MIDDAY MACRO - 10/1/2021
Daily Color on Markets, Policy, and Geo-Politics
MIDDAY MACRO - DAILY COLOR – 10/1/2021
OVERNIGHT/MORNING RECAP & MARKET ANALYSIS
Narratives/Price Action:
Equities are higher, with indexes now near session highs after hitting new (recent) lows overnights and falling post-NY-open despite better than expected economic data
Treasuries are higher, with the curve significantly steeper on the day following this mornings PCE inflation data
WTI is higher, as a build in U.S. inventories this week was offset by larger drawdowns in Europe and Asia, while China’s “buy it all” mantra continues to drive sentiment more generally.
Analysis:
Declines in the dollar and yields today, along with better-than-expected consumer data and progress from Merck on Covid defense, are now supporting a bounce in equities after a volatile overnight/morning, with re-opening/reflationary sectors/factors outperforming. At the same time, the 5s30s curve is having its largest steepening day since spring.
The Russell is outperforming the S&P and Nasdaq with Small-Cap, Value, and High Dividend Yield factors, and Energy, Communication, and Financials sectors all outperforming.
S&P optionality strike levels have the zero gamma level at 4408 while the call wall is at 4500. The current sizeable negative gamma position forecasts large volatility swings. This should continue until/unless the S&P recovers 4400. The technical levels have support at 4305 and resistance at 4335, then 4355.
Treasuries are higher, with the 5s30s curve steeper by 5bps as qtr/month-end flows into the long-end yesterday have subsided while the belly is well bid following this morning’s PCE inflation data.
Econ Data:
Personal Spending in the US rose 0.8% MoM, rebounding from a 0.1% drop in July and beating market forecasts of a 0.6% gain. The increase was driven by higher spending on Nondurable goods as real personal consumption expenditures on Durables were negative for the fifth month in a row, while service spending decreased to 0.3% from 0.7% last month. Personal Income rose 0.2%, following a 1.1% advance in July and slightly missing market expectations of a 0.3 percent gain. Wage gains and child tax credits overcame declines in unemployment insurance. The PCE price index monthly change stayed at 0.4% (4.3% YoY), driven by increases in cost for goods (0.6% vs. 0.4% in July) while services declined slightly. Core PCE increased 0.3% MoM, beating expectations of a 0.2% increase and moving the annual rate to 3.6%.
Why it Matters: Consumer spending came in stronger than expected in August, reinforcing our view that demand will continue to be strong into the holiday season despite higher prices, allowing greater pricing power by producers/retailers. We continue to believe that we are seeing peak supply-side/inflation fears, and the risk/return skew favors positions that benefit from a more robust 4th quarter (and 1H of next year) than expected. We also take comfort in the number of sell-side research reports calling for stagflation coming out this week, a view we had for some time but now believe is moving forward into the second half of 2022 and early 2023 as pent-up demand continues to be pushed forward due to the pause in the re-opening (due to Delta) over the summer and continuation of shortages (goods and services) more generally. The bottom line, households are eager to spend, the reopening is still picking up pace, supply-side impairments will diminish as there is money to be made (and capitalism finds a way). Inflation will persist, but at a diminished rate, slowing before a more structural pulse takes hold throughout the next year.
The ISM Manufacturing PMI in the United States increased to 61.1 in September 2021, up for a second straight month and above market expectations of 59.6. The latest reading signaled one of the strongest rates of expansion since 1983, boosted by solid increases in production (59.4 vs. 60.0 in August) and new orders (66.7, the same as in August), as well as a slight rebound in employment levels (50.2 vs 49.0). At the same time, they continue to experienced longer delays getting raw materials delivered and paid higher prices for inputs (81.2 vs. 79.4 in August).
Why it Matters: A better-than-expected headline print and continued optimistic future outlook but a continuation of the negative supply-side disruption themes we all know so well by now. Panelists reported that their companies and suppliers continue to deal with an unprecedented number of hurdles to meet increasing demand. Global pandemic-related issues (worker absenteeism) continued to cause short-term shutdowns due to shortages. There continue to be difficulties filling open positions, limiting manufacturing growth potential (on top of material shortages). However, optimistic panel sentiment remains strong, with three positive growth comments for every cautious comment. Panelists are entirely focused on supply chain issues in order to respond to the ongoing high levels of demand. Demand expanded, with the New Orders Index growing, supported by continued expansion of the New Export Orders Index while Customers’ Inventories Index remaining at very low levels, and the Backlog of Orders Index staying at a very high level. The bottom line, either you believe things will improve, or you don’t, that is essentially driving markets currently, with this week's price action generally a vote of no confidence.
The University of Michigan's Consumer Sentiment increased to 72.8 in September from a preliminary of 71 and above August’s 70.3. The current conditions gauge climbed to 80.1, up from 78.5 last month. Expectations increased to 68.1 compared to August’s 65.1. Meanwhile, inflation expectations for the year ahead were unchanged at 4.6%, while the 5-year outlook rose to 3% from 2.9% in the prior month.
Why it Matters: There was a slight improvement in the second September reading out of the University of Michigan. Consumers do not (yet) view economic conditions as conducive to establishing inflationary psychology. Instead, they continue to view the recent increases in prices as temporary, reinforcing a weakness in “favorable buying attitudes,” which saw a small further decline due to complaints about higher prices for homes, vehicles, and durables, all of which were already near all-time lows. Further, only 18% expected income gains to outpace expected inflation showing a weakening in future real purchasing power expectations. Finally, there was an improvement in the sentiment of Independents and Republican survey respondents while Democrats decreased, what you would expect given the continued drop in Biden’s approval ratings.
Policy Talk:
There was a significant amount of Fed officials speaking this week, which was expected following the blackout period leading into September's important meeting. Following Monday's “Dovish Treo,” we heard from Bowman, Bostic, Harker, Daly, and Kashkari (several multiple times). Also, Chairman Powell and Treasury Secretary Yellen gave Congressional Testimony, a productive exchange of ideas between Congressional members and our government's financial leaders as always. Although we don’t have the space/time to give each of the speeches their fair analysis, we do want to highlight that despite the all but done consensus on tapering and increased expectations for the first-rate hike to be at the end of 2022, there is still a good amount of division on outlook between members. As the smoke clears and we have additional time to divide and conquer the various camps, we will bring forward a matrix/framework to help track the upcoming changes in leaders, voters, and outlooks.
TECHNICALS / CHARTS
FOUR KEY MACRO HOUSE CHARTS:
Growth/Value Ratio: Value is outperforming on the week, with the value factor higher again today as the reflationary/reopening trade is outperforming
Chinese Iron Ore Future Price: Iron Ore futures are higher on the week, as the recovery in prices continues today (+6%) on the change in Beijing energy policy stance
5yr-30yr Treasury Spread: The curve is steeper on the week and having an outsized move today thanks to better data and the beginning of a new quarter
EUR/JPY FX Cross: The euro is weaker on the week, but all eyes have been on King Dollar, with DXY hitting recent highs yesterday
HOUSE THEMES / ARTICLES
MEDIUM-TERM THEMES:
Real Supply Side Constraints:
Re-Shoring: Covid-19 Factory Closures Prompt Some U.S. Businesses to Rethink Vietnam – WSJ
That rush toward factories in Vietnam is rapidly slowing down. Strict lockdowns to contain a Covid-19 wave in the largely unvaccinated country have crippled supply chains there. Companies including Nike and Lululemon Athletica have shifted production to other countries, and that some businesses are rethinking their growing reliance on Vietnam.
Why it Matters:
Jonathan Moreno of the American Chamber of Commerce in Vietnam says companies are realizing “you can’t be vulnerable to one country from a supply-chain standpoint.” The longer the disruption to the global supply chain lasts, the higher the probability that companies will re-regionalize their needs. This is a multi-year transition but will likely benefit countries like Mexico and Central America or Eastern Europe, where labor and capital can be deployed closer to end markets efficiently.
China Macroprudential and Political Tightening:
Blackouts Won’t Be Tolerated: China Orders Top Energy Firms to Secure Supplies at All Costs – Bloomberg.com
The order came directly from Vice Premier Han Zheng, who supervises the nation’s energy sector and industrial production, and was delivered during an emergency meeting earlier this week with officials from Beijing’s state-owned assets regulator and economic planning agency. In a sign of how worried Chinese officials are, Premier Li Keqiang has vowed that every effort will be taken to maintain economic growth.
Why it Matters:
The emergency meeting underscores the critical situation in China. A severe energy crisis has gripped the country, and several regions have had to curtail power to the industrial sector, while some residential areas have even faced sudden blackouts. This abrupt change in policy increases our conviction that Beijing will now increasingly pivot to a more macro accommodative stance while likely reducing their “Common Prosperity” crackdown.
LONGER-TERM THEMES:
National Security Assets in a Multipolar World:
Rare Demand: China boosts rare-earth quota 20% to shield supply chain from U.S. – Nikkei Asia
China will raise this year's quota on the production of rare-earth metals by 20%. The latest move was made in response to the political situation in Myanmar, which exports rare earths to China. Beijing also seeks to avoid importing rare earths from Australia due to tensions with the trade partner. China's mounting domestic demand factored into the decision as it continues to promote EVs and other tech initiatives.
Why it Matters:
This increase by Beijing marks the fourth straight year the quota has been increased, now reaching the highest level on record. China is the source of 60% of the world's rare earths. Investment elsewhere is increasing, but new secure supply sources are still limited due to the regulation of both extraction and refinement. We expect continued/more support from governments here as it is the definition of a national security asset.
Commodity Super Cycle Green.0:
Going Dark: Gas Crisis Hits Food as Giant Dutch Greenhouses Go Dark – Bloomberg
Skyrocketing power prices are forcing the vast network of Dutch glasshouses (the continent’s biggest) to go dark or scale back, threatening to cut supplies at Europe’s fruit and vegetable stalls and flower shops. Although small, the Netherlands is the world’s second-largest exporter of food by value, thanks to its high-yielding glasshouses.
Why it Matters:
Energy accounts for up to 30% of the costs for most glasshouse crops, says Glastuinbouw Nederland, and a large portion of the gas supplies used are purchased at spot prices. Benchmark Dutch natural-gas futures have climbed five-fold since the start of the year, toppling prior records. “Eventually, you will produce less,” said Erwin van der Lans, operational director. “That is starting now. Our production is now cut by about 10%, that may go to 20%. Eventually, the customers, little by little, will start paying more.”
Fire and Ice: The Country That Makes Breakfast for the World Is Plagued by Fire, Frost, and Drought – Bloomberg
The farms that dot Brazil's vast plains and highlands produce four-fifths of the world's orange juice exports, half of its sugar exports, a third of coffee exports, and a third of the soy and corn used to feed egg-laying hens and other livestock. So when the region’s crops were scorched and then frozen this year by a devastating one-two punch fueled by climate change — the worst drought in a century followed by an unprecedented Antarctic front that repeatedly coated the land in thick frost — global commodity markets shook.
Why it Matters:
The price spikes are contributing to a surge in international food inflation (a U.N. index has jumped 33% over the past 12 months) that's deepening financial hardship in the pandemic and forcing millions of lower-income families to scale back grocery purchases across the globe. What’s more, the episode is sending an ominous warning of what’s to come as scientists anticipate rising global temperatures and declining soil humidity will increasingly wreak havoc on farmlands in Brazil and much of the rest of the world. This will all lead to greater social instability and a further rise in populist politics.
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