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The Weekend Edition # 136 - Will the Fed lower their forecast for rate cuts?

Market Recap: A Lot of Chop; Macro: Fed Preview; Closing Thoughts: Be careful of the frenzy

Welcome to another issue of the Weekend Edition!

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Here's what we cover

Market Recap - A lot of chop

June 03 - June 07, 2024

Markets this week were anything but predictable. We have a bit of everything and a lot of choppiness. Nvidia crossed the $3 trillion mark and took the Nasdaq-100 to an all-time high. Meanwhile, the Russell 2000 small cap index didn’t fare too well given the uncertainties surrounding growth, inflation, and unemployment.

With the ISM Manufacturing missing expectations, the market is now pricing in further growth weakness and so are bond yields. Prices paid continue to push higher, and the market remains confused about when the Fed will cut rates.

As far as markets are concerned, it would seem like other than the mega-cap tech and meme stock rally, most stocks are pricing in the prospect of stagflation and a much, much shallower easing cycle.

The other big news across the globe this week were election result from South Africa, Mexico, and India. While not many surprises, other than India to some extent, their markets did not take the results well. We saw severe drawdowns across these markets as the uncertainty started to take over. Markets in India have recovered but, Mexico and South Africa are still struggling.

Fun week ahead: We have CPI and the Fed on Wednesday! PPI comes out on Thursday and Friday brings us Michigan Sentiment data.

Commodities

Most commodities had a relatively tough week. After the OPEC+ announcement of gradually rolling back cuts from Q3, crude oil hasn’t been able to find its footing, falling to a 4-month low.

Copper pulled back on news of China’s stockpiles. China's copper inventories are growing unexpectedly during a period when they usually decline, highlighting demand concerns in the world's largest market. Last week, stockpiles in Shanghai Futures Exchange warehouses exceeded 300,000 tons, the highest for any end-of-May on record. Typically, inventories peak in March and decrease as factories increase activity heading into summer.

Signs of a good crop in the US have moderated wheat prices since late May, but global stockpiles are still expected to hit a nine-year low. This should be one to watch. Russia's dry weather and late frosts in key growing regions have triggered a global price rally, with analysts reducing their 2024 harvest estimates by over 10%, causing the largest monthly price surge since the invasion of Ukraine. Growers in Ukraine and other parts of Europe are also struggling, according to Bloomberg.

Some of the charts in the recap section have been sponsored by Koyfin. We have a special discount of 15% for MacroVisor readers for any new sign-ups to Koyfin. To take advantage of this promo please sign up here - Koyfin MacroVisor Discount

Macro - The Fed Preview

The ECB went ahead and reduced their rates by 0.25% on Thursday, in what was a hawkish cut. They’re now projecting that inflation will not hit their 2% target until 2026, and the messaging is certainly one of caution. We may not get another cut until December. This may even be the case for the Bank of Canada, as they also cut their policy rate by 0.25% on Wednesday.

These easing cycles, or more appropriately called “normalization” cycles will be anything but normal. I don’t think any of these central banks are completely convinced that they have a handle on inflation just yet and what they’re doing are insurance cuts to make sure that the economy doesn’t fall into a recession.

Which brings us to the FOMC Preview for the week.

The Fed is expected to hold rates - no surprise there. What everyone will be watching is the Summary of Economic Projections and the possible changes.

The major focus will be on the Dot Plot and the possible rate cuts for the year. Consensus is leaning towards a change to 2 cuts instead of 3. With the new set of projections, we may see the Summary of Economic Projections revised upward for both inflation and unemployment, giving them the leeway to hold rates higher for a bit longer. We may see growth projections revised downward, but not enough to signal a recession.

We ended Friday with an odd unemployment report. The Nonfarm Payroll report came in much higher than everyone expected. The highest call was from Morgan Stanley at 220k, while the general consensus was 170-180k. The actual number came out at 272k.

The unemployment number, on the other hand, hit the 4% mark, which is the Fed’s projection for unemployment in 2024. But, I doubt one reading will make the Fed think about cutting rates. But with Job Opening coming down to the 8 million mark as well, the labor market is definitely getting back into better balance, and we’re probably closing in on the level where the Fed can start thinking about cutting rates, bearing in mind this is the one data point that may move them to start easing. But, we’re not there yet.

The Fed started becoming dovish too soon - in December and that ushered in a period of easier financial conditions, unleashing animal spirits in the market. In many ways, we started a new credit cycle before an easing cycle even began. And now, they’re having to pull back on that view.

Then again, keeping the policy rate at this level is helping the US Treasury sell its short-term bills. How else are they supposed to attract people away from money market funds? There is no term premium to speak of at the long end and locking in that interest rate is not beneficial. While the interest bill is mounting and the Fed is running at a loss with a huge sum of money owed, the economy seems to be running, for now.

With Q1, 2024 GDP Growth being revised down to 1.30%, the market has now started to talk about a “Fed Accident”, i.e., something will break or the economy will slip into a recession. Again, it’s still too early to make that call. But, cutting before inflation is under control will probably be the bigger accident.

Paul Volcker - Keeping At It

Chair Powell should express some concerns this time around. He’s been awfully dovish for a while now. Perhaps it’s because he thinks he’s got the situation under control or perhaps he thinks he need to “Keep Calm… so nothing breaks”. Too hawkish, with interest rates held at this level could see the market sell-off, bond yields surge back above 5%, and, in the worst case, a credit event. So what we see as dovish is probably more balanced in his mind, in order to maintain world order!

Articles of the Week

Closing Thoughts - Be careful of the frenzy

With the FOMC being the main event in the coming week, markets are likely to be somewhat choppy again. The consensus is pricing in hawkish projections as we’ve just covered and a possible reduction in rate cuts for the year. So, if the Fed doesn’t change that, we’re likely to see the market surge once again, to all-time highs.

In the meantime, the micro is playing quite the part. From Nvidia’s new announcements to the meme stock rally, we’re seeing a lopsided market. While the Mega Cap tech names may still be somewhat stable, the meme stocks are not, and caution is definitely warranted. I’m all for people making money on trades, but with volatile trades like Gamestop, always put in stop losses. We saw what happened on Friday. The stock surged and then when Roaring Kitty started streaming, the stock all but crashed.

As more people crowd into these meme stock trades, hedge funds and dealers have to balance their trades. Most hedge funds are short these names, so they start selling other longs to balance out the trades. So we want to be careful when there’s a frenzy in the market like this. And with major events such as the Fed, there will also be hedging into the event and as traders remove their hedges after the event, we’re likely to see volatility decline.

Smaller positions and risk management is always a good idea at times like these.

Have a great week ahead!

Sincerely yours,

Ayesha Tariq, CFA

There’s always a story behind the numbers.

Calendars

US Earnings Calendar

US Economic Calendar in Eastern Time (Source: Trading Economics)

None of the above is Investment Advice. I may or may not have positions in any of the stocks or asset classes mentioned. I have no affiliation with any of the companies other than explicitly mentioned.

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