement. He highlighted weaker credit and debit card spending and a rise in some measures of unemployment since the end of June. With the pace of US infections rising at the moment, little surprise that Mr Powell also focused on the need for Congress to maintain fiscal support to offset the “biggest shock to the US economy in living memory”.

Seema Shah at Principal Global Advisors says “there is no doubt that the Federal Reserve will do what it can to prop up the economy and markets”, and added this important observation:

“Policymakers can soften a downturn, but ultimately, they do not have the power to prevent it.”

Market reaction was typically choppy during the Fed press conference. Ultimately, the S&P 500 closed near its high for the session while 10-year Treasury yields are stalking their March closing low of 0.54 per cent. Gold rallied to a fresh high with the dollar plumbing new lows for the session, before gains were trimmed. From here it’s not hard to expect a further push higher from Wall Street against the backdrop of a weakening dollar, rallying metals and becalmed Treasury yields into August.

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Mr Powell also said that the FOMC’s review of its monetary policy framework is ongoing. The July meeting minutes — released in three weeks — should show how the central bank is leaning in terms of linking a future tightening of policy to either an inflation or unemployment target.

Marvin Loh at State Street says past experience shows that forward guidance from the Fed “will be successful in keeping targeted rates in check”. The collapse in real yields — reflecting higher inflation expectations as nominal Treasury yields have been range bound — looks “comparable with the 2011-13 period, following the Fed’s last foray with explicit guidance, which lasted 18 months before the taper tantrum shook things up”.

Indeed, 10 and 30-year real yields set new lows of minus 0.95 per cent and minus 0.4 per cent respectively today, according to Tradeweb.

The formal arrival of forward guidance suggests a few things. A backdrop of contained nominal yields will reinforce the “there is no alternative” investment thesis towards buying equities and other risky assets. In turn, that stores up scope for a bout of market turmoil should the macroeconomic backdrop improve and/or a vaccine emerges. On the latter scenario, Mr Powell said the FOMC was focused on hoping for the best, while planning for the worst outcomes and providing support.

The latest global investment view from Amundi expects in the coming months that financial markets “will probably start to price in the idea that there will be no further acceleration in monetary accommodation, when the economy looks to be on the road to recovery”. That does suggest upward pressure on core government bond yields, with a rising US budget deficit also playing a role.

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While Amundi think central banks will take their time “when removing any accommodation to avoid any disruption to the market or the economic recovery”, it adds:

“The intensity of policy actions may fade and this will have the largest effect on financial markets.”

One notable lesson from the pandemic is that financial markets reprice very quickly.

Quick Hits — What’s on the markets radar?

A weaker dollar has finally spurred some life in sterling. The UK pound is near $1.30 after starting July below $1.25. The British currency, however, has been range bound against the euro at about 90 pence, so the story is really one of US dollar weakness. With the outlines of an EU trade deal looking faint, chatter around negative interest rate policy from the Bank of England and a service sector economy hit hard by the pandemic, some analysts think the pound’s recent rally against the dollar looks questionable.

Bank of America highlights the tendency of a weaker sterling from August onwards since 2004 and prefer selling the pound versus the Swiss franc among the G10 currency club.

Average GBP/G10 performance, Aug-Dec since 2004

News alert

Today marks the closing of a chapter on Market Forces. As from September I shall be starting a new role, covering the US investment sector in New York for the Financial Times. Before I get into the details, I would like to say that in the 14 years I have spent writing and reporting at the FT, the feedback on Market Forces has been frequent and insightful, particularly the constructive criticism and suggestions. It is very gratifying when writing a daily note to have quality feedback and many thanks for being such supportive readers of this newsletter. I look back at 22 months of the note with a great deal of pride and yes, it is hard to move on to something new. 

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This means Market Forces is on hiatus for the rest of summer and will return with a new look and a new writer in the autumn. Please stay tuned for the new daily markets newsletter.

My forthcoming role in New York will cover the broad expanse of US investing and I hope you keep a lookout for my efforts by visiting ft.com/michael-mackenzie and click “Add to my FT” next to my name.

In my new role, I would greatly appreciate hearing from readers about investing and what you think the FT in the US should be watching and anticipating. I believe in the value of the FT exploring the pros and cons of investment ideas and market narratives, while pointing out any pitfalls that may lurk for readers. There is plenty of debate about what the future holds for investors in a world of negative-yielding bonds and entrenched central bank involvement within the financial system. Trends that have accelerated in the wake of the pandemic, challenging the prospects of many investment strategies. We are at quite a moment when gold — which provides no yield — finds buyers in a world of dwindling fixed income opportunities.

I don’t think I will run short of finding news and generating story ideas anytime soon.

So please stick with the FT and the new US investing hub.

Your feedback

I’d love to hear from you. You can email me on michael.mackenzie@ft.com and follow me on Twitter at @michaellachlan.





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