I have adopted the position that when a central bank allows its government to overspend and abuse its currency, something has to give. You could say this is one of the unwritten laws of fiat currencies. Time and time again history has proven this to be true and it is the reason many people claim gold is the only true form of money that cannot be corrupted. In a world where everything seems subject to manipulation, this claim about gold is still up for debate.
The overspending by governments coupled with inflation has really started to affect the perceived value of currencies in relation to other currencies. As these relationships break the losers are the people holding the de-valuated currency. Of course, many factors feed into how we value a currency but the crux of this article is not about whether a currency is over or undervalued but rather what a country must do to defend its value if it comes under attack.
Brent Johnson of Santiago Capital is credited with coining the term the “Dollar Milkshake Theory.” It explains how our debt-based monetary system can cause the US Dollar to rise despite the increasing liquidity injections around the world. Whether this was a “grand master plan” or a situation that just developed over time, it is something that may bode well for the dollar. Johnson recently took part in a discussion that included subjects such as the future price of oil, housing, and the probability of a huge global huge recession.
Johnson conveys what many of us see as a truth that haunts fiat currencies. This is rooted in the fact that when the value of a currency falls, a country and its central bank cannot save both its currency and its bonds. In his “slightly edited” words;
“The problem is you cannot, and this is for every country, the US included, again, there’s a progression in how it’ll go, but you cannot save both the bond market and the currency market because they work at cross purposes. Whatever you do to save the bond market hurts the currency. Whatever you do to save the currency hurts the bond market. And every central bank in history has promised they won’t sacrifice the currency, and every central bank in history has ultimately sacrificed the currency.
And the reason they always choose the currency over the bond or the reason they always choose to sacrifice the currency over the bond market is for two reasons. One, the currency affects the citizens more than the government, and the bond market affects the government more than citizens. So they’re going to bail themselves out before they bail the citizens out. And the second thing is if the bond market blows up and the banking system blows up, there is no longer a distribution system for the government to raise money.
So they can’t let the bond market blow up because then they can’t get money anymore. And then if they can’t get money, they can’t operate. So this is a very long way of saying that I understand why the market moved the way it did. I think maybe in the short term it makes sense, but in the medium to long term, it doesn’t make any sense to me at all. Again, kind of watch what they do, not what they say.”
He later added “The problem, as we’ve kind of figured out and found out that it’s very hard to just get four for four or 5% inflation. It goes from 2% to 12% pretty quickly. They don’t have as much control as they think they do, right? And the problem with four or 5% inflation, you can kind of get away with it because it’s annoying and it is frustrating, but it’s not totally ruining your life. But with 8, 9, 10, 12, 15, 80% inflation, that starts to ruin the pledge life, as you mentioned. And that’s when they start to push back from a political perspective. And that’s what central banks and governments don’t want. They don’t want the populace revolting”
When you think about the true motivators driving this “system,” it is logical the government and central banks would throw the populace under the bus. This is about their survival. As to the question of equal pain, those in power justify taking raises to offset the impact of inflation under the idea we “need them” to steer things forward for the “greater good.”
While Johnson’s remarks were aimed at what is most apparent in the actions of Japan, this truth is problematic to all fiat currencies. For more on the Dollar Milkshake Theory see;
With stronger inflation data suggesting that the Federal Reserve will continue with their hawkish stance, what then does this mean for markets? And will inflation be exacerbated by the potential rail strike. Tony Nash, CEO of Complete Intelligence tells us whilst diving into the impact of a strong greenback.
Produced by: Michael Gong
Presented by: Wong Shou Ning, Shazana Mokhtar
Good morning. You are listening to the Morning Run. 7:06 am. On Thursday, the 15 September. I’m Shazana Mokhtar with Wong Shou Ning. In half an hour we’re going to be speaking to criminal lawyer Srikant Pillay on the criminal defamation charges filed against the edge. But as we always do, let’s kick start the morning with the recap on how global markets closed yesterday.
It’s the tale of two halves because the US markets all closed up in the green. The Dow was up 0.1%, S&P500 up 0.3%, and Nasdaq was up 0.7%. Albeit actually it was a very choppy trading session with US stocks actually sometimes swinging violently between gains and losses throughout the day. Meanwhile, in Asia, it all closed in the red. Nikkei was down 2%, Hang Seng down two 5%, Shanghai was down 0.8%. Straight Times Index in Singapore down 1%, while our very own FBMKLCI was down 1.3%.
So first, some thoughts on where international markets are headed. We have on the line with us Tony Nash, CEO of Complete Intelligence. Tony, good morning. Thanks as always for joining us. Now, we saw equities plunged this week in response to worries over US CPI numbers. But if we take a closer look at the numbers itself, headline inflation only rose about a .1% month over month, which doesn’t seem like a lot. Do you think markets are over reacting and making much ado about nothing?
Well, kind of. But what’s really happened is it’s about expectations for the terminal rate, which is basically the terminal rate is when does the Fed have to stop hiking at what rate? Right? So the terminal rate expectations change from 4% to about 4.3%. And with that expectation, that means that the Fed would have to hike more and maybe hike faster. So investors were reacting to that because consensus had become 75 basis point hike in September, then two more 50s before the end of the year, and then maybe a 25 and boom, we’re at the terminal rate. But with a rise in the terminal rate, we could have a 75 in Sep, 75 in October, and then who knows after that if inflation doesn’t slow down. Now, what I see and what you mentioned is a zero 1% rise month on month in August. That tells me that the rate of rise of inflation is slowing. So on a year on year basis it still looks bad, but the rate of rise of inflation is slowing. That’s good news. Okay, let’s see what happens. And we could have some positive unexpected things like, let’s say for example, the Russia Ukraine war ends or something like that, right?
But what I’m expecting are things like a continued deceleration of inflation. It doesn’t mean we’re going back to pre 2020 pricing levels, it just means that the rate of inflation is slowing and spenders get used to paying higher prices over time.
So, Tony, what then is your feel in terms of what the Fed will do at their meeting next week? Are you expecting a 75 basis point hike? I even hear some houses saying a 100 basis point hike.
Yeah. So I think there’s a 20% to 30% likelihood of 100 basis point hike. And everyone loves to kind of freak out about the Fed. So it’s possible that we have 100 basis point hike. I think what they’ll end up doing is hiking 75 and they’ll try to sound really bearish about things or sorry, not bearish, really hawkish about things. That’s what I meant to say. So they’ll hike 75. They’ll basically say, if you don’t slow down, we’re going to hike more, and then there’ll be another 75 where we hit expected or where the market generally hit expected at 50 for the next meeting.
Two year US treasury yields continue to spike, worsening the inversion that already existed prior to this. In what time frame can we expect to see some equilibrium return to fixed income markets?
Yeah, I think that’s largely happening because of uncertainty about inflation expectations. I think there had been a hope that inflation would moderate more on a year on year basis in August, which it didn’t. And so that added some uncertainty into the mix. And so you’re seeing those short yield spike based on that uncertainty. And so when we see more certainty, a lot of this stuff really started to rise in October, November of ’21. Okay. And so as we get into those months, what we expect to see are some base effects. So we already started to see things rise in October, November of ’21. As we get to October, November of ’22, we will have already started getting at a higher pricing level in Q4 of ’21 anyway. So we expect to see the observed inflation slow as we get to those months and we’ll see a little bit more predictability, a little bit less uncertainty about inflation.
Tony, I want to pick your brain on this talk of a potential rail strike in the US. How detrimental will it be to the economy? Or is it just a blip?
No, everyone goes back to the supply chain bottlenecks that we saw, and of course the union is playing on those fears and the consumers are worried about more supply chain bottleneck. Is it a problem? Yes, it’s a big problem. So I don’t think anything you’re seeing in media at this point is kind of too shrill. It could be really bad. And so this stuff will come down there’s brinksmanship it’ll come down to the last minute and will likely, I’m sure it will be solved somehow. Right. And again, that’s a secondary impact of inflation. Right. So we’ve seen things rise. Dock workers are saying we’re not being paid enough. And then it’s that wage price spiral that you hear about. So wages rise. I know in Asia people are a lot more aware of this than people in the US are. Where we typically have say, one or 2% inflation, you don’t really see a wage price spiral here. I think you see it in spurts in Asia a lot more frequently than we see it here in the US. So yes, it’s a real problem. Yes, they’ll get their raise or a significant portion of it.
It could be ugly until it’s settled, but I don’t expect it to be a protracted issue. Sorry. The other thing I’m not to think about is we’re starting to enter kind of the pre holiday import period. So the guys who are negotiating against the dock workers know that if this goes out a month or two months it’s going to hurt all that stuff on the shelf at Walmart, all that stuff on the shelf and all the stores, Amazon, all those guys.
Yeah. So some people might not get their Christmas presents on time. Right. But do you think the other headwind is the US dollar strength, which it has come down slightly last night, but even if we look at the Bloomberg Dollar spot Index on a year to date basis, it’s 11% and Oracle used that as an excuse to explain why earnings were a bit soft. How much more of these announcements are we going to see from US corporate?
US dollar is going to be the Pinata. It’s going to get the bashing this quarter and earnings reports, everybody is going to blame weak earnings on the US. Dollar. Everybody. So it’s 11% year to date. So people are going to say if they missed by 11%, they’re going to go it’s the dollar is fault, regardless of what operational issues they have, regardless of what inventory issues they have, they’re going to blame it on the dollar. Wall street analysts know better, but they’re going to accept that as an excuse and that’s just the game that everyone’s going to play this quarter.
Tony, thanks very much for speaking with us this morning. That was Tony Nash, CEO of Complete Intelligence, talking to us about some of the trends that he sees moving markets in the days and weeks ahead. I really like the comment he made about the US. Dollar becoming the Pinata in next season’s quarterly report.
I’m going to bang it, try to hit it to get all the sweets out.
Right. We could probably do a game like a bingo game how many corporates mentioned US dollar as the reason for faltering earnings perhaps something to look for.
I mean even in Malaysia we’ve got corporates doing that all the time.
And it’s a non cash item but clearly an excuse. So we’ll be watching this space, lots of headwinds. I think the other news coming out of Asia, which is interesting, is actually and this is of course according to people familiar with the matter as opposed to unfamiliar with the matter, SoftBank Group founder Masayososhi’s Son has revived discussions of setting up a third vision fund. And what’s ironic about it is because just a few weeks ago, he apologized for the disappointing performance of his first two funds.
You know how they say there’s that saying goes, insanity is doing the same thing over and over again, but expecting different results. I wonder if that’s what this third vision fund is in a way. If the first two haven’t really performed, is setting up a third fund really the answer?
But it’s amazing. People do give him cash, right? It’s not like he doesn’t get new injections of cash all the time.
It reminds me very much of Adam Newman, actually the founder of WeWork. And even though he had such an infamous fall from grace, he is back in the corporate scene now with a new venture and people still continue to give him money. So go figure. Some people are just really good at getting cash.
Selling themselves in the brand.
7:16 in the morning, we’re heading into some messages and when we come back, we are going to be taking a look at the proposal to expand the parliamentary seat allocation for Sabah and Sarawa. Stay tuned for that conversation. BFM 89 nine you have been listening to a podcast from BFM 89 nine, the business station. For more stories of the same kind, download the VFM up.
It has been a terrible week in markets. It is not looking good for anybody, at least on the long side. A lot of that seemed to change when the CPI number came out. It’s like people woke up and terminal rate is going to be higher and just everything flushes out.
We talked through why the dollar is where it is and how long we expect it to stay there. Brent Johnson recently said that the USD & equities will both rise. And so we dived a little bit deep into that. We also looked at crude.
Crude’s obviously been falling. Tracy discussed how long is that going to last.
We also did a little bit of Fed talk because the Fed meets this week. And we want to really understand when does the Fed stop? After last week’s US CPI print, the terminal rate rose from 4% pretty dramatically. Does QT accelerate?
Key themes: 1. $USD 🚀 2. How low will crude oil go? 3. When does the Fed stop? 4. The Week Ahead
This is the 34th episode of The Week Ahead, where experts talk about the week that just happened and what will most likely happen in the coming week.
Time Stamps 0:00 Start 1:20 Key themes for this episode 2:24 What got us to stronger USD and will it continue to rise? 8:29 Dedollarization 10:23 Intervention in the dollar if it gets too strong? 12:22 Both the USD and US equities will be rising? 14:18 Crude: how low can it go? 18:03 Look at the curves for crude 19:17 Slingshot in December? 20:18 How India and China buys Russian oil and resell 21:33 Restock the SPR at $80?? 22:57 When does the Fed stop raising rates? 29:33 What if Russia, Ukraine, and China don’t lock down anymore? 32:08 What’s for the week ahead?
Listen to the podcast version on Spotify here:
Tony Nash: Hi everybody, and welcome to The Week Ahead. My name is Tony Nash. We’re joined today by Tracy Shuchart and Brent Johnson. So thanks guys for joining us, really appreciate the time to talk about what’s going on in markets this week and next week.
Before we get started, I want to remind you of our $50 promo for CI Futures. CI Futures is a subscription platform to get forecast for thousands of items: currencies commodities, equity indices and economics. The currencies commodities equities are refreshed every week. So every Monday you come in for a new forecast, economics forecast every month. That $50 a month promo ends on September 21. So please take a look now go in and check it out and if you have any questions, let us know, we’re happy to answer them. So thanks for taking the time to do that.
So, Brent and Tracy, it has been a terrible week in markets. It is not looking good for really anybody, at least on the long side. And so a lot of that seemed to change when the CPI number came out. It’s like people woke up and we’re like, oh no, the term rate is going to be higher and just everything flushes out, right. And earnings and a bunch of other stuff. So we can go into a lot of specifics. But one of the items that I’ve been really curious about for weeks, if not years, ever since I met Brent in 2018, 19, is the dollar. So we’re going to go a little bit deep into the dollar today.
We’re also going to look at crude. Crude’s obviously been falling. So we’re going to ask Tracy kind of how long is that going to last? And then we’re going to do a little bit of Fed talk because the Fed meets in the week ahead. And I want to really understand kind of when does the Fed stop.
So those are our key themes today.
So, Brent, welcome. Thanks again for joining us. I’d really like to talk through the dollar and we are where we are, which is amazing. And you have seen this years ago. On the screen, I’ve got a chart of our CI Futures forecast which shows a dollar continuing to rise over the next year. We’ve got some bumps in there, but for the most part we see a persistently strong dollar.
So I’m curious what got us here and what will continue to push the dollar higher?
Brent Johnson: Sure. Well, first of all, thanks for having me. I always enjoy talking to you, Tony. The reason I like talking to you is you’ll talk a lot about Asia, but you’ve actually lived there and you actually know what you’re talking about rather than people who’ve just read it in a book. And same with Tracy. So I’m happy to do this and happy to do it anytime you invite me.
But anyway, what’s really going on with the dollar is a function of the fact that it’s not only the Fed and it’s not only the US that has, for lack of a better word, idiotic leaders. The rest of the world does, too.
And I think over the last several years. At least in the retail investment world. There’s been this theme that the Fed is out of control. The government’s out of control. They’re going to spend all this money. The dollar is going to pay the price. And it’s going to get inflated away and go to zero. And the rest of the world is going to do great and we’re going to do poor.
And I understand that view if you just analyze the United States. But the problem is you can’t just analyze the United States because it’s a big world and everything is interconnected. And all of the problems that people have forecast to fall upon the US.
Dollar are currently happening to a greater extent in Europe and Asia. And the budget deficits, the printing of the money, the central bank support, the holding down of rates, all of that applies even more so to Japan and Europe than it does the United States. And that’s really what you’re seeing.
Over the last, let’s just call a year, you’ve seen the yen fall 20% versus the dollar. That is an incredible move for any currency, but it is an absolutely astonishing move for a major currency, specifically the third biggest currency in the world, or some would even argue the second biggest currency in the world. And then you’ve seen the euro over the last year is down 10% or 15%.
So these are very big moves. Again, the reason is because the Fed is raising rates. So on a relative basis, we have higher rates than those two big competitors. And on a relative basis, those two big competitors are doing more monetary stimulus or QE or extraordinary measures, however you want to define that central bank activity.
And you always because the globe runs on the dollar, there is a persistent and consistent bid for the dollar globally. And so it’s really a supply versus the demand issue. Now, everybody always focuses on the supply. Central banks are increasing the currency in circulation. They’re going to print all this money and so therefore the dollar falls or the currency falls. Well, that’s just focusing on the supply side.
But again, you have to remember that all central banks are increasing supply, but the demand is what makes the difference and that there is global demand for the dollar. Now, whether you think there should be, whether you think it’s the right thing, it doesn’t really matter. It just is. That’s the way the system works.
But there is not that same global demand for yen. There’s not that same global demand for yuan, there’s not the same global demand for euros or Reals or Florence or Liras or anything.
And so what you’re really seeing play out is Trifan’s dilemma. And so I’ve spoken about this before. But Trifon’s dilemma is an economic theory that states that if you have a single country’s currency that also serves as the global reserve currency, at some point the needs of the domestic economy for that global reserve currency will come into conflict with the needs of the global economy. And that’s what we have.
We have an inflationary pressure problem in the United States. The Fed is very embarrassed about it. They got it wrong and now they need to do something about it. And they’re bound and determined to try to bring it under control. And so they’re raising rates to counteract that. Well, when you raise rates, you’re tightening the monetary supply. And that’s happening. That’s fine for the US. But there’s many countries around the world that cannot handle that right now.
But that’s what’s happening. And so the needs of the domestic economy are in conflict with the needs of the global economy. And it’s going to be the global economy that suffers more than the domestic economy as a result. It doesn’t mean that the domestic economy won’t be hurt. It just means on a relative basis, you want to be closer to the money than far away from the money. And because we have the global reserve currency, we’re closer to the money.
TN: So it’s interesting when you talk about the dollar versus other currencies, and we often hear people say, oh, CNY is rising as a share of spend, which that’s debatable. But from my perspective, it’s not the dollar that’s kind of in the gladiator ring of currencies. It’s the yen, it’s the euro, it’s the British pound, it’s the aussie dollar, it’s these secondary currencies. They’re going to lose share before the dollar does. Is that wrong?
BJ: No, I think that’s absolutely right. And again, that’s a very good way to put it. I know gladiator walks into the ring and thinks, I’m not going to at least get a few scratches. It’s going to hurt. That’s just the nature of being a gladiator. But what matters is who’s standing at the end of the day, right? And so I think it’s these other currencies are getting hurt by the battle more so than the dollar. It doesn’t mean that we’re not getting hurt. It doesn’t mean it doesn’t sting. It doesn’t mean there isn’t going to be any pain involved. But at the end of the day, if you’re at war, you want to be the last man standing because of the way the system is designed, I believe that that will be the US dollar.
The other thing that I would just quickly point out is a lot of people say, why can’t you see it? It’s very obvious. The rest of the world wants to de-dollarize. They’re putting all of these trade deals in place, the dollars falling as a percent of reserves, etc. And the point I would make is, yes, I do see it. I agree with you the world would like to dedollarize, but it’s much harder to dedollarize than just saying, just because you put an announcement out there doesn’t mean you’re actually going to be able to do it.
I’d like to make the analogy that I’ve said I want to lose weight and get in great shape for 20 years. It doesn’t mean it’s going to happen. It hasn’t happened yet.
But that’s the headline versus reality, right? I just think that’s where we’re at. And the dollar, for better or worse, it’s a rigged game in favor of the dollar. And the US set it up that way is the global hegemon. They set it up that way. Now, it doesn’t mean they’re not trying. It doesn’t mean that the world doesn’t want to get away from it. It’s just very hard to do it.
The last thing I’ll say and I’ll shut up, but the other thing I would say is the process of de-dollarization, even if it is successful, will not be a calm transition. And the process of dedollarization is not necessarily, and in my opinion, not probable to be negative for the price of the dollar. I think the volatility and the lack of liquidity in dollars that would go along with de-dollarization would actually squeeze the price of the dollar higher.
And so it doesn’t matter to me whether de-dollarization happens or not. I think the dollar is going higher for all of these reasons.
TN: I think what’s funny there is people always put de-dollarization in this almost moralistic language. It’s a good or a bad thing. And it’s just not. It just is.
Tracy Shuchart: I just had a question for Brent. I mean, do you see at any point that there’s some kind of intervention on the dollar? The dollar gets too strong because it’s going to crush emerging markets? Do you think there’s any point in which Yellen kind of backs up?
BJ: I do think they will. And that’s why I think the dollar is going to go back to all-time highs before this is all said and done. I don’t think it’s going to be a straight line. It can’t be a straight line without absolute devastation. Doesn’t mean it can’t happen. But I think this is going to play out over several years rather than several weeks. It could play out over several weeks, but I think it will take longer. And the reason I think it will take longer is I think that they will interact or they will get involved, as you’re suggesting, Tracy.
I actually think right now the Fed and the Treasury want the dollar strong. I think they’re using it as a weapon or as a tool. It’s something that can be used very effectively. Again, whether you think it should be used or not, I don’t care. I just think it will be, and I think it is being and so I think that will continue.
But I think the Fed and the treasury, they want the dollar higher, but they want it done in a measured fashion that they can control. If it starts to get out of control, I think that they will rein it in. I think they want some of the other parts of the world to be an economic pain, but I don’t think they want the whole system to collapse. And so my guess is that we’ll get the dollar higher, maybe it goes to 115, 120, and then they’ll do something, it’ll pull back for six months, three months, whatever, and then it’ll get higher again and they’ll come out and do something.
So I think this will be a process, a little bit of a roller coaster, up and down, but I think that the general trend is higher and I think there’s more pain to come for the global economy as a result.
TN: Brent, real quick, before we get onto oil. You sent out a tweet earlier this week that said you think that we’re going to come to a point where both the dollar and equities and US equities are rising. Can you walk us through that just real quickly? I know there’s a very detailed thesis behind that, but can you walk us through that very quickly so we understand kind of what you’re talking about there?
BJ: Yeah, so the first thing I’ll say for anybody who’s just kind of passing through this conversation is that I don’t think this is happening right now. It could happen right now. In the short term, I expect US equities to go lower. I think that’s just kind of where markets are headed.
But as the pain develops throughout the global economy, I think we are going to experience a global sovereign debt crisis. And when the world, the US included, starts selling sovereign debt rather than buying sovereign debt, I think that money will have to go.
Now, some of the money will just be, it’ll just go poof. It’ll be gone. And so that money won’t have anywhere to go but the people who start selling the bonds looking for another place to go, I think the next best place to go will eventually be US equities. And I think US equities will be seen as the new… I don’t want to say new Treasuries.
That’s a little bit hard to say. But on a relative basis, the place where big global capital can go, that is the most advantageous to them. And so I think we will get into a point in the sovereign debt crisis where US equities will get safe haven flows and I think the whole world will potentially be printing more money, right.
So be sending more liquidity out there. And so I think that liquidity that is generated with little liquidity there is, I think we’ll find its way into the US and the US Dow, big blue chip stocks and I think they’ll go higher. I might be wrong on that, but that’s my working thesis as of right now.
TN: Let’s move on to crude oil. Obviously we’ve seen crude take some hits over the past few weeks and we’ve got a WTI chart on the screen right now.
So how low will crude go? Are we almost there? Are we headed to 65 where it was for a while? And what then pushes it higher?
TS: I don’t really want to forecast exactly where crude is going to go. I definitely think that we could see some more downside, but we have to look at what is weighing on price and sentiment right now. One, there’s more Russian barrels on the market than everybody anticipated.
Two, you’ve got never ending zero Covid China lockdown that haven’t seemed to let up yet. We also have EU recession, right? And then we had 160 million barrels of SPR thrown on the market. And so that’s really weighing kind of on the front end of the curve. Those are the things kind of weighing on sentiment right now. That’s why we’re seeing a lot of weakness.
That said, if we look at the fundamentals of the market, the market is still very tight. We’re still drawing globally. We definitely have a diesel problem that is global. And I think where we start to see kind of a change in this, I think when it comes to the end of October, when the SPR is done this with kind of been looking over the last couple of weeks, had we not had such large SPRs, we would have actually been drawing a regular stock.
So it’s not as if that oil is going piling up anywhere. So I think as soon as the SPR stops, I think after Midterms, because I think this administration is trying to do whatever they can to suppress the price of oil, thus, gasoline. And I also think that we have to see kind of what happens in China after the People’s Party Congress in the middle of October and trying to see what their policy is going to be moving forward.
Are they going to open up? I mean, they’re looking at they want 5.5% YoY GDP by the end of the year,
TN: They’ll hit it. On the nose, we can guarantee that.
TS: But I think they’re going to have to start stimulating the economy a little bit more. And we kind of saw announcement Evergrande is going to start financing more inspection projects and whatnot going into starting at the end of September. So I think we’ll probably see the last quarter if we get a little stimulus and if they back on their policy because, that’s the big thing for oil right now, is that if that demand comes back because they’re down about 2.7% on the year and as far as consumption is concerned.
So I think if that demand comes rushing back, know that’s going to be a huge upside surprise for the market. I think over the long run, oil is going higher, but out looking out into 2023, I just think that’s just the trajectory of it. I’m not calling for $200 oil, anything crazy like that. I just think that we will see higher oil, and I think we’re poised to see higher for longer than the functionality of the market and the fact that we have no capex for the last seven years.
TN: So last month you said to look three to four months out, look at the curves three to four months out to understand kind of what the real oil price was or is going to be. And so that would be two to three months now. So that’s November. December.
TS: Look at those spreads are widening out or not, right. You want to see if we’re moving into more backwardation and even more backward dated market, right? So you kind of want to look at that.
TN: Okay, so I paid $2.88 a gallon for gas at my local last night. We’re the energy capital in the world. Yeah, I’m going to show it off. Anyway, that is kind of coming down. And energy has been the biggest upward factor in some of the inflation issues. That’s good news, at least until the election. Hey, I’ll take it while I can get it, right? And if it heads back up after the election, I think we’re all prepared for that on some level.
So I guess SPR, as he said, election happens, there’s no political reason necessarily to suppress these prices and so on and so forth. So do you expect to see almost a slingshot in, say, December, where things trend higher pretty quickly?
TS: I don’t think we’ll have… I don’t want to call it a slingshot because anything can happen in the oil market. I mean, we’ve seen $7 to $10 in a day before, so that’s not unheard of. But I do think we go higher, especially if you’re looking into the market, is going to get even tighter in December because of tax reasons. December 31 is the tax assessment date for the barrels that you have on hand. So they tend to pull back on production so they can move out inventory as much as they can, so they’re not taxed at the end of the year.
Usually we see a little decline in production anyway in December and the second half of December, we do see prices start to rebound off the seasonal for regular seasonal trend low. Okay, so that would be normal.
TN: Brent, I think you had a question for Tracy on crude markets as well.
BJ: Yeah, I actually had two quick questions. One, I wanted to get your thoughts on the fact that India and China are buying oil at a discount from Russia. And then there’s lots of stories about them selling that oil
on to Europe or other places. And so they’re making that spread. I just wanted to get your thoughts on that and logistically how that actually takes place.
TS: So if you’re looking at India, definitely they are buying discounted crude. What they do is they don’t
resell that to Europe. What they do is they blend it and they sell fuel. So that’s refined. So it’s really hard to trace what’s in… They don’t trace those barrels that way.
So that’s how that oil is kind of emerging back in Europe. It’s really by way of refined products. Now when we talk about China with the gas, really what they’re doing is they’re buying gas right now, literally half off from Russia, and they’re turning around and selling their own gas to Europe for the higher marked up. The gas they already have. So they’re selling the gas they already have? So that’s kind of how that’s working.
BJ: And then the other question I have for you quickly is I was surprised this week when the rumor was floated by whoever floated that they would restock the SPR at $80. It seems like they’re doing everything they can to get the price lower. And then to have that rumor come out and put kind of a floor under it was kind of surprising to me. So maybe nothing more than just the speculation, but did you have any thoughts on that?
TS: Yeah, I mean, basically they put a floor on it. Everybody’s calling it, the Biden put now. But the thing is that it’s all nice and well if they want to do that, they still got enough 60 million barrels that they need to release. And then by the time those contracts go through and you want to refill the SPR, I mean, that’s months away. We’re looking at months and months down the road. And who knows what oil price would be? To me, it was just another try to jaw bone market down lower.
BJ: It kind of reminded me of the ECB where they’re raising rates on one hand, but they’re buying bonds with the other. Biden wants his cap. He’s like got a collar on it. He’s trying to put a cap on it and a foot on it.
TN: Strategy. Let’s move on to a little bit more of kind of the Fed kind of Fed talk. There’s a Fed meeting next week, and when CPI came out this week, the terminal rate really rose very quickly. And that’s when we started to see equities fall pretty dramatically. And we’ve got on the screen right now expectations for the rates coming out of each meeting. So 75 in September, 75 in November, and another 50 in December. That has accelerated the expectations for the Fed by about 25-50 basis points?
When does the Fed stop, basically from where you are now, do you think this continues to accelerate in 2023 or given, let’s say, CPI? Of course on a year-on-year basis it looks terrible. But once we get to November, when CPI really started to accelerate, November 21, do we start to see some of those base effects in a year-on-year basis and the Fed starts to pull back a little bit and go, okay, wait a minute, maybe we’re okay with the plan we have when we stop at say 450 or whatever as a terminal rate.
The other complicating factor will add in there is University of Michigan came out, University of Michigan survey came out on Friday and it’s a bit lower than what was expected. And the Fed has really been looking to University of Michigan, which is kind of a semi-serious survey, but they’ve really used that to justify some of their decisions.
So we obviously have a mixed environment. But I’m wondering, with all of this stuff coming out this week, do we expect the Fed to keep marching pretty aggressively into 2023?
BJ: I’ll take that first. So I actually do expect them to keep marching higher into 2023. And I say that for a couple of reasons, and I’m going to qualify this and say that they will pivot when they have to pivot, but I don’t think they’re going to pivot until they have to pivot. And so I think a lot of people that are predicting the pivot are misunderstanding the Fed’s intentions and perhaps for a good reason. They’ve done a fantastic job of ruining their credibility. So it’s understandable not to believe them.
But in this case, I think you kind of have to believe them. And I’ll tell you why I think you have to believe them. Number one, I think they don’t mind the dollar being stronger. Again, I think that’s kind of policy that I spoke of earlier in conjunction with the treasury.
Number two, I think they want asset prices lower. So the fact that the stock market goes down I don’t think would bother them. I think if the Dow was at 28,000 and the S&P was at 3600, I think they’d say that’s totally fine. I don’t think they have a problem with that as long as it’s not collapsing. Right? Now, if it collapses, then they have to come in. And they will come in, but I don’t think they mind if the stock market is 10% or 20% lower than here.
The third thing I’d say is the Fed central banks in general, they’re always lagging. They’re a reactionary agency. They’re not a predictive agency. We all know that. They can’t predict anything anyway. I’m not sure I want them predicting things, but to me they’re always behind the curve because they always wait until they see it and then they react, right? They come in and they try to save the day. So when things get really bad, then they’ll eventually come in and provide support.
And when things are always too late to tighten as they are now, and then they try to make up for it. So I think they’re going to despite, like you said, the Michigan number starting to come down, Atlanta Feds already slash their GDP. So even though they’re getting these signals that things are slowing down, they’re not reacting to it yet. They will react to it late.
And then the fourth thing I’d say is that I think Powell is mad and he’s pouting, right? Not just Powell, but mainly Powell, but he got all this advice from all his staff and however many staff, PhD staffers they have at the Fed, and they all said inflation is transitory and it’s going to be fine. And then it wasn’t. Right? Now he’s mad.
TN: He’s a lawyer, not an economist.
BJ: And I’m going to do something about it. And if you don’t think that I can bring inflation down, well, then you just watch me, right? And I’ll take my ball and go home. And his ball is interest rate. So he’s taking them higher, and he’s taking them home, he’s taking them higher. And so it come hell or high water, and after the, I don’t know, the chink in their armor or the threat to their credibility that they’ve had over the last year or two, I think the last thing in the world that Powell wants to deal with is the fact that he slowed down or, God forbid, cut rates and then inflation kept going higher.
That would look even worse than waiting for it to crumble, right? So I think for all of those reasons, you kind of have to take them at their word. Again, I’m not saying not unless the markets force them to do it
and the markets might force them to do it. I’m not saying that that’s out of the possibility. The only thing I don’t like saying about this is this is the hole they’re going to hike until it breaks theory, right?
And I agree with that. The thing I don’t like about it is everybody else seems to agree with it now, too. That seems to be the common refrain, is that they’re going to hike until something breaks, and everybody says, yeah, that’s kind of what’s going to happen. Usually when everybody thinks something, it doesn’t happen that way. But as long as equity prices are higher and as long as inflationary prints keep coming in high, I think they continue hiking.
And think about it, inflation could fall by 30%, and it’s still at five or six, which is still two or three times higher than their goal. So is there a path to a pivot? Yes, I think there’s a path to a pivot, but every week, when people come out every week and, oh, they’re going to pivot, they’re going to pivot. I don’t think they’re pivoting next week, and I don’t think they’re pivoting in October unless they have to.
TN: Okay, Tracy, what do you think of that?
TS: Yeah, I absolutely agree. All the data coming in, there’s no way they’re not doing 75 next week. In my opinion. I could be wrong. Somebody will come back. I think that’s pretty much a lock.
TN: Yeah, I think short of, let’s say sometime in Q4, Russia, Ukraine ends, and China says we’re not going to lock down anymore, that would fundamentally change the Feds calculations, right?
BJ: Well, if they weren’t locked down anymore and it pushed demand higher and it pushed prices higher as a result of demand increasing, then to me, that would keep them on their path to hiking. The flip side. And the flip side is that if something breaks in China, and China has to devalue or revalue the yuan in order to deal with the real estate collapse or the internal problems, whatever it is, that could send a deflationary wave to the rest of the world.
So I’m not going to sit here and deny the inflationary pressures that we’re seeing, but I think to a certain extent, people have again dumped themselves into the inflation camp or the deflation camp, and I think we’re going to have periods of both.
I think if you fundamentally understand the design of the monetary system, the threat of a deflationary
wave is always there. But if you don’t admit that the inflationary pressures are here, I think you’ve also got your head in the sand. I’ve said this several times, but I will admit to a big mistake, and that is, for several years, I hated the term stagflation. I thought it was a cop out. I thought it was for people who just couldn’t decide if they were in the inflation or deflation camp. But I think that’s what we have, and I think we have it in spades. I think some assets and some prices are going to continue to rise and be higher, and I think others are going to collapse, and that’s what makes it so hard to deal with.
So to anybody I ever took a shot at for them using stagflation as a cop out, I apologize. I’m with you now. I got that part wrong.
TN: Brent, one of the things I admire about you is you’re not afraid to say you were wrong, right?
BJ: No. I mean, do you mind if I just make a comment on this really quick? I think too often in our business, people will make a call and then they’re just so afraid to change it. Or you’ll make a call, and then somebody else will call you out on it if you got it wrong. At the end of the day, our job is sort of to predict the future. And so anybody who thinks that they can accurately predict the future 100% of the time has the biggest ego in the history of the world.
The reason I don’t mind making predictions is number one. I don’t mind being wrong because I don’t think I’m the smartest guy in history. And if I get something wrong, then I’ll have to deal with it. But this idea that we’re always going to be right and we know everything, it’s ridiculous. So anyway, we’re all speculating at the end of the day.
TN: That’s right. Okay, real quickly, guys, what are you looking for in the week ahead? More the same. More the same disappointment, difficulties, headwind, all that stuff. Until the Fed meeting? Is that what we’re looking for until the press conference?
TS: Yeah, I think we’re the markets will be in limbo, definitely until the Fed. I mean, everybody expects 75. We get 75. Maybe we see a bounce in equity, actually, because it’s already done with, right. There’s no question anymore. So maybe we get a bounce after that.
TN: Slightly less hawkish language than is expected, right?
BJ: I think that’s right. Now we’ve got the potential of maybe 100 basis points, right. So if they come in a couple of weeks ago, although now there’s a path to pivot, they’re probably only going to do 50 basis points in September.
Well, then we got the CPI print and it’s 75. That’s 75 is going to happen. Then a couple of people go hundreds now on the table, right? So now if they only come out and do 75, maybe the market kind of breathes a little bit. At least it wasn’t 100. So my guess is that we would have some volatility leading up to the meeting. Maybe they do 75. Perhaps things get a little bit of a bounce as a breather.
But I don’t think markets are going to change a whole lot between now and the election. I think they’re going to be volatile. I think the Feds are going to keep hiking. And I think Market Powell said it himself. We had the boom and now we have to deal with the pain. This is the unfortunate side effect of what we have to do. So he’s telling you he’s going to cause pain. He just doesn’t want to collapse. So if it starts to collapse, it’s the sad truth.
TN: Guys, thank you so much for your time. Thank you so much. Have a great weekend and have a great week ahead.
Powell was out saying “I don’t think a recession is inevitable” but also admitted that rate hikes may be one of many factors that push the economy into recession. All of this while bank credit continues to grow, which we saw flatten in 2020 and decline in 2008. What’s happening? Is a recession inevitable at this point?
We talked about the dollar two weeks ago and the strength is still there. Are we pushing higher so commodities feel a bit cheaper to Americans? Is this temporary – mainly so Americans talk about cheaper gasoline over the July 4th holiday weekend? How far and how long do you expect the dollar to go? Why?
Can crude continue to rally into a recession?
The “R” Word
Crude 💪 or 👎/ Dollar 🚀
What’s ahead for next week?
This is the 23rd episode of The Week Ahead, where experts talk about the week that just happened and what will most likely happen in the coming week.
0:00 Start 1:03 Key themes for the week 1:48 Powell’s recession call 3:48 The catalysts that could whip growth 6:58 Geopolitics in EMs and related to the US 8:35 Is the ECB a risk as well? 11:00 Crude and the Dollar 16:00 Where do you expect the dollar to go? 19:00 The week ahead
Listen on Spotify:
TN: Hi, everybody, and welcome to The Week Ahead. I’m Tony Nash. We’re joined as always, by Tracy, Sam, and Albert. Thanks, guys, for joining us. Before we get started, please, like, please subscribe, please comment. We read all of them and try to respond to all of them. So please go ahead and do that while you’re here. Also, we are running a summer promo for CI Futures. This is our market forecast subscription product. You get three free months, so please go to completeintel.com/2022Promo and learn all about it.
So this week there’s a lot going on, a lot politically in markets, other stuff. We’re talking about three main themes this week. First is the R word. Second is geopolitical fallout of the R word. And third is crude and dollar activity. So I ran a poll earlier this week asking what is the most widely held consensus view that people are seeing right now? And that’s on screen, of course. So first is recession. People are seeing recession as a consensus view all over the place. Next is equities lower, followed by crude higher, followed by a stronger dollar. So we’re going to talk about all these things today.
Sam, let’s talk about that recession call. That recession consensus call. Powell is out this week saying, I don’t think a recession is inevitable after being really hawkish last week and driving people kind of to the edge of this. So what’s actually happening right now? We’re seeing credit continue to grow. And I know I showed you earlier this week. Bank credit continues to grow. Is that meaningful? And what are you looking at to know if we’re going into recession or not?
SR: Yeah, I mean, bank credit, is meh. But at the same time, are we going into a recession? Meh. I don’t really think so. It’s a booming summer. You have hotels full, you have bars and restaurants full. You have airlines unable to keep up with demand. I mean, that sounds like a small subset of the economy, but at the same time, that is a massive portion of the summer economy. It’s massive. So do I think we’re imminently in a recession? No. I actually think that’s one of the big narratives that kind of misses the bigger point, right? Do we make goods? No, we don’t make anything. What we do is we have services. That’s it. So we’re a service based economy. If services are booming, you’re not going into a recession. You’re unlikely to see some sort of huge move in unemployment because a recession technically is down on growth, down on employment.
If you don’t have the down on employment, you don’t have a recession. So maybe you have a slowing of growth. That’s somewhat probable. But a recession, no, not in the cards, at least until the back half this year. In the back half of this year, you have a number of catalysts which could really whip things the other way in terms of both growth.
TN: Okay, so what are some of those catalysts. And when you say back, you’re talking about October? November?
SR: Yes, October. November.
TN: My thinking is if we’re going to see it, we’re going to start seeing it maybe late September, October or something like that. But what are some of those catalysts you’re talking about? A couple of them?
SR: The catalysts then are actually to the gross side, which I think is where I’ll take the opposite side of a lot of people. Those catalysts are called a devolving of the Ukraine conflict. Number one, while that doesn’t take off sanctions in the near term, it does take off the incremental oops.
Then you have the beginning of the reopening of China, which is a big boost to growth in Europe, and secondarily, LatAm and the United States. So you put those pieces together and all of a sudden you’re looking at a back half of the year that has more upside catalysts, potentially. And it’s not like you can reset down China and it’s going to be a negative callus. It’s already in the numbers. It’s not like you can have another war in Ukraine that’s already in the numbers. If you begin to have those two come together, guess what? That’s positive. So I would say the rest of this year is shaping up to be oddly positive.
TN: Yes, but no, I’m kidding. Everyone’s so negative right now. Everyone wants to just find the downside. Russia is going to invade finland or something like that, right?
SR: Yeah. Here’s the play. I would say 3600 is a lot less likely than 43.
TN: I like that.
SR: On the S&P.
TS: I think what we’re going to see is kind of like a balance, right? Where we see services really big this summer, especially in the travel industry, hospitality industry, which we will see taper off this fall, which is not unusual. That always tapers off this fall. But we also see airline prices increasing, so people have booked their summer vacations in Q1. Those people are going to fall off. So I think we’ll see a push. We’ll see a pullback in that industry, but we could see growth in industries that Sam is mentioning.
SR: Just to throw in there, we have to remember that at some point we have to refill supply chains on the drivable stuff, and those supply chains are at bone zero right now. It will require a whole bunch of employment, a whole bunch of production, and will actually have a fairly significant thrust to GDP. Our production has been zero.
TN: That’s great. My poll is wrong, which is awesome. I love that.
SR: I would bet against every single thing that your poll said.
TN: Perfect. I love that. Okay, so if you’re in the US, that holds. But let’s switch, Albert, to kind of say geopolitical risk and some other things. Obviously, Sri Lanka two months ago started falling apart and not started, but really fell apart. We’ve seen Ecuador and other places really start falling apart.
Albert, what are you seeing, geopolitically, and what are you seeing in EMs related to what’s happening in the US?
AM: I don’t really like focusing on EMs at this moment just because they’re not big enough to really cause a problem in the markets. In my opinion. I’m looking squarely at the European Union right now.
It’s suspicious that we come out with US bank tests and then we come out with EU bank tests and then literally a day later, the Germans come out and say, we could have a Lehman moment across the economy just because of these gas shortages that are happening.
TN: By the way, your tweet about the German Lehman moment up.
AM: Yeah. And this goes back to just the topic we were just talking about, recession. You really need some kind of catalyst or something to break. And the only thing that I could even contemplate of breaking and causing a “recession” would be the European Union going through another financial crisis. You have a contagion that probably leaks over to the United States financial markets and the Putin price hikes become a thing again, justifies any kind of QE that the Federal want to do, probably in Q four this year. Geopolitically, the EU is my target right now to look at.
TN: Okay. It’s energy supply chains. Is the ECB a risk as well? Is there a risk that they tighten too fast or too much or anything?
AM: How are they going to have to I mean, the inflation over there is climbing just as fast as the United States and it’s causing problems across the board.
SR: I would double down on that and say that Qatar, right after we had the train go down in Corpus Christi, came out and said, yeah, we’ll send gas to the European Union. Just sign a 20 year deal.
TN: Right. And they did. Right?
SR: European Union is not going to do that. I mean, nobody in Europe is going to do that. It was kind of like, we got your back, but give us a long term agreement and we’ll do it.
The irony of it is that you have a crisis going on in Europe. There was a dragon moment of do whatever right, anything.
TN: Sorry, Tracy. What’s that?
TS: Self imposed crisis? Their energy crisis is literally self imposed.
TN: Yeah. Okay.
AM: There’s no question that is self imposed. The European Union’s leadership has been atrocious. I mean, they’ve had the worst energy policy you could possibly think of that hampers their economic engine for the last two, three decades. I mean, you can just throw a dart at the board and pick whatever policy they’ve come up with. It has been an absolute disaster.
TN: Why is that? Why are they making such stupid well.
AM: They’ve made such a big swing to the left, the leftist voters, and they’re just climate Nazis. They won’t even discuss nuclear.
SR: We’re literally talking.
AM: They won’t even discuss nuclear power, which is absurd. They’re like, what if something goes bad like Fukushima? Oh, yeah. What if a dam breaks? Or what if a coal plant blows up? Or, God forbid, what if 10,000 Germans freeze to death because you don’t have gas stored because you didn’t have any proper management? I mean, they’re really bad at managing what’s going on without the United States holding their hand and directing what to do.
TN: Well said. Fantastic. Okay, so since we focus a little bit on energy there, Tracy, let’s swing to talk about crude and the dollar. So, our friend Josh Young posted something about kind of energy could potentially outperform this sort of stuff and really kind of looking back to the 1970s.
So it really looked like we were heading there until this week, and then we saw things really come down this week, in terms of, say, WTI, natural gas, other things. What’s going on there?
TS: I think it depends on what you’re looking at. If you were looking at frontline crude oil price, that’s one thing where a lot of speculators are involved in. If you’re looking at the spreads, it’s you’re looking at the crack spreads that are still exploding. If you’re looking at calendar spreads that are up again this week, that pretty much tells you that we put a floor under front month crude price, regardless of who is involved in what specs are involved in the industry right now. Because the spreads are really what I consider will tell you really where things are going. Right.
So we kind of have a floor night. Yes, oil had a bad week. We saw a lot of selling on downtime in markets and things of that nature. I don’t think that doesn’t change the overall fundamentals of the market. Right? I mean, we’re still fundamentally structurally undersupplied.
TN: So I’m going to ask a really dumb question here. I’m sorry if I may hear it.
SR: But we know.
TN: So are we seeing a short term sell off? Is it politically driven so that when Americans get together on July 4, they can say, gosh, gas is really down this week, and then you have a three day weekend where people are talking about that and then it rocket ships up after the fourth?
TS: Well, I think it’s a combination of most things. I think this week recession scares, we’re really the big driver for that market because everybody’s thinking we’re going to have a recession.
SR: That and the potential of having an export ban.
TN: Recession, export ban, and July 4th.
TS: An export ban. That said, and I kind of tweeted this out, having an export ban, especially a fuel export ban, would make things obviously worse.
First of all, it’ll raise prices for the EU prices abroad, which after all of this with Ukraine, do we really want to hurt the EU that much? Because we supply them with one to 1.3, 1.5 million barrels per day of diesel, which they are having a huge problem. So really, are we going to abandon the you at this point? Also…
TN: My Texas friends would love to have more diesel to power their ram trucks.
TS: But the thing is that what happens is the fuel flows get so disrupted is that we’re going to have to see refineries cut run significantly in the US. Which is going to ultimately raise prices. We may see deepen prices initially, but you’re going to see higher prices ultimately.
SR: I’ll push back on that because you have a lot of storage, but you didn’t have a lot of storage before. So you don’t have to cut back on runs. You can put into storage at a pretty profitable rate because of forward selling basically all of your inventory right now. I would push back on you have to cut runs at this point.
TS: And I’m going to push back on that. We have to look at the east coast. Right. And so that’s looking at gasoline runs to make a barrel. Diesel requires a lot more oil than it does say to make gasoline. And so if we see a diesel problem, we’re going to have to cut back on this runs. I think it depends on what coast you’re looking at and what area you’re looking at.
TN: All we care about is Texas and Florida. Right.
SR: You have a lot of places to store gasoline. I mean, it’s not like we have an oversupply gasoline at the moment.
TN: It’s true. Our bob’s down this week too, right. So it’s tight.
AM: It’s interesting, Tony, it’s funny. One thing that you said July 4 and one thing that Tracy said, thinly traded is that hilariously every time we need a rally in the market during the thinly traded holiday hours, crude goes down, dollar goes down and the market goes up almost by magic on the thinly traded holiday hours. Something you should watch.
SR: University of Michigan. Come on.
TN: It’s a big driver. University of Michigan. Okay, so let’s move on. You mentioned the dollar, Albert, and so if we look at the dollar, obviously it’s near highs for the decade and that’s great if you’re in the US buying dollar denominated commodities. But elsewhere in the world it’s really hard. Right. So where do you expect the dollar to go? I can’t remember what you’ve said your expected target is. Possibly? 110. Possibly 120. So if it hits 120, Japanese Yen is at what, like 160? 170? something like that?
AM: 163,164? My calculation… This is something Yellen has done in 2012. It’s nothing new. She’s driven the dollar up. She’s out into Europe talking that she’s going to take the dollar up to 110. So this is nothing new. Everyone knows what’s going to happen. Everyone’s watching it. So we’re at 104 something today, just sitting there and hasn’t really done anything. Last day or so. Another 5% up is not a big deal for the dollar.
TN: So you see Yellen driving a stronger dollar. Sam, what do you see?
SR: I would say that I hate taking the other side. I’m going to take the other side.
SR: I’m going to say that Yellen’s ability to control the dollar is de minimis at this point, mostly because the Fed is tapped out. But you already had a 4% terminal rate for Fed funds priced in two weeks ago. Today you’re sitting at basically 3.65%. So you’ve got the peak, in my opinion, priced in for the FOMC hiking cycle and now you’re on the other side of that. So I would say JPY, you’re probably looking at above 10.
TN: Oh, wow, okay, great.
SR: And you’re probably looking at a Euro at 108. 109. And it doesn’t really matter if they go into a recession because they’re… Right. The US is going to back off in incremental steps the long end of the hiking cycle and…
SR: The dollar prices is long end of the hiking cycle and Yellen can do a lot of things. What she can’t do is increase the internal rate.
TN: That’s great.
AM: The thing is, the treasury sets USD policy, so she can certainly drive it up. I don’t know how much ammo she has left because it’s gone up. But we’ll see.
TN: Okay, perfect. That’s great. So we’ve covered almost everything in that survey and almost everything was wrong.
SR: I told you everything was I would take the other side of every single one of those.
TN: Perfect. Okay, let’s talk about the week ahead. We have month end and quarter end coming next week, right? So what does that mean for the week ahead? Everyone else.
TS: Can I go?
TN: Yes, you go Tracy.
TS: I don’t know. What I’m looking at for the week ahead is the last week of the month. Of the month and the quarter. Right. So we have roughly about $100 billion of US equities that need to be purchased over the next five trading sessions. We have a rebalance in the RTY. So we should see a lot of inflows, roughly 5.98 point billion of inflows into the US equity markets just because of the rebalance factor.
We should probably see outflows in the bond market and then that’s walking into a backdrop of negative dealer gamma. So we have the potential of a shot higher in the market.
TN: Sam? Sam?
SR: Yeah. I would say everything Tracy said in terms of the risk seems to be to the upside. I would also say it looks pretty scary when you walk into the end of the month in terms of the way the dollar chart looks right now.
You walk into the end of the month with a dollar chart looking like it’s ready, looking ready to gap down, and you have oil where it’s at. You could have a very interesting quarter end in terms of risk assets. You have a weaker dollar. You have a big buy on SPY, RTX, et cetera, or SPX, not SPY. You begin to put those pieces together and you begin to have a pretty risk on into the quarter that could be very interesting very quickly.
You get any positive headlines out of China in terms of lockdowns, you get any positive headlines out of Ukraine in terms of ceasefires, whatever BS they want to leak. Then all of a sudden you’re more upside. So I would say skewed to the upside through the beginning of July.
TN: Sam, you’re optimistic today. That’s amazing.
SR: I know. And contrarian.
TN: Optimistic and contrarian. I love it. Okay.
AM: Yeah, I mean, I agree mostly with Sam. I think just because the market is so thinly traded, the dollar should be chopping around probably on the downside a little bit, just for the week up until July 4 weekend, so long as the Europeans don’t come out and start saying any more Lehman things, Lehman crash things and all of a sudden dollar shoots up just because of fear factor out of the European side. But I don’t think that’s going to materialize over the next week, probably next couple of weeks.
After that, I think 30 days, we’re starting to look at possibly something that happened in the European Union. But for the week ahead.
TN: Fantastic. So the past three days carries into the next week. Fantastic.
TN: Okay, guys, thank you very much. Thanks for your time. Thanks for all the stuff you passed along, and have a great week ahead. Thank you.
We had a chop last week. And towards the end of the week, we had the CPI print, which put a damper on markets. In this episode, we’ll talk about CPI and peak inflation, which people have been talking about for months, but we haven’t quite hit it yet.
Of course, we’re going to talk about the hot dollar, and we’re going to talk about fuel inflation and things like refining capacity and even a nat gas plant explosion that happened here in Texas last week.
And then finally, what is going on in the week ahead?
CPI & “Peak Inflation” – Core CPE, hand off from goods to services, Fed policy and markets.
Hot dollar – DXY has only been higher in Feb 1985 and Jan 2002. Fed, Dollar, Yellen, etc.
TN: Hi everybody. And welcome to The Week Ahead. My name is Tony Nash. We are with Tracy and Sam today. Albert is in an undisclosed location, so he won’t be joining. But we’ll have a good show anyway. So before we get started, please like and subscribe. And as importantly, please comment. We really appreciate those. We respond to all of them. And it’s great to have the engagement.
This week. We had chop, as Sam talked about. And towards the end of the week, we had the CPI print, which really put a damper on markets. So we’re going to talk about a few things. First, CPI and peak inflation, which people have been talking about for months, but we haven’t quite hit it yet. Of course, we’re going to talk about the hot dollar, and we’re going to talk about fuel inflation and things like refining capacity and even a natgas plant explosion that happened here in Texas last week. And then finally, what is going on in the week ahead?
So first, CPE was all of the focus for the last half of the week. Sam put out an amazing note, a couple of amazing notes this week talking about inflation and what the Fed will do. So we’re looking at a chart right now on core CPI. And Sam, can you walk us through why the core matters and what’s happening there?
SR: Sure. The core matters because it strips out food and energy, and that’s what the Fed likes to look at. Right. That’s what the market looks at for underlying inflation dynamics generally. It’s kind of a quick and easy number. Luckily, it’s accelerated by some marginal amount on a month over month, year over year basis. Cool. Nobody should really care about that, because when you break apart the actual numbers, the entirety of the deceleration and core inflation was in the good side. We know that goods are coming down, particularly on a year over year basis. They want skyrocket and to the right, that’s just not sustainable.
TN: Is that because of the inventories that were accumulated at retailers and other folks.
SR: That’s part of it. Used cars as well. There’s airline fares are in there, too. So that’s going to be somewhat of a problem as we move forward.
The interesting thing to me is when you actually dig into it. Yeah. Core goods accelerated, but core services, which are far stickier and far more difficult for the Fed to kind of get a hold of accelerated.
TN: Right. So let’s put that up now and then. Yeah. So we’ve got your chart up now about the commodities, less food and energy and then services, less energy. So can you help us understand what that means?
SR: Yeah, sure. That’s just call it the core CPI broken into services and goods. Right. So it strips out food and energy from both of them. And then you kind of get a more of a feel of what’s really happening in the underlying economy. And there was always this big debate among economists about when this hand off from goods to services was going to happen and how that was going to affect the economy. And unfortunately for the Fed and for market participants, that hand off is happening.
You can see it in the data and you can see it in the inflation data in particular. It’s happening. The problem is that you don’t have goods coming down fast enough and you have services moving up way too quickly. And those two components are unlikely to give the Fed any sort of comfort in the next six to nine months.
TN: Okay. With services moving up, does that mean that wages, say on the lower end around things like hospitality and restaurants, does it mean that those wages are going up?
SR: Not directly. There’s some implied probability that you’re beginning to see some movement there, but you’ve seen quite a bit of movement at a leisure and hospitality in particular in terms of the wage gains there.
Unfortunately, the wage gains can be pretty large in magnitude, a 5 to 9 percent type acceleration year over year in leisure and hospitality wages. But it doesn’t really move the needle in terms of overall wage gains because those tend to be the lower end of the income scale.
TN: Okay. So I saw some data this week looking at credit capacity, and it looks like US consumers put record amounts on credit cards in April and May. Does that make you nervous? And I’m not talking about the high end of consumers. I’m talking about the middle and lower end of consumers because there’s a lot more of them. Right. Does that make you nervous?
SR: Yes. And it goes to the conversation that Tracy and I are going to have in a little bit here. A lot of it is due to gasoline. Right. You don’t go to a pump and typically pay with cash. I mean, you did that 10, 15, 20 years ago. You typically go to the pump and pay with a credit card.
So when you begin to have prices like this, move this quickly on the pump side of things and grocery side of things, you tend to have a move up in credit card usage that’s translating to debt because you simply don’t have wages keeping up. Yes, wages are ticking higher, but they’re not keeping up. So the lower end of the consumption, called the lower two quartiles, they are struggling with this, and that is going directly on the credit cards.
TN: I’ve talked to a few people this week about how wages in developed economies work. And if we were in an emerging economy, middle income economy, there would be more flexibility on wages because wages rise faster generally in those economies. But in, say, the US, wages really don’t rise fast.
So on some level, it’s a bit hard for people to understand that wages in the US are generally inflexible, especially at the lower and middle ends. And so it is kind of zero sum. Right. So as gas and food prices rise, that takes away consumption from other areas, right?
SR: It does. And the other thing that it leads to is more of a trend towards unionization and other forms of labor activism. And you’re going to continue to see labor activism if wages continue to trail this far behind inflation. That is an underlying trend that I think is going to be somewhat important for understanding how markets react because labor was fairly cheap, give or take for US businesses in particular.
If you begin to have more unionization, if you begin to have more of an activist labor movement, that is going to be a thing to corporate earnings, not just for the next year. That’s going to be a thing for corporate earnings going forward.
TN: Okay. So let’s talk about corporate earnings. As we look at, say, Q2 corporate earnings, it doesn’t look good, right? I mean, generally the expectation is that their margin compression, all this other stuff really starts to sting in Q2 Is that right?
TS: It depends on the industry as well, because what we’re seeing and what I’m hearing as far as obviously oil companies are going to do extremely well so are refiners right now. But we are also seeing the hospitality industry do extremely well as far as travel is concerned, because we’re seeing a lot of pent up demand where people are not spending retail spending, but they’re still spending for trips.
If we look at US air bookings, for example, there are 93% of 2019 levels for Europe. We’re at 95% for South America. We’re at over what we were in 2019 to the Caribbean. And we’re also seeing soaring hotel bookings right now, even with cost pushing higher and ticket prices higher. So I think that Q2 is going to be very good actually, for, say, oil and gas and the hotel industry. But then as we move into Q3, I think we’re going to see a big hangover in that area in the fall.
SR: And to Tracy’s point, hotel bookings are above 2019 levels and the average price of those rooms through the roof. So you multiply those two together to get your average room rate and Occupancy, those are some big numbers that we’re going to see over the summer. To Tracy’s point, there’s going to be a lot of people that blow it out of the water in terms of earnings, and there’s going to be a lot of people that surprise the downside.
If you were a work from home darling, that was expecting work from home and those dynamics to be permanent and you’re in trouble. Right. That’s the target problem. People aren’t buying goods. They’re going places. And the bifurcation there is going to become stark as we move through the second quarter and probably into the third quarter.
TN: Really interesting. Okay. And then I guess the question that is probably overanalyzed, but people are waiting for is what does this mean for the Fed? They’re still on target for 50 in June, 50 in July and 50 in September. Is that your assessment? And maybe 25 in November? I think.
SR: 50 in November, 50 in December.
TN: 50 in November, 50 in December? Wow. So we’re going back to the 90s.
SR: Basically fully priced in the market.
TN: Is there any chance that they will accelerate beyond 50? Like, would they front load any of that just to shock the system?
SR: No, because I don’t think they want to shock the system. The Fed already has a credibility problem. If you move from 50 to 75, you create more of a credibility problem because you forward guided 50-50, and now all of a sudden you’re telling the market you’re doing 75, the market is just going to stop believing and they’re going to push the Fed and they’re just going to push back and it’s going to be a huge problem.
So I don’t think they’re surprised on that front. They may tweak the balance sheet. That’s a little bit of an easier move to make. Right. You can speed up the MBS role. You can pick up a little bit of the front end roll on US Treasuries, you can tighten that way and have it not be as much of a shock to the system.
SR: But have it be pretty interesting on the tightening front.
TN: Okay. But let’s dig into that, though. I’m sorry to spend too much time on our first topic, but if they accelerate the MBS stuff, housing is already kind of at a standstill over a two month period. Two to three month period.
A lot of people have had wealth effects because of the rapidly inflated house prices. So if they accelerate MBS, that perception of housing wealth collapses even more. Right. And so does that have relatively like a multiplier effect on the deceleration of consumption?
SR: It does. But that transmission is pretty slow generally, and you had a significant amount of call it front running against the housing market to take out equity. So I would push back a little bit on a collapse in transactions is going to have a big effect. What you really need to see is pricing actually coming down because it’s about pricing.
TN: Pricing coming down.
SR: Yeah. And pricing. The data is so delayed that it’s almost worthless.
TN: Nominal housing prices.
SR: Yes. But you’re still seeing housing prices hold up pretty well for most of the country. So until you really begin to see a crack there, I don’t think the wealth effect really takes hold from houses.
But you’re probably talking about a September, October type time frame for home prices to be weighing on people’s minds.
TN: Okay. It feels like over the past few months things have changed pretty dramatically. Expectations and these sorts of things. I know you’ve been talking about this for months, but I think the world is just catching up to it. And two months ago everyone said, oh, it’s all priced in. And then we get a day like Friday where obviously it’s not priced.
SR: I’ll stop after this but the interesting part about Friday was it wasn’t just call it the November December meetings getting priced higher for Fed rate hikes. It was March and May of next year that also saw pretty significant volumes and saw the pricing of the Fed movement get pushed pretty hard. So you’re seeing movement across a very long time horizon.
You’re talking twelve months out is kind of what people are pushing on now. So that really creates a different dynamic. But it’s a different dynamic to have eight or ten basis points priced in in September or November. It’s a bigger deal to have quite a bit of tightening priced in for December and March. Those are some out months those begin to really move markets on the margin.
TN: All of this in a midterm year. All of this in the midterm election year.
SR: It’s really painful all around, right? It’s painful all around. But I think the Fed kind of plays second fiddle to Tracy’s point on energy and how that flows through the consumer and the consumer psyche because that is critical at this point.
TN: Okay. So speaking of second fiddle let’s move on to the hot dollar and Fed playing second fiddle to Janet Yellen as Tracy has said before. We’re looking. At DXY that is the third highest it’s been ever it was very high in the mid eighty s it was very high in I think February 2002.
We’ve got that chart up now and now it’s hitting rates that it hasn’t hit for years so we have the Fed doing certain things to tame but we also have things like crude and other commodities that are rising in dollars. Terms. And it looks like the dollar is being pushed up to fend off some of that. So, Tracy, can you talk us a little bit through your view of kind of Yellen and her dollar bias and then impacts that you expect to see.
TS: She said since the beginning she wanted a strong dollar. Right. The problem is that right now this is a disastrous recipe for emerging markets right now with high energy prices and high dollar. And it’s no wonder we’re seeing huge outflows in emerging markets right now as far as investments are concerned. And so really that’s who’s going to feel the pain the most that could throw us to a global recession, for sure.
SR: To that point, Europe is in a lot of trouble, and the Dixie is basically a measurement of euros and yen. That’s right. If you want to talk about a central bank that’s lost credibility, there’s none better than the ECB and Madame Lagarde and that wonderfully stupid speech that she gave this week, it was spectacularly bad.
TN: It’s what happens when you have a lawyer running monetary policy.
SR: They’re raising rates, and we have them, too. Anyway, moving on. So there is an interesting kind of dynamic there where you basically had the ECB for the first time in forever, say we’re going to raise rates like they just told us straight up they were going to do it and they got the wrong reaction across markets.
The currency didn’t go up. The currency didn’t strip. The currency looked pretty ugly that day. And then you’ve got yen sitting at 135 because they’re still doing yield curve control and it doesn’t look like they’re ever going to end it. So you have the Fed going in the exact opposite direction or much quicker than the rest of the world. In the DM world in particular.
That’s a recipe for a stronger dollar. And until you either get the ECB to smarten up or you get YCC brackets moved, yield curve control brackets moved by the bank of Japan, there’s no stopping the Dixie from moving higher. Right. It’s a two currency, two currencies basis.
TN: Remember Abenomics, when they were fighting to get 2% inflation in Japan.
TS: They’re still fighting. That’s why you can’t see inflation, it’s incredible.
TN: Yeah. Tracy, if we continue to see the dollar strengthen, do you think that has much impact on, say, crude prices and fuel prices?
TS: I know that everybody likes to think it’s a one to one correlation. Right. We think stronger dollar commodities. But it’s really not a one to one correlation, especially when you’re talking when you have actual supply demand issues. Right. Like we have a supply deficit across. So a stronger dollar is not going to hurt oil prices when you have real supply demand issues. Whereas if you look at something more like gold, the stronger dollar is not necessarily great for gold right now.
TN: Yeah. So I love it when people like talking about correlations of oil and dollar because many of them don’t realize that actually the positive correlation between oil and dollar is more frequent than many people want to admit, and it’s more persistent than many people want to admit.
So the kind of go to there’s a negative .9% correlation between oil and the dollar. It’s just not true. It’s a fiction.
SR: And the dynamic changed when the US became a major producer of oil.
SR: That completely changed the dynamic. So if you’re not paying attention to the structural breaking system where the US became the world’s largest producer of hydrocarbons, you don’t know what you’re doing.
TN: Right. So who hurts the most? I think we mentioned EMs, but kind of who hurts the most, aside from Sri Lanka, which we already know? Is it like North Africa, those types of places? Is it Southeast Asia? Just off the top of your head, we didn’t rehearse this, so I’m just curious, what do you think hurts the most?
TS: I think you’re going to see a lot of problems in Africa for certain only because a lot of the OPEC producers there are struggling themselves already. Right. All of those people are the ones that are contributing majorly to the quota misses right now. So I think you’re going to see real pain there over Asia, I would say.
TN: Okay, Sam?
SR: Yeah, I would agree with Tracy. North Africa, East Africa, those look very vulnerable, particularly when you combine food costs with gasoline costs and oil. It’s kind of a toxic mix because if you have oil at 125 Brent, there’s an incentive that you want to pump and the people expect you to pump and buy them food. And if you can’t pump and buy food, then you’re basically an illegitimate government in North Africa.
TN: Right. Which is just trembling all around. Okay, let’s move on to energy prices and gasoline and petrol prices. Of course, we just hit this week again, I think three or four times this week we hit record prices for gasoline. And of course, that’s happening all around the world.
I think in the UK it’s £2 a liter or something like that. In the US, it broke $5 a gallon on average. I think 5.01 this morning, Patrick Dejan was saying that. Tracy, can you walk us through? We’ve mentioned this a couple of weeks ago, but in a bit more detail about what’s happening with refining capacity in the US and why this is such a big deal?
TS: Right. The last largest Greenfield project that we had was 1977. We’ve had a lot of brownfield projects, meaning adding to capacity to already existing refining facilities. However, right now we sort of peaked in 2018 and 19 as far as refining capacity is. And now we’re starting to come down again because we’re starting to see more closures, we’re seeing more unplanned outages.
These facilities are very old. So the operable capacity has been on the decline for the last few years. And if you look at Europe and Europe, it’s even worse. Right. So, I mean, Europe already has a problem, too, and that’s why they buy most of their diesel from Russia, which is going to affect them, because the diesel that they buy from them is seaborne. Right. All of it, which it falls under sanctions.
TN: And they can’t get insurance for those vessels.
TS: Yeah. And so they’re going to have a lot of problem. just to put a little tangible example, there’s a news here in Houston this week that I think it’s a Lyondell refinery that’s being closed, and that refinery is over 100 years old. Yes, our refineries are old. They’re aging facilities. They need a lot of maintenance. And we just really haven’t built out enough capacity for the amount that is coming offline over the last few years.
TN: So, Tracy, I know this is a little bit of a request, but we’re sending $40 billion to countries around the world to do different things. Would it not make sense to have some sort of government incentive for midstream companies to actually build refineries?
TS: Well, yeah, absolutely. I mean, infrastructure projects as far as the oil industry is concerned. If you look at the government’s complaining about oil companies are making so much money. However, where were they when they were in the red and racking up the debt? They were nowhere. How many times do we bail out the Airlines and the auto industry? The oil industry never got any help.
TN: Because they’re bad, tracy, oil companies are bad. They’re all my neighbors. But you would think they’re all bad, evil people.
TS: This is causing… Where our refinery operable at capacity? We’re at 94.2% refining right now, which is off the charts. Good. That means good news for your refining stocks if you own any. But we’re pushing it. We’re using it as much as we’re producing. Right.
TN: Let’s say somehow people came to their senses and said, look, we need to incentivize new refineries. How much just off the top of your head? Ten, $20 billion. Is it $100 billion? Just to get things started? How much do you think that would cost? Since we’re throwing money around.
TS: Since we’re throwing money around, I think if you could throw 10 billion, 20 billion at it, you could get some good projects going or tax incentives or something like that for current refineries to be able to build out or upgrade things of that nature. There’s a lot of things the government could do to help boost refining capacity.
TN: Okay. So while we’re throwing money around, would it make sense to reconfigure some of those refineries to refine light sweet Texas crude instead of, say, I don’t know, Venezuelan crude?
SR: Yes, it’s pretty simple. We built the right type of refining for a certain point, but we didn’t build the right type of refining for now. Yes, we would need to upgrade all of them, and it’s going to be a pretty significant issue.
The other really important thing that I think gets overlooked a lot is that even if you begin these projects now. It’s not a solution for several more years. By several more years, three to four at a minimum, kind of where you would expect these to begin to come online.
And the question is, what does the oil market look like at that point? What kind of mix do we have? So you have to make some fairly large assumptions about what your input mix is going to be down the road. So, yeah, I do think that it would be worthwhile to at least upgrade the current refineries, but I think that’s kind of a pipe dream.
TN: Okay. So while we’re throwing $40 billion overseas, we could take half of that and build new refineries and reconfigure refineries with American crude oil. Am I misunderstanding this?
TN: I just want to hammer the point home again. Okay, great. Thank you, guys. We had a really choppy week. We had a lot of kind of bad news come out. What are we looking forward to next week? Is it kind of more the same? Are we still in a really rough place and the Fed meetings this week, some announcements. I don’t think it’s going to surprise anybody, but what else are you looking for this week?
TS: Pretty much the same. I think we’re kind of stuck in this market low for a while now. So I figure you still see chop, you probably see oil sideways to up again. I expect that trend to pretty much continue into the summer until we really start to see some demand destruction, which we’re just not seeing enough yet.
So I think headed into fall, we have a better chance of seeing oil prices come down because again, I think that we’re sort of going to have a travel hangover and everybody’s going to get home and they spend a bunch of money on their credit cards and the economy is not that great. So that’s what I’m looking at. And again, for the week ahead, I think more of the same.
SR: Yeah, you have a million meetings next week of central banks. I think that’s really what the markets are going to key off of. And it really depends who says the most dumb stuff. And it’s going to be a competition because you have Powell and then you have the Bank of Japan. So we’ll see if maybe you get a little bit of a bracket move on yield curve control that would make things a little more spicy across markets. And we’ll see what Powell is capable of messing up when it comes to forward guidance during the press conference.
So I would say it’s more the same, but there’s a likelihood that markets are about as hawkish as they can be going into the meeting and that Powell doesn’t want to push markets more. So there may be a little bit of a rally off Powell just not being an uberhawk, and that might be positive, but I would say you’re in for some serious chop, particularly across the rates markets, currency markets.
And when it comes to equity markets, I think it’s going to be exactly what Tracy and I talked about earlier. It’s going to be the story of travel over retail.
TN: Okay? So next week, let’s talk about who said the stupidest central bank statement. Okay?
TN: You got it.
SR: Does that work?
TN: Very good. Okay. Thanks, guys. Thank you very much. Have a great weekend. And have a great weekend.
The SPX was down 4%, WTI was up 2.8%, and the 10-year yield was down 2.9%. Intraday vol has been an issue all week. What’s going thru an institutional trader’s mind in this market? Sam Rines explains.
On the commodities market, wheat was down 6% this week. Corn ended this week down about 1%. We’ll help you understand ag and fertilizer markets with Tracy Shuchart.
The dollar (DXY) is down a bit this week, about half a percent. Are global central bankers worried about a rising dollar and is there anything they can do about it? Albert Marko gives his insights on this.
1. How are institutions trading the intraday vol?
2. Ags and fertilizer: Demand Destruction vs Supply Shortages
3. $USD 💪 – 🙂 or ☹️
This is the 19th episode of The Week Ahead, where experts talk about the week that just happened and what will most likely happen in the coming week.
TN: Hi everyone, and welcome to The Week Ahead. I’m Tony Nash, joined as always by Sam Rines,
Albert Marko, and Tracy Shuchart. Before we get into it, please, please like and subscribe. Please like and subscribe.
Also, we just started our new CI Futures promo. You get your first three months free. Get global markets, currencies commodities economics with CI Futures. Check it out at completeintel.com/2022Promo
So guys, this week S&P was down 4%. So I think some people are relieved it wasn’t down more. WTI was up almost 3% and the 10-year yield was down 2.9%. So I think it was a little more tame, at least by the end of the week than some people thought it might be, which probably not helpful to everybody, but I think it helped people a little bit, just kind of get a grip on things.
So our key themes this week, first, how are institutions trading this market and more specifically kind of Intraday Vol?
For AGS and Fertilizer. Is it demand destruction or supply shortages or both? How are those playing out?
And for the US dollar strength? Are global central banks happy about it or sad about it?
So today for our first segment, Sam, if you can help us understand this. Intraday vol has been an issue all week and for the past couple of weeks. What’s going through an institutional traders mind in this market We’ve got a tweet and there was a great thread from Kris Sidial. I definitely recommend reading it. So can you walk us through that a little bit, Sam, what they’re thinking about and what institutional traders are doing?
SR: Sure. I would say what they’re thinking about is not losing money, particularly after you had the target earnings, Walmart earnings. There were some landmines out there in individual retail land. That brought up some call it concerns about the consumer. It brought volatility into places you hadn’t really seen volatility recently. So staples began to really get a little more volatile. In particular, they were more volatile than the S&P500 for the back half of the week. So you began to see call it the volatility spread on underlying issuer basis, but not necessarily really spiking at the headline index level.
TN: So traders are trying to keep it flat, right?
SR: They’re keeping their risk very tight. There’s quite a bit of blood in the streets, so to speak, particularly those trading rates and individual equity names. So yeah, I would say it didn’t look like it was that volatile, but the intraday vol was incredible and it took a lot of the risk out of the system. It’s worth noting that a lot of the risk managers out there aren’t looking at day to day vol. They’re looking at Intraday Vols, PNLs. So you’re likely to get a shoulder tap Intraday if you’re playing these markets with too much leverage.
TN: You tap out at like 2:00 PM or something because of your positions? Is that what happens?
SR: Or you just have to unwind one that you like. Right. If you put on a S&P future trade early in the morning and you get 100 point move Intraday in the S&P, you’re going to get blown out of that position pretty quickly. Right. You have to have really tight stop loss limits. That’s it.
TN: Albert, what are you seeing?
AM: Well, the Fed has done a marvelous job of erasing excess wealth out there, excess money. Not just from retail. Retail is dead in the water right now. But even institutional wise, a lot of funds just been obliterated for the past month and a half now? The problem becomes liquidity. And where is it? I’m looking at the order book on the e-minis, and it’s just there’s nothing there. There’s nothing on the buy side,
nothing on the… Nothing. So these massive 100 point moves, I mean, of course, we’ve never seen anything like this, but if you look at the problem with liquidity there, it makes perfect sense.
TN: So, Albert, from a hedge fund world perspective, do you think we’re going to see some hedge funds cleaned out? Obviously, Melvin, we know that story. But are we going to see some issues there with some funds?
AM: Without question, you’ll see a lot of them unwinding by the end of the year. I know a few personally that have closed up shop or in the process of closing up shop. And I can’t imagine there’s at least 25% more that’s out there that are in some serious trouble. I mean, redemptions will start taking off clients that were sold, big tech names in a zero rate economy, they’re gonna be calling every single day what’s
going on for returns, and there’s none to be found right now.
TN: Yeah.It’s tough to get things out right now. Okay, good. Thanks for that. Let’s move on to our second topic.
Tracy, wheat was down 6% this week. Corn ended down about 1%. We got an interesting viewer question from Thomas Sieckmann, who’s a regular viewer. Can you help us understand AG and fertilizer markets. Thomas is saying, “love to hearyour thoughts on AG commodities. Demand destruction versus supply shortages, fertilizer prices and shortages, drought, lots of cross currents.” Can you help us understand kind of those markets a bit better?
TS: Sure. Well, first, I don’t think you’re going to see demand destruction even at higher prices,
because people need to eat. Right.
TN: Eating is good. Yeah, right. We can agree on that.
TS: The thing is what I think we’re going to see a structural shift in the market, whereas you’re going to see different crops being produced over other crops. In other words, if we look at, say, wheat, for example, what’s happening right now is that wheat crops are being produced more because it’s easier to do, less energy intensive, and that’s going to make a problem on the corn market. Not necessarily in the United States. I would single out the United States as it is kind of a different market altogether?
But if we look at the global markets, where I think this is headed. We’re going to see shortages in areas where you didn’t think so. Right.
We’re all scared about wheat because of obviously Ukraine and Russia and then being major producers, et cetera. But that is going to, in turn, affect the corn market, global production and what those crops are, what crops are being produced globally, if that makes sense. I think that’s what we need to be on a lookout for.
And things like rough rice. Rice. Rice is going to, because nobody wants to put wheat and corn into, say, animal food anymore. Right. Rice is much cheaper. So I would look for rice to go much higher because
they’re going to use that to replace something like animal feed.
TN: Interesting. Okay.
So we’ve seen political instability in Sri Lanka, especially over the past couple of weeks, and part of that is just terrible government. Part of that is weak currency and food affordability. How far do you think this goes? Does it get extended to a lot of other countries, or is there a few other countries that this gets exposed to? Both you and maybe Albert, if you guys can both jump in on this.
TS: Yes, I think it extends. We’re already seeing that name around. Right. We’re already seeing protests in Iran, and I think that this is going to continue, especially in emerging markets. Right. So I think this is nothing new. I think we should expect more of this and be reminded of when we saw the Arab Spring. It all started because of food. Right. So that’s something that we need to pay attention to, in my opinion.
AM: Yeah, I agree with Tracy. Some of the emerging markets are going to be the most hardest hit. It’s funny, because four or five months ago when my client and I were sitting there discussing what countries to look at to invest in, and one of the key components is which ones are stable in their food supply.
I mean, the United States. But France is actually quite stable. I think that they can actually make quite a play for the European Union’s leadership over Germany going forward, specifically because they’ve got enough food to sustain themselves.
As for the other countries…
TN: That’s a good point, Albert. I hadn’t thought about that. But that’s a really good point about France.
AM: Yeah. Well, I mean, they got their own food. They have a big agricultural industry, they’re
top in the world, and they’re self sufficient. And they have water from the Alps, too. So they have everything they need for themselves. So they’re pretty isolated from this.
But you look at Spain, they’re in trouble. North Africa, they’re in significant trouble. Sri Lanka won’t be the first looking for at least a dozen more instances of that happening around the world.
TN: So we have a summer of new government.
TS: I’m looking towards Brazil and Argentina, even though everybody kind of hates those markets right now, is if we look at their agriculture? Their agriculture is robust. And so I think that in the end, that will serve them from an investment standpoint if you’re looking to invest in.
AM: But the only problem with Argentina is so I mean, their government is just absolutely atrocious. And then the Brazilian. High risk. And Brazilians have a big election coming up, and that’s going to be extremely contentious. So I would stay away from those two until after those elections happen and whatnot.
But yeah, I mean, Brazil, they have fertilizer, they have fruits, they have sugar cane, a lot
of chicken, a lot of soybeans, a lot of meat.
TN: Okay, perfect. Let’s move on to the next topic. Albert, we got a question from Gary
Haubold, who’s a regular viewer. He’s talking about the dollar and how central banks. There’s gossip that central banks are getting nervous about a strong dollar. So dollars up or down, sorry, a little bit this week, but how worried are global central banks about the dollar?
Of course, you have, say, the North African or Brazilian or other kind of fairly shaky monetary markets. But if you look to, say, European or developed Asia or some of those other markets, how worried are those central bankers about a strong dollar?
AM: Well, I just want to isolate this between just the United States and Europe right now, because that’s only really what matters to the market back in the United States. A strong dollar for the Europeans is not good. It’s just absolutely not good. It would be good if the Euro was falling. They had exports to send to China, but they don’t have that anymore. So now they have dollar liabilities that are getting out of control. And I think that the Europeans, I’ve heard whispers inside the Fed and treasury that they’re worried about a European financial crisis. And it makes perfect sense. If they want to get the markets down, blow up Europe, that’s the best way to do it.
TN: But I thought we’ve had a financial crisis in Europe since about 2012.
AM: Yes, but we have it every five or ten years because Europe is a welfare state. It’s a welfare state that lives on Fed swaps. Right. That’s all it is. And I don’t want to insult the Europeans on here, but let’s just get real here. Without Chinese exports, they’ve got nothing.
TN: Sam, what do you think about that?
SR: Yeah. If China doesn’t open up soon, it is going to be extremely problematic for Europe. That would be the saving grace in a lot of ways to Europe for a strong dollar. Other than that, there’s going to have to be some sort of interesting talk down to the dollar, either from treasury or some hawkish comments coming out of the ECB. And you’d begun to hear the ECB be a little bit more hawkish recently. If they really want the dollar to abate, they’re going to have to get more hawkish.
TN: Yes, for sure. And on your China point, I saw a story this week that the Shanghai Port was at about a 90% capacity at some point this week. Whether that’s true or not, I don’t know. But I saw it in a legitimate newspaper so let’s see how long that lasts.
TS: I was going to ask you, Tony. From a China perspective, how do you look at this opening? Do you think Shanghai is really opening like they say it is or is this hearsay or, can you give us a little bit of insight on kind of the China situation right now because that makes a huge difference in demand for energy and materials?
TN: Sure. Absolutely. So I sure want it to open because I want both China and the rest of the world to thrive but because of a lot of domestic considerations, COVID or monkey pox or whatever it is. I don’t know. They’re just lifting it slowly.
But we talked about this in detail on last week’s show but I really don’t think they’re going to open to any interesting degree until mid summer. Maybe later. I wish they would open tomorrow but they won’t. I think for a lot of reasons they’re kind of getting in their own way and I’ve said this many times China needs to be saved from China. It’s just such terrible management of the country and has been for 50 or more years
and they’re potentially going back into the great famine type of environment which I worry about a lot and that would be detrimental to everybody around the world.
TS: That makes sense.
TN: So on that happy note, thanks so much for taking time for the show, guys. Really appreciate that. Have a great week ahead. Thank you very much.
CNA: Welcome back to Asia First. Wall Street took a hit overnight amid concerns that a rise in Omicron cases would stall growth and add to inflationary pressures. Experts say supply chains and corporate profits could be dealt another blow as the possibility of increased restrictions is back on the table.
The Dow and the Nasdaq tumbled 1.2 percent. The S&P 500 closed 1.1 lower, with financials and materials among the biggest decliners. Also weighing on sentiment, Goldman Sachs has lowered its US growth forecast for next year. This after Senator Joe Manchin said over the weekend he would oppose President Biden’s 1.75 trillion dollar spending bill.
Let’s bring in Tony Nash. Now, he’s founder and CEO of Complete Intelligence, joining us from Houston, Texas. Lots to talk about today, Tony. So let’s start with Omicron. How much do you think potential measures are going to dent economic growth given the spread of the highly transmissible variant coinciding with the end of the era of cheap money?
TN: Yeah, it’s a good question. I think it really depends on where in the US you are. I’m in Texas and in in certain parts of the country you could barely tell that there’s a pandemic. There aren’t restrictions at all here, in Florida and other places. And also, we had our surge a couple months ago. So we’re on the downside of that surge now.
In the north, where you have kind of seasonal viruses, they’re on the up upward motion of the surge and so there’s a lot of sensitivity in northern states like New York, Boston, or Massachusetts, Washington DC, Michigan those sorts of places. So I think what you’re seeing is a kind of seasonal sensitivity because of Omicron and people getting nervous and so you know, again it really all depends where you are in the US.
For the upcoming Christmas break, flights are packed. Americans are traveling again. These sorts of things are happening. So, of course, there’s always a risk that people will do a hard lockdown like DC has put in some new measures today. But other places are seeing the virus as endemic and just kind of trying to move on with it. So, I think it could go either way but I don’t necessarily think we’ll have sustained negative impact. We could have short-term negative impact.
CNA: What about the risk from Fed moves and do you think the projected three rate hikes next year are going to be enough to contain inflation given the potential for Omicron to cause these price pressures to spike?
TN: Sure. You know, I do think that the Fed will pursue the tightening, meaning of its balance sheet pretty quickly. I think the rate hikes they’ll probably do one and wait and see and then they’ll proceed with the others later.
I think we can’t forget that 2022 is a midterm election year in the US and the Fed, you know, they they try to stay nonpartisan sometimes. But you know, there’s going to be a lot of pressure for them to make sure that the economy continues growing at an acceptable pace and kind of pushes down against inflation, So they’re in a tricky spot so they can’t just go out of the gate with three rises. They have to take one. See how the market digests it. Continue to build up expectations for the later rate rises then proceed based on how the expectations are set in.
CNA: What would that mean for the flows into markets given how Biden administrations Build Back Better Plan is also facing a setback? We could see a narrower bill than the 1.75 trillion on the social and climate front. What then do you think the market drivers are going to be if both the central bank and the government are curtailing that stimulus?
TN: Right. You know it is possible. Like I said earlier, kind of travel those sorts of things are coming back. I think Americans are just dying to get back to something that’s a little more regular, a little less constricted.
You know we do see things like food, entertainment, travel these sorts of things moving. Temporarily, we do see things like technology dialing back. But you know as we get into Q1 or Q2, we think that stuff will come back and be interesting again. So. But not necessarily as much of the work from home activities. People here are gradually getting back into the office.
So you know what we will see say for US equity markets is because tapering and interest rates we will likely see a stronger Dollar and that stronger Dollar will attract more money from the rest of the world as well. So both domestic growth, although it’ll be a bit tepid in ’22 will help to continue to push markets marginally.
We’re not going to see massive growth like we saw in ’21. But the the strengthening US dollar will draw up liquidity from other parts of the world, too.
CNA: Just very quickly if you can, Tony. What do you think the outlook for energy demand and oil prices is going to be like given how some countries are already reverting back to containment measures?
TN: Yeah. Oil is tricky. In the near term, I think oil is a little bit tricky for the next few months. I think the outlook is better as we get say to the end of Q1 and into Q2. But for now, we’re not expecting a dramatic upturn in crude prices like we’ve seen in gas prices in Europe and other places.
CNA: Okay, we’ll leave it there for today and keep an eye on those commodities. Thanks very much for sharing your insights with us. Tony Nash of Complete Intelligence.
In this first part, Michael talked about China’s household debt and how much is that? Can they ever recover from the Evergrande disaster? And how they got into it in the first place? Is CNY still valuable? How do the Chinese get dollars now with their very limited FX reserve? Should you use the digital Yuan? How much is China spending right now to up its GDP?
Michael Nicoletos have spent most of his life around markets, and I used to run a hedge fund for more than 10 years on emerging markets. He shut it down in 2019 to take a sabbatical and Covid 19 hit the world. Now, he is doing a lot of research on emerging markets and trying to see what the next steps will be in terms of the investment world. But in the meantime, he is also advising a few firms on their investment.
Tony Nash met Michael at a Real Vision event in 2019, when he was giving a presentation on China, and he had a chart in there that was actually Michael’s chart. They had a conversation after that and have stayed in touch occasionally since then.
This QuickHit episode was recorded on October 20, 2021.
The views and opinions expressed in this EM Meltdown: China, Turkey and Russia (Part 1) Quickhit episode are those of the guest and do not necessarily reflect the official policy or position of Complete Intelligence. Any contents provided by our guest are of their opinion and are not intended to malign any political party, religion, ethnic group, club, organization, company, individual or anyone or anything.
TN: So on China. Michael, I wanted to ask you, you sent out a tweet. I think it was last week talking about China’s household debt and it’s on the screen now. So it’s talking about how China’s household debt is at $10 trillion and looking at the ratio of China’s household debt to say, Hong Kong and the US. So can you talk to us a little bit about China’s household debt loads and what that really means for the Chinese economy?
MN: Well, as we all know, it’s been in the news lately. The Evergrande imminent. I don’t know if it’s going to be a default because there are some discussions right now to find a solution. But either way, it’s very hard for it to be repaid at its face value.
Now, the problem here is twofold. One problem is that China is highly levered as a whole, approximately more than 270% of GDP. The other thing is that real estate is approximately 62 trillion, I’d say the property market, which includes also home prices and everything. It’s about 62 trillion, of which around 10 trillion around sold properties. So it’s a very big backlog. The real estate crisis has started with Evergrande, and we’ve seen actually bond yield spiking in China real estate bond prices. And the big issue here is that banks are the ones who lend obviously to the real estates. So right now, banking assets in China are around 400% of GDP. And in Hong Kong, which is a proxy to China is around 900% of GDP. Just to put it in perspective.
In 2007, the relevant numbers for the US was 230%. And Ireland where the crisis started was like 700%. So we’re past both those levels. So we see that there’s a very big debt problem within China. Now, because China has capital controls in place, money cannot leave the country. So the bubble grows, grows, grows. But the money stays in the system.
So people now are starting to be afraid. And it’s the first month after six years that retail prices started falling in China. So this is creating a vicious loop. That fear that the contractor will not deliver your house. It means that you’re not going to purchase a new house. So you’re afraid. People in China have stopped buying, which creates a negative, vicious look.
So China has tried to avert this at least three or four times in the past ten years. Every time China is trying to stem back from giving you debt, we see such a small crisis, and then China is forced to reverse immediately because it cannot afford. It’s too big of an economy. Real estate is approximately 29% of China’s GDP. So you understand that something like that is very hard to control.
Now, China has been a rock in a hard place because I’ve been trying to shift from an investment, let’s say, investment intensive economy to a more consumption driven economy.
TN: This has been a 20-year transition, right? It’s not something they started two years ago. They’ve been trying to do this for, like, 20 years, right?
MN: They’ve been trying to do this, say ten years. But let’s see, consumption as a percentage of GDP is around 38%. When in the US, it’s around 70%. It’s very hard to get that number higher. And given that all the wealth or most of the wealth by Chinese people, is linked directly or indirectly to real estate, you understand that this is a chicken and egg problem. If you try to stop one problem, you’ll create the other problem.
MN: So there are these problems right now in China. I think China will be forced to reverse course again. I don’t think you can afford to create a real estate crisis. I don’t think there would be a world contagion, by the way. But I think it could create a spillover effect with other real estate entities. Evergrande, the size was around 300 billion. It’s actually the biggest one. So we’ve seen the biggest one. And the thing is this could spill over to the whole industry.
Now, what’s the problem here, besides that? The problem is that China has been trying to convince banks and actually all the regions to stop giving loans, which are unproductive. Now, because GDP in China is an input number and not an output number like it’s in the Western countries, whatever the number the government sets, that’s what everyone tries to achieve and they can achieve it by giving more money.
TN: I just want to stop you there because I don’t think that point is well understood. When you say GDP is an input number in China and it’s an output number everywhere else. I’ve been trying to make this point for years to people, and you say… Help me understand, when you say it’s an input number. What do you mean in simple terms?
MN: In simple terms is the government wants 7% growth, so everyone will do the best they can to achieve that 7% growth, no matter what. So it means if I’m a bank or if I’m a region in China and I need to do more, I need to produce more growth. I’ll give out loans, which could be unproductive.
What do I mean? If I build a bridge, this is the most common example. If I build a bridge, when I build a bridge, this is counted in the GDP growth. Now, if I destroy the bridge, that is not deducted by the GDP. Right? If I rebuild the bridge, it’s added again. So in theory, you could make one bridge, build it, destroy it, build it, destroy it. And you would only have growth. So when China wants an input number, it will create bridges. The bridges could be, as we say, the usual “bridges to nowhere.” The famous quote. Or it could be bridges, which are useful. So all these unproductive debt went mostly to properties. And that’s why we see all these vacancies and all these ghost towns around China which actually were built and this was added in the GDP growth numbers. But then no one went to live there and the towns are there, and now they have to bring them down.
TN: Right. Now, you’re famous for kind of calculating for every say CNY spent by the Chinese government, it results in X amount of GDP, right? There used to be a multiplier effect to CNY spent and GDP. But you started seeing as that was diluted. So when you last calculated that, what was that number? For every say Chinese Yuan spent how much GDP was created?
MN: So your viewers can understand because it’s a bit technical. So let’s assume you’re an economy and you create debt. You want that debt to create more GDP than the debt you’re giving. So if you’re giving one unit of debt, you want that one unit of debt to create one point, something of GDP.
So in theory, you would want it to be two, three, four. Okay, that’s not very easy. But if it’s a plus, it means that your debt was accredited. So it helped the economy. The problem here is, since 2008, China from using approximately let’s say, two units of debt to create one unit of GDP. So we’re already negative, because when you have two units of debt to create one unit of GDP, it means that that one unit will end up as a bad debt at some point. It’s not imminent, but at some point it will add up. So we went from 1 to 2.2 units of debt to create one unit of GDP. And right now we’re approximately between eight and nine units of debt to create that same one unit of GDP. So China needs more and more debt to sustain the same rate of growth.
TN: Right. So instead of a multiplier effect, which is what kind of economic impacts people usually talk about, there’s almost a divisor effect in China.
MN: You could say that. But because it’s a closed economy, that money can’t leave the system. So in theory, if you had a free account or if you had an open capital account, the Chinese will say, oh, my God, my currency is overvalued. Or let me take some money out of China and make a dollar. Now, this is not possible because Chinese have, I think, a quota of $50,000 a year they can take out? Something like that. Now, obviously, there are ways to take money out, but it’s not the easiest thing, and it’s not for everyone.
TN: I guess. It’s jewelry and watches the latest.
MN: Right. Okay. It was also Bitcoin. They try to be creative. Well, there’s a good ratio here, which is pretty interesting, and people forget. Now, if you devise the M2, the FX reserves to M2, why do I do that? Because let’s assume money is the money supply within the system. The ratio goes to 9%. Now, the Tiger countries in the Asia crisis in ’97 had the same ratio of approximately 25% to 30%. When it dropped below the 25%, you had the big devaluation.
Now, China doesn’t have a big external debt. So since it doesn’t have a big external debt, there is no trigger from that side of the equation for China to be forced to liquidate that fixed reserves to cover for it. But even though they have approximately $3.2 trillion of FX reserves and maybe another trillion from the banks and everything. I’d say 4 trillion. The M2 is approximately around $36 trillion right now. So these numbers… Imagine a hot balloon that you put air. At some point it’s going to blow. We don’t know what that level is. Okay. It could be like ten years before that happened. Or we could see, in my view, the Japan-like model where for ten years, you have an anemic growth. But you don’t see anything really, not a substantial bust. Because one thing.
TN: You also just destroyed the idea of China becoming a global currency, of the CNY becoming a global currency. Right. Because if they do have to trade on an open basis, then it’s way overvalued. Right. It’s like monopoly money.
MN: Well, China tried or is trying, at least. And it appears through Alipay and WeChat to create a digital Yuan. Why does he want to create a digital Yuan. It’s pretty simple. If the world is using a digital Yuan outside China, it means that the CNY or Yuan or Renminbi or whatever you want to call it, will be used abroad. So this means that it’s usage outside China will increase.
We’ve seen, however, that during the last two years, and I’m sure you have the guests, which are better to talk about this, know this subject a bit better than me. The dollar usage has gone up. The dollar is around 87% of global transactions. It actually went up. So there’s a discussion where everyone says the dollar is dying. The dollar is dying, the dollar is dying. Okay. And I understand where it’s coming from because of the policies. But monetary policies are relative. They’re not absolute. Maybe US is doing something bad, but the rest of the world is not doing something better.
So right now, the US dollar dominance increases. Now. I’m pretty sure I understand that this cannot stay at current levels. But going from 87% to being to 5%, it’s not something that’s going to happen in the next 2 years.
TN: I think the dollar had been down to like 82% six to seven years ago. And seeing it go up to 87%, that’s not a small amount. But the Fed does not want to be the World Central Bank. The US Treasury does not want to be the world’s treasury. So there’s this belief that the US wants to be the dominant global currency. I don’t necessarily believe that’s true. I think there are advantages to having a large portion of global currency usage, but I think 87% is just way too much. It’s way too much concentration of risk, actually, for the Fed and for US monetary officials. Go ahead. Sorry.
MN: No, you’re absolutely right. I think you’re right. However, the US, I think would like to remain the number one. Now, I don’t know what the percentage, the optimal percentage would be. But I’m pretty sure they prefer being the dominant than not being the dominant.
TN: Oh, yeah, absolutely. They want to say number one, but 87% is just too much.
MN: Since we’re talking about the dollar. The important thing about the dollar is that if the dollar strengthens, okay. And I don’t have a strong view here, I think it’s going to strengthen, but I understand if it doesn’t. If the dollar strengthened, this puts the pressure on emerging markets as a whole, because usually emerging markets tend to borrow in foreign currency because the foreign currency interest rate is much lower than the local currency.
For example, in Turkey, it’s 20%. The dollar is 0%. So if there’s a Turkish corporate wants to launch a bond, it will borrow on dollars at five 6% instead of borrowing at 20%. So they try to do that.
Now, as the dollar strengthens, especially for emerging markets, this puts pressure to repay the debt and it becomes harder and harder. So if the dollar were to strengthen, that would create a very, very big problem. I think the Goldman Sachs issued a report where it showed that the growth divergence between emerging markets and developed markets is at its lowest point. If you look at the cycles and it leaves that it could expand and right now, I think it discounts like a 4% growth for EM as a total.
So if the dollar strengthens, I don’t think we’ll see these numbers. I think you’ll see pressure on EM. Huge.
TN: Talking about EMs, and we talked about reserves and you mention Turkey. Let’s talk about Turkey Turkey for a minute because you’ve made some really interesting statements about Turkey. And I’d like to really understand your perspective.
Geopolitics experts Albert Marko and Nick Glinsman are back on QuickHit for a discussion on the Federal Reserve, the ECB, and central banks. What are they thinking right now?
Albert Marko advises financial firms and some high net worth individuals on how politics works in D.C.. He worked with congressional members and their staff for the past 15 to 20 years. In his words, Albert basically is a tour guide for them to figure out how to invest their money.
Nick Glinsman is the co-founder and CIO of EVO Capital LLC. He does a lot of writing and some portfolio management. He was a macro portfolio manager in one of the big micro funds in London for quite a few years. Prior to that, Nick was with Salomon Brothers. Now, he concentrates on providing key intel, both economics and politics on a global level to finance managers and politicos.
This QuickHit episode was recorded on July 29, 2021.
The views and opinions expressed in this The Fed & ECB Playbooks: What are they thinking right now? (Part 1) QuickHit episode are those of the guest and do not necessarily reflect the official policy or position of Complete Intelligence. Any contents provided by our guest are of their opinion and are not intended to malign any political party, religion, ethnic group, club, organization, company, individual or anyone or anything.
TN: Today we’re talking about central banks and given where we are in “the cycle”, whatever that means at this point, post or late Covid, we’ve had waves of support coming from finance ministries and treasuries and central banks around the world. Central banks seem to be in a very weird position right now. So I’d really love to understand your point of view particularly what the Fed and the ECB thinking about right now and what are some of the biggest dilemmas they have? Nick, if you want to go first and frame that out a little bit and then Albert, will obviously go to you.
NG: Well, given how long I’ve been doing this, I’m more of a traditional, black coated central bank watcher. And I would say a couple of key comments to make right now is I think they’ve lost their independence to a large extent. Harder for the ECB to lose its independence. But with the commission, you have that loss.
I also think that we are, defective monetary financing. And again, I’ll go back to the ECB, who literally for the last month, for everything that was issued in Europe and this reluctance by the Fed to, even they admit talking about talking about tapering, but this reluctance to even consider a pullback on the mortgage-backed securities. The jest, pretty much the same, and it’s very clear with a lot of the actions that I’m in, my interpretation is, one, they’re working in cahoots with the political arm.
So treasury in the US, commission in Europe. Bank of England is a slight exception about to happen, but we can cover that later. So that’s clearly going on. And I think now Albert might do a lot of work together and I think this Albert came out with a comment a while back saying Yellen wants six trillion dollars fiscal. And the excuse that was given, aside from the political bias, was the Treasury market needs it.
And interesting enough, we saw the change to the Repos yesterday. This was after criticism by a committee that was published in the F.T. yesterday. And even Bill Dudley’s commented on Today suggesting that a lot more work needs to be done to ensure that the normal functioning of the plumbing behind the form of safe assets.
So it’s clear to me that things are being worked on in a politically coordinated way that impacts monetary policy. Now, I think they’ve got themselves into an economic or policy black hole. I think the mind set, and it’s been like this since probably ’08, which is they’re not prepared to accept the economic cycle anymore.
So back to one of my previous appearances on on your pod, the Fed not doing anything? Yeah, it seems to me that that’s an acceptable process, regardless of inflation is way above their forecast. And forecasting that’s a whole ‘nother bad area for the… Fed’s forecasts are terribly wrong. The ECB’s forecasts have been wrong for, you know, since time immemorial.
The ECB is more dangerous because they have a bias that keeps them on their policy’s wreck.
TN: So first on forecasts, if any central bankers are watching, I can help you with that. Second, when you say they don’t believe in the business cycle anymore, do you mean the central banks or do you mean the political folks?
NG: The central banks and government. I mean, funnily enough, I’m reading a biography on Jim Baker right now. And when you look at Reagan, when he came in and Volcker, economic data was pretty bad back at the beginning of the 80s. That. No way, no politician is prepared to accept that anymore. To be honest, I think the central bankers are prepared to accept that anymore. Any of the people leading the central banks being political appointees, of course.
TN: So this is kind of beyond a Keynesian point of view, because even Keynesians believed in a business cycle, right?
NG: It’s a traditional Keynesian point of view. The modern day, neo Keynesian, yes, you’re right. Way beyond what they’re thinking.
TN: There’s a lot of detail in that, and I think we could spend an hour talking about every third thing you said there. So I really do appreciate that. Albert. Can you tell us both Fed and ECB, what are they thinking about right now? What are the trade offs? What are the fears they have?
AM: We’ll start with the ECB. The ECB is not even a junior player right now in the central bank world. I know people want to look at the EU and say, oh, it’s a massive trading bloc, so and so. But the fact is, that it’s completely insolvent. Besides the Germans and maybe the French in some sectors, there’s nothing else in Europe that’s even worth looking at at the moment.
As for the ECB’s standpoint, you know, they’re still powerless. I mean, the Federal Reserve makes all the policy. They first will talk to the Anglosphere banks that are on the dollar standard basically. I mean, the Pound and the Australian dollar and whatnot. They’re just Euro Dollar tentacles. But, for the ECB, they’re frustrated right now because they see that the Euro keeps going up and their export driving market is just taking a battering at the moment. But they can’t do anything because the Fed goes and buys Euros on the open market to drop the price of the Dollar to promote the equities in the United States. And that’s just happening right now.
When it comes to the Fed, we have to look at what is the Fed, right? Normally what everyone is taught in school is that they are an independent entity that looks over the market and so on and so forth. Right. But these guys are political appointees. These guys have money and donors. They play with both political parties. Right now, the Democrats have complete control of the Federal Reserve. And everyone wants to look at Jerome Powell as the Fed chair, but I’ve said this multiple times on Twitter, the real Fed chair is Larry Fink. He’s got Powell’s portfolio under management of BlackRock. He’s the one making all the moves on the market, with the market makers and coordinating things behind the scenes. He’s the guy to look at, not Jerome Powell.
I mean, have anyone even watched Jerome Powell’s speech yesterday? It was appalling. He was overly dovish. That’s the script that he was written. He’s not the smart guy in this playing field, in this battleground.
TN: He needs a media training, actually. I think.
AM: He’s being set up to be scapegoated for a crash. He’s just no one to show. He’s a Trump appointee. So next time there’s a crash, whether it’s one week from now or one month from now, it’s going to be pointed on him that, you know, he’s the Fed chair. Look at the Fed chair. Don’t look at everything else that the political guys have made and policies in the past four or five years that have absolutely just decimated the real economy.
TN: This time reminds me, and I’m not a huge historian of the Fed, but it really reminds me of the of the Nixon era Fed where Nixon and his Fed chair had differences and they were known, and then the Fed chair ended up capitulating to do whatever Nixon wanted to get back in his good graces. Does that sound about right?
AM: No, that’s a perfect example. I mean, this idea that’s floated around by economists that economics and politics are separate entities is absolute fantasy. And it just it doesn’t exist in the real world.
NG: Just to pop in on this one because actually there is a new book out which I started three days at Camp David. Because it’s coming up to 50 years since that decision of the gold standard. Now, it’s just interesting you brought it up, because if you think of one of the rationales for coming off the gold standard, there’s several, but one that struck me as I was reading actually the review, the back cover show Percy.
This enables the government to stop printing in terms of fiscal, fiscal, fiscal. That’s what it did in effect. First of all, that’s one of the biggest arguments against people who argue for a return to the gold standard because that would decimate things or cryptos being in a limited supply of crypto as the new reserve currency because the gain that would be pulling against the elastic and you wouldn’t get, the economy would just boom. Right.
So that’s where I think it’s just huge, you know. I’ve always said that actually what we have is what we’re going to ultimately see is exactly the same cost that came with Lyndon Johnson paying for the Vietnam War, Covid. And then the Great Society, which is Joe Biden’s what I call social infrastructure and green ghost plan. So. Going back to that, Nixon was paying part of the price for all of that. With Volcke right. So I actually sit there thinking, well. There are similarities right now, and we’re seeing effectively a central bank and the Treasury, wherever you want to look, untethered from what used to be, well before I started in this business, to be part of the discipline. But even when they came off the gold standard, there was discipline. As you referred earlier, to, traditional Keynesians believed in the economic cycle of boom, bust. You know, boom, you tap the brakes a little bit, take the punch all the way. That’s gone.
That is to me what’s gone on recently, I don’t know whether you would say since the 08 or more recently is the equivalent of that ’73 meeting where they came off the gold standard. People just said no more cycles. Tapping the brakes and now the central banks are in a hole and politicized, they’re not independent because there are no.
AM: Yeah, yeah, that that’s real quick, Tony. That’s exactly right. I mean, even like, you know, I was on Twitter saying we’re going to go to 4400. We’re going to go to 4400 and people are like “No way. We’re in a bear market. This thing’s going back down 37, whatever charts and whatever Bollinger bands they want to look at. But the fact is because of the politics has a necessity to pump the market and then crash it to pass more stimulus packages. The only way was to go up to 4400 plus, right.
TN: Right. OK, now, with all of that in mind, Nick, you did a piece recently about the Fed and housing and some of the trade offs that they’re looking out looking at with regard to the housing market. Now, housing is an issue in Australia. It’s an issue in the UK. It’s an issue in the US and other places. Can you walk us through a little bit of your kind of reasoning and what you were thinking about with regard to the Fed and housing?
Commodities expert Tracy Shuchart graced our QuickHit this week with interesting and fresh insights about USD, CNY, oil, and metals. Will USD continue on the uptrend with Yellen on board? What is the near-term direction of CNY? Will metals like copper, aluminum, etc. continue to rise, or will they correct? Will crude continue the rally or is it time for a pause? Watch as Tracy explains her analysis on the markets in the latest QuickHit episode.
This QuickHit episode was recorded on March 12, 2021.
The views and opinions expressed in this How robust is the global financial system in the wake of Covid? QuickHit episode are those of the guests and do not necessarily reflect the official policy or position of Complete Intelligence. Any content provided by our guests are of their opinion and are not intended to malign any political party, religion, ethnic group, club, organization, company, individual or anyone or anything.
TN: I’ve been focused for the past few weeks on the Dollar and Chinese Yuan and on industrial metals. Can you talk to me a little bit about your view on the Dollar? What’s happening with the Treasury and Fed and some of their views of the Dollar and how is that spreading out to markets?
TS: Right now, we have a little bit of mixed messaging, right? So, we have the Fed that wants a weaker Dollar. But then, we have Yellen who’s come in and she wants a strong Dollar policy. So, I think that markets are confused right now. Do we want a weaker Dollar or do we want a stronger Dollar? And so, we’re seeing a lot of volatility in the markets because of that sentiment.
TN: So who do you think’s gonna win?
TS: I think that Yellen’s going to win. I think we’re probably going to get a little bit of a stronger Dollar. I don’t think we’re going to see a hundred anytime soon again. We’ve seen stronger Dollar when she was at the Fed. She’s come in right now and said that she wants a stronger Dollar. We would probably have at least a little bit more elevated than the low that we just had, like 89.
TN: I think things are so stretched right now that even a slightly marginally stronger Dollar, let’s say to 95 or something like that would really impact markets in a big way.
I’ve been watching CNY. I watch it really closely and, you know, we bottomed out, or let’s say it appreciated a lot over the last six months. It feels like we bottomed out and it’s weakening again. What does that mean to you? What is the impact of that?
TS: The impact obviously will have a lot to do with manufacturing, with exports, and things of that nature. So if their currency starts depreciating, and they’re going to export that deflation to the rest of the world, it’s just starting to bounce over the last week or so. Unless we have another trade war, I don’t think we’re probably gonna see like seven, seven plus. I remember last time we were talking about it, we were talking about it’s going to be 7.20 and you nailed that. It’s definitely something to keep an eye on obviously, because they’re such a big purchaser and because they’re such a big exporter.
TN: We’re expecting 6.6 this month, and continue to weaken, but not dramatically. We’re expecting a pretty managed weakening of CNY barring some event.
What I’ve been observing as we’ve had a very strong CNY over the past six months is hoarding of industrial metals and we’ve seen that in things like the copper price. Have you seen that yourself? And with a weaker CNY, what does that do to some of those industrial metals prices in terms of magnitude, not necessarily specific levels, but what do you think that does to industrial metals prices?
TS: We’ve been seeing that across all industrial metals, right. It hasn’t just been copper. It’s been iron ore. It’s been aluminum. It’s been nickel. We’ve seen that across all of those. China likes to hoard. So when everything was very cheap like last summer, when everything kind of bottomed out, they started purchasing a lot. Then we also had problems with supply because of Covid. So prices really accelerated and then suddenly we just had China’s currency pretty much strengthened. We’ll probably see a pullback in those prices. It’ll be partly because of their currency. If they allow that to depreciate a little bit. And then also, as extended supply comes back on the market.
But it’s even getting to the point now where if you look at oil, oil prices are getting really high too. We’ll likely see China scale back on purchases, probably a little bit going forward just because prices are so high. Or we will see them, which we’re seeing now, is buy more from Iran, because they need the money. They get it at a great discount. It’s cheap. If they start buying more from Iran, that takes it away from Saudi Arabia and Russia, who are the two largest oil producers.
TN: When I look at Chinese consumption, at least over the past 15 months, there’s been almost an adverse relationship of CNY to USD and say industrial metals prices. It looks like a mirror. Crude oil doesn’t look that way. It’s really interesting how the crude price in CNY there really isn’t that type of relationship.
One would expect that if CNY devalues, they’ll necessarily cut back on purchases. I would argue and I could be wrong here, that it’s not necessarily the currency that would cause them to cut back on purchases. They’ve hoarded and stored so much that they don’t necessarily need to keep purchasing what they have been. Is that fair to say?
TS: They still like to hoard a lot. Between January and February, they were still up 6% year over year, where January was very high, February was lower because they have holiday during February. Oil, that is different. It’s not really related so much to their currency because you have outside factors such as OPEC, which has really taken eight percent off the market and they’ve held that over again for another month. And the fundamentals are improving with oil. I’ve been seeing a lot of strength in the market over the last eight months.
US is the world’s largest consumer. Whereas you look at something like industrial metals, they are the world’s largest consumer. When we were talking about crude oil, because that’s spread out so much, they don’t really have that much pull on the market per se that they would in metals markets.
TS: And I’ll remind you. I’m sure you remember this. When we spoke in Q2 of 2020, you said it would be Q2 of ’21 before we even started to return to normal consumption patterns for crude and downstream products. I think you hit that spot on. And it’s pretty amazing to see. I had hoped that it would return sooner, but of course it didn’t.