All about Inflation
Wall Street still remains upbeat despite growing an energy crisis that threatens the economic recovery, widespread price increases, and mixed economic data. It seems that inflation will remain elevated for a lot longer than the Fed imagined, but a rapid rate-hiking cycle will not translate into an immediate ending of negative real yields. If US real yields remain negative throughout next year, that should provide some underlying support for investing in equities. The focus will stay on energy prices, which should show continued pressure on energy producers to ramp up output as the colder months near. If energy costs seem poised to head much higher, the unbalanced global economic recovery could dent risk appetite and lead to some diverging market moves.
Pricing pressures have already made some central banks start tightening cycles and next week’s rate decisions could see large rate hikes from both the Russian and Hungarian central banks, while Turkey’s bank will continue to bow to President Erdogan’s pressure to cut rates. Inflation has gotten worse since the last time we heard from Fed Chair Powell and investors will pay close attention to his comments on Friday’s policy panel. Powell may start to grow more concerned that a lot of the price increases may not be temporary and that could continue to bring forward Fed rate hike expectations to the end of next summer.
A busy week on Wall Street will have investors focusing on the second week of earnings season, a wrath of Fed speak, and economic data that should show the recovery is moderating and pricing pressures are not easing. The economy is still on sound footing and any weakness should be modest, but widespread pricing pressure concerns from earnings could rattle some investors.
On Monday, both September industrial production and October NAHB housing market index are expected to soften, while Fed Quarles and Kashkari speak. Tuesday starts with early earnings from Johnson & Johnson, Haliburton, and Procter & Gamble, with housing data that could show permits and starts edge lower. After the close, Netflix and United Airlines report earnings. Fed speak includes Daly, Bostic, and Waller. The focus on Wednesday will primarily be on earnings from IBM, Tesla, and Verizon, with Fed watchers reading the Beige Book release and listening to Fed Quarles speech on the economic outlook. Thursday’s earnings include Dow, Freeport-McMorRan, a speech from Fed’s Waller and economic releases on initial jobless claims, Philly Fed Business Outlook, Leading index, and Existing home sales. Friday is all about Fed Chair Powell’s latest assessment of the economy and pricing pressures and the flash PMI readings that should show manufacturing softens slightly while the service sector ticks higher. Fed’s Daly will also talk about the Fed and climate change risk.
Euro weakness has gained momentum after disappointing economic reading from Germany and the eurozone and as inflation pressures soar to the highest levels since 2008. Next week, all eyes will be on the second inflation reading to see if price pressures are steadying. The eurozone growth outlook is one of the weaker ones in the advanced world and that may remain the case after the flash PMI readings on Friday.
Now that FX markets are quickly pricing in sooner BOE rate bets, all eyes will be on UK inflation. Pricing pressures are expected to ease slightly, but that doesn’t seem like it will dramatically change expectations that the BOE will raise rates before the end of the year.
On Friday, retail sales should see a boost as restrictions have been lifted, while the flash PMIs show the manufacturing and service activity edged lower.
The Hungarian central bank is expected to raise rates by 15basis points to 1.80%, but don’t be surprised if a larger hike is delivered or more hikes are telegraphed.
Russia is expected to raise interest rates and show that they will continue to do so until inflation eases.
Rand traders will keep a close eye on Wednesday’s inflation report. Intensifying inflation pressures will continue to support the prospect that the SARB will raise rates in November.
How low can the lira go? President Erdogan latest round of dismissals guarantees pressure for the CBRT to ease further will not be easing anytime soon. Turkey central bank Governor Sahap Kavcioglu surprised markets at the September 23rd meeting with a 100 basis point rate cut, but this time markets anticipate more rate cuts.
With the lira trading at record lows and inflation continuing to tick higher, a series of rate cuts could keep the pressure on.
China’s data is front loaded on Monday with Fixed Asset Inv, Q3 GDP and Capacity Utilization, September Industrial Production, Unemployment and Retail Sales. Arguably, Industrial Production and Retail Sales are the most important. Markets will be on edge for signs that the energy crunch, material costs, regulatory measures and weather are dampening economic growth which could send equities sharply lower.
Wednesday sees 1 and 5-year LPR decisions with no change expected. It would be a huge surprise if they cut rates. We could see a RRR cut next week though, which would be a strong positive for the local market in the short-term.
China’s energy shortages are grabbing the headlines with the government instructing state energy companies to secure supplies at any cost. That will keep energy prices supported, but any signs that the situation is worsening will again lead to selling on the main indexes.
The PBOC has subtly signaled via the USD/CNY that it is unhappy with further CNY strengthening. Although with one eye on the imported energy bill, they will not want to weaken the currency, USD/CNY will face upward pressures next week.
Evergrande has slipped from the headlines this past week, but with another China developer defaulting on a foreign debt this week, markets are only one negative headline away from sparking another sell-off in Mainland and Hong Kong equity markets.
The INR has recovered this past week, but that is mostly due to a weaker US Dollar. With reports of energy blackouts and rationing in Northern India, the currency will remain under pressure as energy importers chase prices higher for oil, gas and coal.
Markets will be affected next week by major holidays in India with no significant data except the Monetary Policy Minutes on Friday. Investors will be looking for signs that the RBI is about to shift from loose to neutral monetary policy as stagflationary indicators remain robust.
Australia & New Zealand
The AUD and NZD rallied strongly as global risk sentiment shifted to positive at the end of the week. Going forward both will continue to be buffeted by swinging sentiment shifts in overseas markets as investors try to ignore inflation and the Fed taper to keep the bull market alive.
Australia has a quiet data week but New Zealand releases Services PMI and Inflation on Monday. High readings will put another RBNZ hike on the table and could push NZD/USD sharply higher and AUD/NZD sharply lower. New Zealand’s covid situation looks set to deteriorate quickly, and I still do not rule out heightened restrictions. That is being ignored by markets for now.
Japan releases CPI on Wednesday and Inflation and flash Manufacturing PMI on Friday. Arguably, only the Inflation data will be market moving. Local markets remained tunnel visioned on the end of month election and the scale of the post-election stimulus package.
Japan equities are maintaining a high correlation to Wall Street this week. Fiscal stimulus announcements are also providing support.
USD/JPY has risen sharply to near 114.00 in the past week and more gains are likely into next week. USD/JPY is a pure US/Japan rate differential play and with rates firming in the US, and Japan low forever, USD/JPY’s path of least resistance continues to be higher. That has also scooped in AUD, NZD and GBP/jpy buying also supporting the USD/JPY higher story.
The energy crunch in China, India and Europe continues with coal and natural gas prices remaining at ultrahigh levels. Bad weather in China and India coal producing areas has further disrupted supply. Against that background oil prices will remain well supported and Brent crude could trade above $88.00 next week. Notably, Asian buyers, instead of waiting for dips as usual to buy, have been chasing prices directly higher this week, another bullish indicator.
Both Saudi Arabia and Russia have signaled that OPEC+ remains comfortable with present oil production levels and plans which has further supported prices.
That said, the RSI technical indicators are in heavily overbought territory and speculative long positioning is now very crowded in futures markets. I could easily foresee a shock $5 to $8 a barrel move lower to cull this positioning. Any sudden fall though, will be met with a frenzy of physical buyers sending it back higher just as quickly. Beware the whipsaw.
A sharp rally in gold this week as the US Dollar fell on Wednesday has sucked in the fast money momentum buyers, pushing gold to just shy of $1800.00. The 100 and 200-day moving averages are here and a weekly close could see gold move to $1830.00 in the week ahead.
A huge caveat is that despite all the noise about haven buying and inflation hedging, gold is purely an inverse correlation play to the US Dollar at the moment. If the US Dollar resumes its rally in the week ahead, the fast money will exit and gold’s gains will evaporate and send it back to $1740.00.
Bitcoin volatility will remain elevated as the SEC could decide on four bitcoin ETF’s. It is widely expected they will approve the ProShares ETF on Monday and possibly Invesco’s ETF on Tuesday. Bitcoin could see a sell the news reaction, if it seems only one ETF will start trading next week.
Key Economic Events
Saturday, Oct. 16
- ECB President Lagarde delivers the annual Per Jacobsson Foundation lecture.
Sunday, Oct. 17
- BOE Gov Bailey speaks on a panel with PBOC Governor Yi Gang and heads of the IMF and BIS at the Group of 30 International Banking Seminar.
Monday, Oct. 18
- Fed’s George and Kashkari speak at the Forum for Minorities in Banking.
- EU Foreign Affairs Council meets to discuss the bloc’s approach to the Middle East’s Gulf region.
- BOE Deputy Governor Cunliffe speaks on a panel at Banco de España’s Third Conference on Financial Stability on the topic of “Central Bank Digital Currencies and Financial Stability.”
- China Q3 GDP Q/Q: 0.4%e v 1.3% prior; Y/Y: 5.0%e v 7.9% prior; Sept retail sales Y/Y: 3.5%e v 2.5% prior, industrial production Y/Y: 3.9%e v 5.3% prior
- US cross-border investment, industrial production
- Potential SEC ruling on Bitcoin ETFs
- Canada housing starts
- New Zealand CPI
- Singapore trade
- UK Rightmove house prices
Tuesday, Oct. 19
- China’s NPC Standing Committee starts five-day meeting
- UK Prime Minister Boris Johnson hosts the Global Investment Forum
- ECB Executive Board member Panetta speaks at the 5th annual ECB-CEBRA conference.
- BOE’s Bailey speaks at the BOE and Banca d’Italia joint research conference
- Norges Bank Deputy Governor Wolden Bache to speak at Finance Norway’s housing conference.
- Swedish parliamentary hearing on monetary policy with Riksbank Governor Ingves and Deputy Governor Floden.
- Australia RBA Minutes
- Hungary Rate decision: To raise benchmark interest rate by 15bps to 1.80%
- Mexico international reserves
- Spain trade
- US housing starts
Wednesday, Oct. 20
- Riksbank Deputy Governor Jansson speaks at SEB’s autumn event
- Norges Bank Governor Olsen speaks at the Centre for Monetary Economics at the Norwegian Business School.
- Eurozone CPI
- Canada CPI
- UK CPI
- South Africa CPI
- China property prices, loan prime rates
- Japan trade
- Russia CPI (weekly), PPI
- EIA Crude Oil Inventory Report
Thursday, Oct. 21
- US Commerce Secretary Raimondo speaks at The Economic Club of New York webcast.
- EU leaders meet in Brussels
- SEC Chair Gensler speaks at Institute of International Economic Law and The Institute for Financial Markets’s DC Fintech Week.
- Five Power Defense Arrangement Defense Ministers to meet. Representatives from Australia, Malaysia, New Zealand, Singapore, and the UK to speak.
- US Conf. Board leading index, U.S. existing home sales, initial jobless claims
- Eurozone consumer confidence
- Unemployment: Hong Kong, Sweden
- Turkey central bank (CBRT) rate decision: Expected to cut rates by 50bps to 17.50%
- Russia gold and forex reserves
- Poland retail sales
- UK public sector net borrowing
- Norway sovereign wealth fund quarterly results
Friday, Oct. 22
- Canada Retail sales
- ECB Survey of Professional Economic Forecasters
- Eurozone Markit services PMI, Markit manufacturing PMI
- Bank of Italy (BOI) Quarterly Economic Bulletin
- UK Preliminary Manufacturing/Service PMIs, Retail Sales
- Germany Preliminary Manufacturing/Service PMIs
- Japan CPI
- Russia rate decision: Expected to raise rates by 25bps to 7.00%
- Singapore home prices
Sovereign Rating Updates:
- Greece (S&P)
- Italy (S&P)
- UK (S&P)
- Austria (Fitch)
- Finland (Fitch)
- Netherlands (Fitch)
- Cyprus (DBRS)
- Turkey (S&P)