Quarterly Outlook
Fixed Income Outlook: Bonds Hit Reset. A New Equilibrium Emerges
Althea Spinozzi
Head of Fixed Income Strategy
Summary: Another day brought another sharp direction change as markets rallied steeply from the prior day’s funk, with the Nasdaq 100 index crossing back above the 200-day moving average, which has been in play in recent days. Heavy anticipation ahead of tonight’s FOMC meeting and whether the Powell Fed will confirm the market’s view of imminent peak rates at the next meetings or two after today’s. Key US economic data also up through Friday’s US jobs report.
The earnings releses yesterday helped aggregate earnings q/q to improve for Q4 easing some of the concerns around earnings recession, but despite better than feared Q4 figures many companies are still cautious on their Q1 outlook. Indicators suggesting wage costs are easing in the US also helped drive sentiment back into positive mood on top of the market betting the Fed might blink after all tonight on its monetary policy trajectory. S&P 500 futures rallied 1.9% from the intraday lows yesterday into the close around the 4,085 level. US equity futures are stabilising this morning around yesterday’s close and we expect little action ahead of tonight’s FOMC rate decision.
The Hang Seng Index took a pause in its retreat and consolidated with a modest 0.6% gain. CSI 300 traded sideways and was up 0.3% as of writing. Caixin China Manufacturing PMI came in weaker than expected at 49.2 in January (vs consensus: 49.8; Dec: 49.0), the sixth month in the contraction territory. According to the chief economist at Caixin, optimism has improved in the manufacturing sector but both domestic and external demand, and logistics were yet to fully recover. Baidu (09888:xhkg) and BYD (01211:xhkg) each surged 5.8% and were the biggest winners within the Hang Seng Index. Shares in Baidu, the Chinese search engine, were boosted by chatters that Baidu was developing an AI-powered chatbot similar to ChatGPT. BYD extended yesterday’s gain after reporting a preliminary 2022 profit of RMB 6.7 – 7.7 billion which represents a 425% to 458% growth from a year earlier. ChatGPT concept stocks also advanced in the mainland’s A-share market.
Yesterday brought another sharp direction change in sentiment, with a souring mood suddenly gathered up by the beginning of the US session yesterday after the US dollar had rallied sharply, seemingly in recognition of the blitz of event risks in coming days, starting of course with tonight’s FOMC meeting. EURUSD found support ahead of 1.0800 and rallied back toward 1.0875 into this morning. AUDUSD found support just below 0.7000 and bounced back, etc. A key test for central bank guidance and how much the market buys into that guidance in coming days, as the market continues to price for imminent peak Fed policy rate, with perhaps one more 25 basis point hike after tonight’s presumed 25 basis point hike before a pause. The ECB, meanwhile, is seen hiking 50 basis points tomorrow and then tacking on at least another 100 basis points of hiking at coming meetings. Will markets listen to central bank guidance, or will incoming data rule the day in coming days and weeks? The market has persistently ignored Fed guidance for policy beyond the next few meetings.
Crude oil prices found support on Tuesday as technical, not fundamental, selling pressure from funds started to ease. Money managers added 95 million barrels during a two-week period to January 24 and the subsequent failure to break higher last week triggered a period long liquidation. With that pressure reduced the market may once again focus on current fundamentals which on balance remains supportive as China recover while the supply outlook remains uncertain with the upcoming threat to supply from the next round of sanctions against Russian sales of fuel products. Focus on FOMC meeting, OPEC+ JMMC recommendations, and EIA’s weekly stock report after the API reported a 6.3-million-barrel increase.
Gold passed its first proper correction attempt since mid-December with flying colours on Tuesday, when a slump to key support in $1900 area was followed by a 30-dollar bounce back, supported by a weaker dollar after it also failed in its correction attempt to move higher. The US employment costs eased last quarter (see below), thereby supporting an expected 25bp rate hike from the FOMC today, action that is expected to be followed up by hawkish comments in order to send strong a message that cuts are not on the table anytime soon. The World Gold Council reported that demand for gold rose around 20% in 2022 to its highest since 2011, driven by “colossal” central bank demand, at 1,136 tons the highest in 50 years. It highlights the reason why gold did so well last year despite surging real yields and the much stronger dollar. Support at $1900 & $1865.
Copper, just like gold, managed to find support after an end of month selloff was halted before the technical picture managed to turn negative. HG Copper bounced before reaching its 21-day moving average, today at $4.13/lb (LME at $9100), and its 38.2 fibo retracement at $4.11/lb (LME at $9030). The bounce back being supported by a weaker dollar following the weaker-than-expected US employment cost index. Focus on the FOMC and its impact on the dollar as well as ongoing supply disruptions in Peru underpinning prices while awaiting an expected pickup in demand from China.
Bids came into the front end to the belly of the Treasury curve following the growth in the U.S. employment cost index, a preferred wage and benefit barometer of the Fed came in at 1% in Q4, below the 1.1% expected, and decelerated from 1.2% in Q3. The 5-year notes outperformed with a 5bp drop in yield to 3.62%. Yields on the 2-year and the 10-year were 3bps lower to 4.20% and 3.51% respectively. Gabriel Rubin and Nick Timiraos of the Wall Street Journal suggested that the cooler worker compensation gains increased “the possibility of a pause in rate rises this spring”.
Q4 earnings have been mixed relative to expectations so far but yesterday’s earnings releases lifted the mood. But not all earnings were positive. Caterpillar delivered Q4 revenue of $16.6bn vs est. $15.9bn while EPS missed slightly against estimates. Despite putting out a positive outlook for 2023 due to favourable prices, shares were down 4% during the trading session. Caterpillar said on the conference call that prices in 2023 will offset manufacturing costs and North America construction is seeing good momentum while China is still slow and will be below 2022 levels. UPS misses on revenue but EPS beats despite average revenue per package coming in lower than estimated most likely due to cost cutting exercises. The logistics company is authorizing a new share buyback programme of $5bn. UPS 2023 outlook on revenue came in lower than expected and management said on the conference call that Europe is likely in a recession in the first half of 2023 and China should recover after Q1; it also said that Amazon’s share of volume declined to 11.3% in 2022 from 11.7% in 2021. Snap reported after the market call Q4 revenue of $1.3bn in line with estimates and EPS was $0.14 vs est. $0.11. Snap said revenue was down 7% year-to-date vs their own internal forecast of -10% to -2%. Shares were down 15%.
Novo Nordisk has reported Q4 earnings this morning in Europe with Wegony (obesity drug) revenue at DKK 2.5bn vs est. DKK 1.7bn helping overall revenue to beat estimates. The company is additionally putting out a very optimistic 2023 outlook on revenue and operating income of 13-19% on top of a big share buyback programme of DKK 28bn.
The Fed’s preferred measure of wage gains, the employment cost index, slowed to 1% last quarter from +1.2% in Q3, coming in a notch softer than the expected at 1.1%. The fall was led by wages and salaries falling to +1.0% from +1.3%, while benefit costs fell to +0.8% from +1.0%. While the report signals that wage pressures may be easing and could mean that the Fed’s against inflation is working, more data will be needed to confirm the trend. Meanwhile, US consumer confidence in January dipped to 107.1, short of the expected 109.0 and the prior, revised higher, 109.0. The present situation index encouragingly rose to 150.9 (prev. 147.2), but the forward-looking expectations index declined to 77.8 (prev. 82.4). Chicago PMI slightly declined in January to 44.3 from 45.1, beneath the expected 45.0.
Coffee jumped 6.7% on Tuesday, thereby adding momentum to the strong recovery that has seen the quality bean surge 29% during the past two weeks to reach a three-month high at $1.82/lb. The fundamental driver being a deteriorating outlook for coming season in Brazil forcing a major turnaround from hedge funds who in recent weeks had amassed the biggest net short in more than three years. It highlights the importance of watching the weekly COT update as a change in the technical and/or fundamental outlook can have an outsized price impact when positions are elevated.
The FOMC meeting is up tonight, with the general narrative that the FOMC and Chair Powell will continue to push back against expectations for the Fed to reach peak policy rates after perhaps one more 25 basis point hike after today’s and then begin cutting rates by year-end. But as the market has ignored Chair Powell’s protestations on the market’s forward expectations before, it is tough to see how he makes a strong impression unless taking drastic (and unlikely) measures like hiking the policy rate 50 basis points. Incoming data, starting with the upcoming ISM’s (today and Friday) and the Friday jobs and earnings data, may weigh more in the pricing of the Fed policy rate from here. The ECB is up tomorrow and is expected to confirm the markets view of significant further tightening in the pipeline after another 50 basis point hike. The Bank of England tomorrow is less certain, as the BoE may try to sneak in more cautious guidance, given the weak performance of the UK economy.
Our US earnings focus today is Meta and Southern Copper with Meta likely to reflect the weakness in online advertising that Snap communicated last night in their Q4 earnings release. Meta is expected to report Q4 revenue growth of –6% y/y and guide Q1 revenue growth of –2% y/y which could prove to be too positive given Snap’s indications on year-to-date revenue growth of –7%. Southern Copper is expected to report Q4 revenue growth of –13% y/y and EPS of $0.81 down 31% y/y.
0815-0900 – Eurozone Final Jan. Manufacturing PMI
1000 – Eurozone Jan. CPI estimate
1315 – US Jan. ADP Private Payrolls change
1500 – US Jan. ISM Manufacturing
1530 – EIA's Weekly Crude and Fuel Stocks Report
1900 – FOMC Meeting
1930 – US Fed Chair Powell press conference
2130 – Brazil Selic Rate
0030 – Australia Dec. Building Approvals
0030 – Australia NAB Business Confidence
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