Outlook: We get CPI today, expected up substantially to 8.4% from 7.9% the month before. We can blame post-lockdown demand, supply chain cost pushes, and the Russian invasion of Ukraine. But also important is the New York Fed’s survey showing expectations for the future. While the public expects today’s data to be grim, by March 2025, it expects inflation at only 3.7%. This is down from 3.8% in February! And see the ZEW data above–Germans also expect a massive drop in inflation. Wishful thinking? Are we being snookered or is this realistic? Judging from Fed resolve, yes, it’s realistic. As for being snookered, it all depends on the Russian war and what happens in the oil/gas industry. Nobody is willing to forecast that right now. Today we woke up to the US contemplating higher ethanol content in gasoline, which reduces reliance on oil but also raises smog (and may not work if the sources of ethanol, like corn, are supply-constrained). If the public is right, we may well have a real return on fixed income for the first time in years. Say what you will about the motivation to save, a decent return on a safe investment will not go unnoticed. Right now, a savings account at Goldman Sachs yields 0.5%, and that includes a recent increase. Remember that while many folks have an interest in equities because they have IRAs and pension funds, the majority of Americans have no equity trading accounts, aka no skin in the game. And often deep suspicion of the stock market, some of it justified. But US government bond are still considered the safest thing on earth. Nobody is saying so, but positive real yield on government paper may seduce some crypto fans away. Not the get-rich-quick gang, of course. We have been complaining about the disconnect between the real economy and the bond market for a long time. This shows up most dramatically as a deeply negative real rate, and that was true even before inflation started to get a grip last year. (Another is the insane situation in some European countries–was it Denmark?–where the bank paid you to take out a mortgage with them. At least we didn’t get negative rates in the US.) Normalcy is hardly about to descend upon us, but here is a nice chart from the Daily Shot showing that TIPS–Treasuries protected against inflation–are nearing zero. Yippee! It’s progress. We are likely going to get some churning and burning on release of CPI and a couple of Fed speakers today, but beware the Tuesday pullback. The dollar index is a dreadful indicator (and mostly the euro, anyway) but it’s what we have. Hitting over 100 is an invitation for a sell-off or at least some profit-taking. This is an excerpt from “The Rockefeller Morning Briefing,” which is far larger (about 10 pages). The Briefing has been published every day for over 25 years and represents experienced analysis and insight. The report offers deep background and is not intended to guide FX trading. Rockefeller produces other reports (in spot and futures) for trading purposes. To get a two-week trial of the full reports plus traders advice for only $3.95. Click here!

This is a shorter trading week for the Easter public holiday, however, there are some key data releases to watch out for and as we have mentioned in recent notes, the markets are being driven by fundamentals at this stage of the cycle, so keeping up to date with political and economic data is critical. The main event that the markets are digesting at the start of this week is news that incumbent French President Macron won the largest share of votes in the first round of the Presidential election on Sunday. He will now face the second-round run-off with the far-right candidate Marine Le Pen, who made a stunning comeback, winning a decent 23% of the vote. The question for French and European asset prices, will the anti-EU, anti-NATO candidate become the French version of Donald Trump, and how will the euro react? Euro’s hopes rest with Macron While Le Pen has won a large share of the French vote, the last time she had a run-off with President Macron in 2017, the gap between them was narrower, thus, the markets are pricing in for another Macron victory. This is good news for the euro and European stock prices, as Le Pen is seen as a disruptive political and economic force for the currency bloc. The euro is leading the G10 pack higher today, and the Cac 40 is outperforming the FTSE 100 and the Dax, as markets believe that although it will be close, Macron will still win on 24th April and remain as President. A snap poll taken after Sunday’s vote, suggest that Macron will narrowly beat Le Pen. The poll by Elabe, which interviewed 1,500 people, found 52% would vote for Macron in the second round, vs. 48% for Ms Le Pen. While this is within the margin of error, another poll by IPSOS found that Macron would win by 54% vs. 46%, which is a more comfortable margin of victory and one that the markets are running with. Of course, there are still nearly 2 weeks to go, and Macron will need to hit the campaign trail hard and try to ameliorate the cost-of-living crisis, which is his weak spot that has been expertly exploited by Ms Le Pen. Overall, the market reaction to Sunday’s vote suggests that a win for Macron is positive for the euro and for markets, while a win for Ms Le Pen is negative. If we see polls showing the race narrowing, or moving in Le Pen’s favour, then expect the euro and French assets to sell-off. UK growth and stagflation risks Stagflation is being mentioned in relation to the UK economy, after February GDP, which was released early on Monday, came in below expectations at 0.1%. Considering that inflation is continuing to rise, and the cost of living is surging, the market is now fearful that UK could be entering a period of low growth and high prices, a la 1970s, which is particularly corrosive for economic growth and asset prices. The decline in output in February came after a stronger bounce in GDP in January, where the economy expanded by 0.8%. Growth in February was dragged lower by industrial production (down 0.6% vs. Jan), and manufacturing, which fell by 0.4% compared to Jan. Growth was boosted by services and tourism, although the service sector’s 0.8% expansion, was slightly lower than the 0.9% expected. The non-EU trade balance also weighed on growth as it widened. Unsurprisingly, due to Brexit red tape and the war in Ukraine, our EU trade balance narrowed. While services continue to grow at a decent clip, the decline in short-term manufacturing rates are of a concern, even if annual growth looks decent. Brighter skies ahead for the UK economy? The surging cost of raw materials and energy along with the supply chain crunch, could hurt this sector further and it is one of many economic consequences of the Russian invasion of Ukraine that are impacting the UK’s manufacturing and industrial economy. This won’t be unique to the UK, we expect Europe, especially Germany, to also be impacted. However, after taking a long time to recover post the Covid pandemic, the risk is that another weak month of growth could set the UK’s economic recovery plans back again. For now, the market may put this month’s weak growth report behind it and look to a brighter future and this is why GBP/USD has started the week on a bright note and is back above the $1.30 level, although after a weak start to 2022, the pound is looking extremely vulnerable against a resurgent dollar. As one would expect, EUR/GBP is mostly trading sideways, although the euro has a bid at the start of the week. While there are reasons to short the pound, we would note...

EUR/USD - 1.0881 Euro's selloff from 1.1184 (Thursday) to a 1-month bottom at 1.0837 on continued usd's strength due to rally in U.S. yields suggests early correction from March's 22-month bottom at 1.0807 has ended and as price has fallen again after yesterday's gap-up open to 1.0934 in New Zealand, consolidation with downside bias remains for re-test of 1.0837, break, 1.0807 later. On the upside, only a daily close above 1.0934/38 would signal a temporary bottom is in place and risk stronger retracement towards 1.0961, break, 1.0988 later. Data to be released on Tuesday Japan producer prices, Australia NAB business confidence, NAB business conditions. U.K. BRC retail sales, average weekly earnings, employment change, ILO unemployment rate, claimant count, Germany HICP, CPI, ZEW current conditions, ZEW economic sentiment, France exports, imports, trade balance, current account, EU ZEW survey expectation. U.S. CPI, redbook and Federal budget.

Investors continued to buy U.S. dollars, driving the greenback to its strongest level against the Japanese Yen in more than 6 years. The biggest driving force for USD/JPY right now are U.S. yields which have been in a relentless uptrend for the past 2 months. Today marks the seventh consecutive day of gains for 10 year yields which broke above 2.7%. To put this into perspective, just over a month ago 10 year rates were hovering under 1.8%.     Investors are convinced that the Federal Reserve will raise interest rates by 50bp at their next meeting as high prices persist. This is consistent with everything we’ve heard from Fed Presidents last week. We’ll hear from more policymakers this week and they are widely expected to reinforce the central bank’s hawkish views.  The upcoming inflation and consumer spending reports should also harden the case for aggressive tightening. CPI will be hot and retail sales will be supported by higher prices, higher wages and strong labor market conditions. The big question is how much further can USD/JPY rally? The closest resistance level is the May high of 125.86 but if this week’s U.S. economic reports surprise to the upside we could easily see the pair move to the April 2001 high of 126.85 and then 130.    In addition to these pieces of market moving U.S. data, there are also three central bank rate decisions on the calendar and two are expected to raise interest rates. The Reserve Bank of New Zealand meets first on Wednesday morning local time and they are expected to lift rates for the fourth time by 25bp. Some economists are looking for a larger 50bp hike but with supply constraints, rising prices, the lockdown in China and slower global growth, the RBNZ who has already raised rates by 75bp is likely to opt for a more conservative adjustment. By doing so, they would gain the flexibility of seeing how the market responds to Fed tightening and how the Russian invasion of Ukraine plays out.    The Bank of Canada on the other hand is wildly expected to raise interest rates by 50bp. This would be the second back to back rate hike from the BoC and the largest one month increase since 2000. Unlike the RBNZ, the Bank of Canada has only raised interest rates by 25bp and a half point move would bring rates to 1 percent. Even without the pressure of rising prices, the strong labor and housing markets support policy normalization. With inflation at a 30 year high, the BoC will most certainly step signal further tightening beyond this week’s move. Rates could easily hit 2.5% by the end of the year.     Unlike the RBNZ and BoC, the European Central Bank is not expected to raise interest rates. Although high inflation is also a problem in the Eurozone, growth is hampered by sanctions on Russia, supply chain issues and the shock of higher food and energy costs on consumers.  The rise in long term rates across Europe should help to cool prices. Even if the ECB can’t raise rates this week, there are steps that can be taken in that direction. The most important of which is addressing their Quantitative Easing program. Previously, the ECB said rates won’t increase until asset purchases end. The choice now is to end QE immediately or to shift guidance by suggesting that rates could increase as QE is unwound. We expect the ECB to raise interest rates this year but the move may not happen until the late third or early fourth quarter which leaves the central bank far behind its peers – a predicament that is negative and not positive for euro.     With the prospect of global tightening, ongoing Russian-Ukraine conflict, stress of high prices, supply chain issues and the COVID-19 crisis in China, we expect risk appetite to take a turn for the worse. The Dow Jones Industrial Average dropped more than 400 points today and while currencies held steady, a broad based sell-off may be right around the corner.  

Key Highlights EUR/USD extended decline below the 1.0950 support. It broke a key bullish trend line with support near 1.0980 on the 4-hours chart. EUR/USD Technical Analysis Looking at the 4-hours chart, the pair even traded below the 1.1000 level, the 200 simple moving average (green, 4-hours), and the 100 simple moving average (red, 4-hours). There was a break below a key bullish trend line with support near 1.0980 on the same chart. The pair traded as low as 1.0835 and is currently consolidating losses. An immediate resistance on the upside is near the 1.0915 level. The first major resistance is near the 1.0950 level (the previous support zone). The next major resistance is near the 1.1000 level. Any more gains might send the pair towards the 1.1050 level in the coming sessions. On the downside, an immediate support is near the 1.0840 level. The next major support is near the 1.0820 level. A downside break below the 1.0820 support level might send the pair towards the 1.0750 level.

Outlook: The data plate is not interesting (wholesale sales and inventories) and no Fed speakers are scheduled. The original trouble-maker, St. Louis Fed Pres Bullard, said he prefers the Fed funds target at 3-3.25% by year-end. The CME FedWatch tool shows a mere 10.8% of Fed funds traders see that as likely. (www.cmegroup.com/trading/interest-rates/countdown-to-fomc.html). We think Bullard will prevail—again. But first, bond market turmoil arising from acceptance of the Fed’s tightening plan. The 10-year yield has moved from 1.19% on Aug 8, 2021 to 1.52% at year-end to 2.50-2.68% this week. A Reader asked whether we will see a replay of 3/78 to 10/81 when the 30-year went from 8.24% to 14.49%. The answer is no, for several reasons. First, we didn’t have QE in the late 1970’s. QE artificially reduced yields and nobody knows by how much. This is a key reason why yield curve inversion today that predicted past recessions is questionable. History will not repeat exactly but some of it may rhyme. Consider that when yields were up in the stratosphere, they still delivered a real (after-inflation) return. Ed Yardeni rides to the rescue. See his chart of the 30-year. It was not a real negative for 42 years until QE came along in 2020, although falling since 1994. The 10-year shows we had negative real rates in 1974, 1979, 2008, 2012, the last one without an accompanying recession. There’s plenty to quibble about in these charts, including the criticism that the timeframes should be shifted to show lag. But quibbles miss the point that negative real returns are rare, unusual, and scare the pants off everybody, while not always driving capital to equities. Second, which inflation metric are we using? The third Yardeni chart shows quite a divergence between two inflation measures. So, if the 10-year ends this calendar year at (say) 3.5%, it will still not be delivering any real yield if inflation remains at the Fed’s forecast of 4.3% by year-end (and 2.7% by end-2023). Or worse, CPI. Let’s assume core CPI stays the same 6.4% in Feb (Trading Economics sees it rising to 6.7% in April for March, but put that aside). And let’s further assume it stays at 6.4% to year-end and does not moderate. If the 10-year yield is 3.5%, the negative yield is 2.90%. If we loosen the assumption and say inflation will be 4%, it’s still a negative. Inflation forecast are all over the place. Everyone has one—the BIS, the OECD, the IMF, private economics organizations like the Peterson Institute, even Kiplinger (with 10%, wow). The breakevens have 3.28% in the 5-year and 2.83% in the 10-year. Obviously, several somebodies are going to be wrong. Equally obviously, there is too much variability in the inflation forecasts for the upcoming Fed events to be properly priced in. As explained before, the pricing-in concept seems to be a corollary of the efficient markets hypothesis that pretty much fails empirical tests (as well as common sense). We would not get overshooting if events could be priced in properly. Besides, no one has a crystal ball. Sometimes it’s the idiots who control sentiment and it’s sentiment that determines price. In order for the 10-year to deliver a meaningful real return, with inflation at 4-5%, that mean a nominal yield of 6-7%. The probability of getting that during this year is almost zero. What about 2023 or 2024? Well, maybe. But Fed talk of the neutral rate at 2-2.5% by then is just plain silly. They are going to have to rachet that up. Now what do we do about recession? Markets expect the Fed to relent if recession arrives. The Fed says this time it won’t, but you never know. It held back on 50 bp in favor of 25 bp at the last FOMC meeting because of the Ukraine war. What can happen to change its mind again? One clue might be companies’ willingness to invest in new production capacity. Capital spending plans are a proxy for future economic growth, aka GDP. The Atlanta Fed GDPNow model puts a lot of weight on it. Capital spending affects jobs as well as input/construction prices and output prices, too. If we are getting a recession, we expect capital formation to crash. See the chart of capital spending. This is a prerequisite for recession as well as the proof if it. In the grand scheme of things, interest expense is not the top factor in the capital investment decision—it’s demand, plus the cost of inputs. As things like copper, steel and other inputs go nuts because of the war (like chips went nuts because of Covid), investment will likely fall. A corollary is capacity utilization. High numbers imply inflationary pressure from within, so to speak. This is doubly dangerous with a raging labor shortage. Some producers can get more...