MIDDAY MACRO - 2/22/2022
Color on Markets, Policy, and Geopolitics
MIDDAY MACRO - DAILY COLOR – 2/22/2022
OVERNIGHT-MORNING RECAP / MARKET WRAP
Price Action and Headlines:
Equities are lower, rallying off Sunday night’s open lows but now giving up gains that saw major indexes turn green during the European session as mixed headlines and continued geopolitical uncertainty are keeping volatility high
Treasuries are mixed, with the belly hardest hit after overnight gains reversed during the risk-asset relief rally driving the curve flatter
WTI is higher, but notably off overnight highs with the announced retaliatory Russia sanctions by the E.U. so far not being as bad as feared
Narrative Analysis:
Well, it happened just as many expected, and we highlighted last week as being the highest likely outcome (although it was a day earlier than we expected). Putin has marched his “peacekeepers” into Donbas at the request of his local cronies. Now markets await Biden’s response as the E.U. and U.K. so far have underwhelmed with retaliatory sanctions, although Nordstream 2.0 has been halted, and more actions are likely to come. Today’s domestic data in the U.S. was generally positive, with consumer confidence holding in better than expected, while Markit PMI showed a strong rebound in activity post-Omicron winter slowdown. Treasuries are currently gaining momentum as the risk-on relief rally faded, signaling more a passage of an event that drove short-covering than any meaningful change in investor sentiment. Oil is benefiting from the “invasion” despite increasing expectations for an Iran deal while the dollar is little changed on the session as the Euro’s overnight bid has fadded.
The S&P is outperforming the Russell and Nasdaq with Value, Low Volatility, and High Dividend Yield factors, and Utilities, Financials and Healthcare sectors all outperforming.
S&P optionality strike levels have the Zero-Gamma Level lower to 4504 while the Call Wall is higher to 4600. Current rallies look to be driven by short-covering, with negative reversals coming quickly due to implied vol still being elevated and the market being headline-driven. There is now a large amount of gamma support at the 4000 S&P level while resistance is at 4500.
S&P technical levels have support at 4260-50, then 4200, and resistance is at 4340, then 4375. The 4250 area was seen as key support after the breakdown of the triangle formation occurred following Russia’s invasion of Donbas, and it held overnight. Momentum has now stalled after a 90 point rally to 4350, with the VIX rising again post-NY-open. 4300 is now a critical psychological level that needs to hold for the overnight bounce to materialize into a deeper rally, or a negative head and shoulder pattern is likely to play out.
Treasuries are mixed, reversing overnight gains with the 10yr yield now at 1.94%, rising 3.3bp, while the 5s30s curve is flatter by 5bps to 39bps. Two-year breakeven rates climbed as much as 8 basis points to about 3.75%, the highest since Bloomberg started compiling the data in 2004. Traders will also be focused on this week’s auctions, which start with a $52b 2-year note sale at 1 pm today, followed by a $53b 5-year Wednesday and a $50b 7-year Thursday.
Econ Data:
Existing home sales rose 6.7% SAR to 6.5 million in January, rebounding from a downwardly revised -3.8% fall in December. It is the highest level in a year, beating forecasts of 6.1 million. Total housing inventory fell to a new all-time low of 860K units. 27% of sales were to first-time buyers, down from 30% in December and 33% in January 2021, while the all-cash purchase share rose to 27% from 23%. Individual investors represented 22% of sales in January, up from 17% in December. 79% of homes sold in January 2022 were on the market for less than a month. The median price for all housing types was $350,300, a 15.4% annual rise, up from December’s 14.7% year-over-year pace.
Why it Matters: The existing trends in place all continued. Inventory levels continue to fall, despite increased building/permit activity. All-cash and investor-orientated buyers continue to gain share over first-time buyers. “There were more listings at the upper end (homes priced above $500k) compared to a year ago, which should lead to less hurried decisions by some buyers. Clearly, more supply is needed at the lower end of the market in order to achieve more equitable distribution of housing wealth," said Yun, NAR's chief economist. We are increasingly watching D.C. for policy action to stem the level of investor activity in the housing market, but given the current gridlock and coming midterms, there is unlikely to be any action yet.
*Existing Home Sales got off to a stronger than expected start in January
*Inventory levels of existing homes are so low houses are increasingly selling unseen by cash buyers
The S&P CoreLogic Case-Shiller U.S. National Home Price NSA Index increased 18.8% annually in December, remaining the same from the previous month. The 10-City Composite annual increase came in at 17.0%, up from 16.9% in the previous month. The 20-City Composite posted an 18.6% year-over-year gain, up from 18.3% in the previous month.
Why it Matters: Housing price increases in 2021 were the highest calendar-year increase in 34 years of data and substantially ahead of 2020’s 10.4% gain. The 10- and 20-City Composites rose 17.0% and 18.6%, respectively, a record for the 20-City Composite, and the second-best year ever for the 10-City Composite. “We have noted that for the past several months, home prices have been rising at a very high, but decelerating rate. The deceleration paused in December, as year-over-year changes in all three composite indices were slightly ahead of their November levels,” said Craig J. Lazzara, Managing Director at S&P DJI.
*2021 was a record-breaking year but also likely the peak in the price appreciation rate is currently occurring
The IHS Markit US Composite PMI rose to 56.0 in February, from an 18-month low of 51.1 in the previous month. New business growth among private sector companies was the fastest in seven months. “Firms mentioned that sales were boosted by the retreat of the pandemic, improved underlying demand, expanded client bases, aggressive.” Employment expanded further, taking the current sequence of job creation to the strongest pace since last May. On the price front, inflationary pressures across the private sector rose. The rate of input price inflation quickening from January’s ten-month low mainly due to higher raw material, transportation, and wage costs. Prices charged for goods and services rose at a record pace as companies continued to push on the cost increases to end consumers
Why it Matters: February’s data showed a positive bounce back on the growth front but no progress regarding inflationary pressures. Omicron had a modest impact on order books and future output expectations improved to the highest level in 15 months. Job growth accelerated to the highest level since last May. “The service sector rebounded especially impressively, accompanied by a more muted upturn in manufacturing. Goods producers remain hamstrung by supply shortages which, although easing to the lowest since last May, continued to severely limit production growth, resulting in a further large rise in backlogs of work,” said Chris Williamson, Chief Business Economist at IHS Markit.
*The service sector accelerated more than manufacturing while inflationary pressures intensified in February
The Conference Board’s Consumer Confidence Index fell to 110.5 in February, down from 111.1 in January. The Present Situation Index improved to 145.1 from 144.5 last month, while the Expectations Index declined to 87.5 from 88.8. The proportion of consumers planning to purchase homes, automobiles, major appliances, and vacations over the next six months all fell. Concerns over inflation rose again after back-to-back declines in previous months.
Why it Matters: Consumer confidence fell slightly for a second consecutive month, but the contrast between the present and future index shows a consumer relatively confident about the short-term growth situation. Consumer’s views on current business conditions and labor market were mixed, with both those that saw good and bad conditions falling. Consumer confidence will likely be range-bound at current levels until inflation meaningfully falls given the strength of the economy and labor market.
*The Present Situation readings continue to plateau while future expectations worsened slightly.
Policy Talk:
Chicago Fed President Charles Evans gave a published speech at the Initiative on Global Markets at the University of Chicago Booth School of Business last Friday. He noted that policy was currently “wrong-footed” but highlighted the sources the strong price increases may be different from more typical cyclical inflation episodes of the past. Evan believes, “the (current) inflation path certainly didn’t follow the hallmark characteristics of the Friedman–Phelps narrative or many other models in which monetary accommodation slowly generates inflation.” He noted inflation appears to still be well anchored at levels consistent with the Fed’s average 2 percent objective, meaning no “extra monetary restraint to bring trend inflation” down is needed. Interestingly, he talked about how financial regulation is the primary tool for addressing financial stability, and there should be no third mandate added. Echoing remarks by Waller, he highlighted how a “hot economy” had provided added improvements in unemployment for groups that generally experience worse labor market outcomes. He concluded by saying it “appears that inflation is due more to real-side factors, which relative price signals should eventually correct than to persistent nominal monetary phenomena.”
*“Even with the recent spike, the price level today is still 2-3/4 percent below a 2 percent trend line starting at 2007, when I got the job.” - Evans
New York Fed President John Williams gave prepared remarks at New Jersey City University last Friday. He continues to believe the sharp rise in prices reflects a unique set of circumstances that have driven supply and demand out of balance. He highlighted that “with the labor market already very strong, it's important to restore the balance between supply and demand and bring inflation down. A number of factors should help accomplish this rebalancing, and monetary policy has an important role to play.” As a result, he is in favor of starting the process of “steadily moving the target range back to more normal levels.” He noted that although the Fed has yet to do this, financial conditions have already tightened in response to expectations of their coming actions. He believed that assets sales in the near term were not warranted as his forecast was for inflation rates to return to 3% by the end of this year and fall further next year as “supply issues continue to recede.”
*“I don’t see the need for asst sales in the near term because the Fed can quickly reduce its balance sheet through runoff.” - Williams
Governor Christopher Waller delivered comments on a recent paper titled “Some Benefits and Risks of a Hot Economy” put out by a few notable economists from academia and the sell-side. The paper and Waller’s comments showed that running the economy hot helped racial differences in employment narrow, specifically for black and Hispanics. However, the benefits were far less regarding gender and education differences. Waller summarized that the data showed that when looking at unemployment trends, race matters, the trend was improving, and there are cyclical responses to recessions where differences in racial unemployment ratio worsened.
*Given the “full employment” mandate takes racial unemployment differences into account, it is important to understand Fed thinking here
Governor Michelle Bowman gave prepared remarks at the American Bankers Association Community Banking Conference yesterday. She delivered thoughts on her outlook for the economy and policy. She believes inflation will moderate throughout the year but sees a now higher risk it will persist longer than initially expected. Regarding the labor market, she noted that the Omicron surge “had not left a negative imprint on the economy or slowed job creation.” As a result, the current conditions have met the FOMC’s goal of maximum employment. Turning to inflation, she believes that monetary policy isn’t well-suited to address its current causes, which is supply chain disruptions. However, with tight labor markets and strong demand, monetary policy should not be at extraordinary accommodative levels. As a result, she supports raising the federal funds rate in March and will be watching the data to judge the appropriate size of the increase as well as how to proceed with the reduction of the Fed’s balance sheet. She ended her remarks by highlighting work the Fed had done regarding central bank digital currencies, noting that a discussion paper had been issued and inviting public dialogue.
TECHNICALS / CHARTS
Four Key Macro House Charts:
Growth/Value Ratio: Value is higher on the day and the week. Large-Cap Value is the best performing size/factor on the day.
Chinese Iron Ore Future Price: Iron Ore futures are higher on the day and week. China’s new home prices rose on the month in January for the first time since Sept, with large cities seeing faster improvement
5yr-30yr Treasury Spread: The curve is flatter on the day and week, with belly supply coming this week
EUR/JPY FX Cross: The Euro is higher on the day and the week, as the reaction to the Donbas invasion has been limited
Other Charts:
Investors continue to load up on puts and selling of calls as investor sentiment further deteriorates
Inflation is beginning to erode gains in “real’ good spending, moving the post=pandemic gains back towards the longer-term growth trend
As we often highlight when looking at business surveys, IT Capex spending continues to increase as firms rush to fight cost increases
Driven by energy and aggs, the Bloomberg commodity spot index continues to hit new highs
Q4 ’21 showed some increase in CAPEX by the oil majors, but below what has historically occurred at the current oil price
Gold exports out of Switzerland to China surged to their highest level since December 2016
ARTICLES BY MACRO THEMES
MEDIUM-TERM THEMES:
Real Supply-Side Improvements:
Blue Yonder’s research found an overwhelming majority (83%) of organizations have increased investment in the supply chain over the last 12 months, with 1 in 10 organizations (11%) investing more than $25 million. When asked about how they invested budgets, 86% of organizations invested in technology, followed by developing new skills and defining a new supply chain strategy (60%). Interestingly, over half of the organizations (58%) also invested in the sustainability of the supply chain.
Why it Matters:
The situation now is more stable, though there’s not much clarity on what comes next, says Wayne Snyder, Blue Yonder’s vice president of retail industry strategy in EMEA. “Supply chain issues are getting better, labor is getting better, people are getting used to it and have found lots of workarounds,” he says. “Now they’re starting to focus on the things that are more systemic.” The bottom line is the investments being made today will reduce future problems/bottlenecks, and as the demand for goods returns to a more historical norm, logistical prices should begin to fall.
LONGER-TERM THEMES:
National Security Assets in a Multipolar World:
How China Beat Out the U.S. to Dominate South America - Bloomberg
Chinese technology and money have helped build one of Latin America’s largest solar energy plants in Jujuy, where hundreds of thousands of panels coat the desert-like giant dominoes. Chinese security cameras guard government buildings across the provincial capital. Servers hum in a Chinese data storage plant. Beneath the remote, craggy hills and vast salt lakes lie veins of copper, lithium, and zinc, the raw materials of 21st-century technology—including Chinese-made electric-car batteries.
Why it Matters:
It’s no secret that China has been pouring resources into South America this century, chipping away at the U.S.'s historic dominance and making itself the continent's No. 1 trading partner. Instead of focusing on national leaders, China and its companies have built relationships from the ground up. In 2019 alone, at least eight Brazilian governors and four deputy governors traveled to China. This trend is an important one to watch as China’s soft power is falling in other places like Africa.
Commodity Super Cycle Green.0:
Carl Icahn launches board fight at McDonald’s over treatment of pigs – FT
McDonald’s said Carl Icahn had nominated two board directors as part of a campaign related to “a narrow issue regarding the company’s pork” processing. Icahn has asked McDonald’s to require that all its U.S. pork suppliers end the practice of keeping pregnant pigs confined in small crates. McDonald’s expects by the end of 2022 to source 85 to 90% of its U.S. pork from sows no longer confined to stalls and to completely eliminate the practice from its supply chain by the end of 2024.
Why it Matters:
Although the true motives of Icahn are unclear given his ownership of other companies that may be in violation of “Humane Society” standards, it is worth highlighting the development given the size of McDonald’s footprint. The extraction/development/growth of hard and soft commodities will have to be increasingly ethical moving forward. The true super cycle underway is not only just a green revolution but also the other two letters, Social and Governance, for a more ESG supercycle.
Global gas rally to kickstart long-stalled U.S. LNG projects - Reuters
High global natural gas prices are breaking a two-year logjam of new U.S. LNG projects, with at least three of the multibillion-dollar proposals likely achieving enough supply contracts to start construction this year, said developers and industry experts. Europe's declining gas production and increased dependency on Russia for its supplies increased demand from other sources and prompted the development of new LNG plants in the United States and Asia. Also, in November, top Chinese energy companies agreed to buy more U.S. gas than ever before through long-term contracts after demand over the previous years was hurt by tariffs from the trade war.
Why it Matters:
Long-term contracts are crucial to winning financing for these $4 billion to $8.5 billion projects and breaking the development logjam, said Carlos Sole, an attorney at law firm Baker Botts who has been involved in the development and financing of multiple U.S. LNG export projects. “The banks are finally realizing that this is an existential issue,” said Tellurian Executive Chairman Charif Souki, referring to the recent lack of energy investments. The bottom line, although capital allocation plans for oil companies still favor shareholder returns, the natural gas industry is increasing capital expenditure plans thanks to longer-term contracts with Europe and China.
Current Macro Theme Summaries:
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