In the days following last week’s Fed meeting, we’ve seen the markets mostly hanging on to gains but making only minor progress beyond that. The two asset classes that have perhaps been performing the best recently are long-term Treasuries and the dollar. The latter, of course, is benefiting from a strong and steady U.S. economy that continues to outperform the rest of the world, but also due to the now uncertain climate surrounding the yen. Powell’s pushing the three rate cut narrative should have weakened the dollar, but it actually picked up as no further rate hike plans by the BoJ coupled with additional JGB buying started spreading the idea across the markets that the situation in Japan may be worse than feared.
I still maintain that the Fed’s position that three cuts are still on the table despite economic activity remaining robust and inflation data actually ticking higher is an acknowledgement that it may be positioning itself early for a global downturn. With similar messaging coming from Europe (the Swiss National Bank actually made a surprise quarter-point rate cut last week), the “all hands on deck” approach to inflation control worldwide seems to have pivoted to a global consensus of “we need to save the economy”. Most major developed economies still have inflation rates well above central bank targets and some of them are moving higher again. The fact that there’s such unanimity right now in the idea of loosening monetary policy conditions at this time suggests that someone knows something that they’re not saying out loud yet.
In terms of the here and now, investors seem willing to use the Fed’s dovish message as the impetus for further risk-on positioning. The VIX and high yield spreads both remain incredibly low and are likely to create little headwind in the short-term. Commodities prices are still on the rise, especially on the agriculture side, and that supports the idea that the reflation trade is in control here. One area that remains a red flag is retail. These companies have been warning about deteriorating consumer conditions for several quarters and we keep getting more of them even as we keep hearing about how strong the economy is. Warnings from both Nike and Lululemon last week highlight that this isn’t really the case. Retail gets down to the core of how confident consumers are in spending their cash and this is telling us that confidence is still struggling. You may argue that these are specialty retailers who may not represent the entirety of the consumer base, but we’ve gotten similar messages from companies, including Walmart, Target, Lowe’s and Macy’s. They’re all seeing signs of a consumer that is struggling and rising credit card debt and default levels are confirming this.
Even though riskier assets have rebounded over the past week, utilities and Treasuries are still holding up here. Gold is turning a bit more volatile, but is also holding on to its recent gains. As central banks continue to confirm their easing plans over the next few months, I suspect that gold will continue attracting interest, not just because of lower yields but also because of the emergence of the safe haven trade. A reflationary environment should be negative for traditionally risk-off assets, but we really haven’t seen that yet post-Fed meeting. I think that investors, despite their outward bullishness, may be realizing that there are some underlying concerns with how central banks are handling the current situation that could turn things south pretty quickly.
Keep reading with a 7-day free trial
Subscribe to The Lead-Lag Report to keep reading this post and get 7 days of free access to the full post archives.