Quarterly Outlook
Fixed Income Outlook: Bonds Hit Reset. A New Equilibrium Emerges
Althea Spinozzi
Head of Fixed Income Strategy
Summary: A choppy session in the US yesterday after a surprisingly hot June CPI report roiled markets and actually inspired tech and growth stocks to new highs as US long yields initially dropped before a weak US T-bond auction reversed that development and dented confidence. Today, US Fed Chair Powell is in the hot seat as he is set for semi-annual testimony before a House panel, while the Bank of Canada may be the next central bank to tighten policy today.
What is our trading focus?
Nasdaq 100 (USNAS100.I) and S&P 500 (US500.I) – a confusing day for traders yesterday, as the Nasdaq 100 in particular actually found encouragement from the high US June CPI reading, which actually saw long US yields fall yesterday for a time after the data release, pumping the yield-sensitive Nasdaq 100 to a new all-time high before the big reversal in yields back higher likewise erased that development. Small cap and value stocks were lower on the day from the get-go. After a long and arguably over-bought rally for the big indices, the loud divergences in the market internals suggest that the market will not take kindly to any further rise in yields.
Bitcoin (BITCOIN_XBTE:xome) and Ethereum (ETHEREUM_XBTE:xome) – Cryptocurrency prices continue to drop, with Bitcoin edging closer to the key 30k area and Ethereum likewise under pressure well below 2,000 at sub-1,900 levels this morning. The strange narrative is that this is due to the strong inflation yesterday in the US, perhaps on the fear that this will bring forward Fed tightening measures (although we do have the ongoing backdrop of a Chinese crackdown on mining, etc.)
EURUSD – With US Fed Chair testimony today after a new huge spike in US inflation data and the ECB indicating that it is set to more or less announce “QEternity” at next week’s ECB meeting, it is time for EURUSD to either make a stand or breakdown more thoroughly here with a move through the key 1.1704-1.775 area (the latter near the neckline of a head-and-shoulders formation and the former the pivot low from March 31).
USDCAD – as noted below in What are we watching next?, the Bank of Canada meets today and will need to further taper its QE to boost the CAD from here and possibly provide further hawkish guidance to see CAD buyers come back into the market. The key USDCAD pair has backed up to a key resistance zone into 1.2500-1.2600 with a sufficiently hawkish surprise possibly able to engineer a bearish reversal if the US dollar fails to tack onto its rally after yesterday’s blowout inflation numbers. A close below 1.2400 would suggest that the action in USDCAD will remain capped for now.
Gold (XAUUSD) a distinct sign of resilience in gold’s ability to rise yesterday as the US June inflation spike was respected by US breakeven inflation measures, which spiked in sympathy, taking short real US yields lower. The precious metal still needs to take out the local resistance ahead of 1,820 and then the 020-dy moving average several dollars higher to show real signs of piecing together a more determined rally, and the 1,850-1,900 zone looks a high hurdle to clear for now, but if the market loses its faith in buying into the Fed’s “transitory” inflation narrative, a rally could yet be in the making.
US Treasuries (SHY:xnas, TLT:xnas, IEF:xnas) saw a choppy session yesterday than ended with yield rising all along the yield curve in the wake of the US June CPI data print. Initially in the wake of the hot inflation data, long treasuries actually rallied, supposedly on the idea that higher inflation data would prompt the Fed to tighten policy, but a weak 30-year T-bond auction changed the narrative later in the session, as the demand slid to the lowest since July of 2019, and indirect (foreign) bidding interest faded relative to recent auctions. The US treasury market is the market most capable of spooking other markets if yields all along the US yield curve (not just the front-end more directly controlled by the Fed) continue to rise.
What’s going on?
US CPI comes in far higher than expected: in a considerable jolt to expectations of CPI heading sequentially lower for the second time since the multi-year high in April, the US June headline CPI was +0.9% MoM and +5.4% YoY vs. +0.5%/+4.9% expected and vs. +5.0% YoY in May. The Ex Food and Energy CPI was +0.9% MoM and +4.5% YoY vs. +0.4%/+4.0% expected and vs. +3.8% YoY in May. The core YoY reading is the highest since November 1991. Once again, the outsized jump in prices is due to a few categories (used vehicles, airfares, hotel stays etc.).
PepsiCo (PEP:xnys) PepsiCo, the snack and beverage company, leaped over 2% yesterday on far stronger than expected results, as the company saw its fastest sales growth in over a decade on reopening restaurants and other venues. Ex-acquisitions and currency effects, Q2 revenues were 13% higher at $19.2 billion vs. $17.9 billion expected and EPS were $1.72 vs. $1.53 expected. The company raised its full year forecasts.
New Zealand central bank set to wind down QE – the market was looking for confirmation that the RBNZ plans a rate hike later this year, but got a bit more than expected as the RBNZ indicated it will halt all QE purchases almost immediately, by July 23, a likely prelude to a rate hike, as the statement removed any reference to the need for considerable time and patience to achieve inflation and employment goals.
What are we watching next?
US Fed Chair Powell testimony today and tomorrow – the semi-annual testimony is the premier chance for the Fed chair to communicate with US lawmakers, but is often a boring affair with endless political posturing from the panel to which the Fed is testifying. Given that this testimony today (before a House panel) and tomorrow (before a Senate panel) comes just after the very hot June inflation print, the questions could be a bit more pointed on whether the Fed is allowing things to run too hot, and especially on the advisability of continuing to purchase $40 billion of mortgage-backed securities every month when housing prices are soaring, eroding affordability.
US child tax credit payments set to go out starting July 15. The payments, set to run for the next six months and paid mid-month, are a part of US President Biden’s $1.9 trillion stimulus plan and would mean that just under 40 million households will be eligible to receive $250-300 per child. As this is money for households that earn under $75k, the proclivity to spend could be high and could feed straight into the economy, retail sales, etc.
Bank of Canada Meeting today – The Bank of Canada meets later today and is expected to wind down it QE purchases again after first doing so at the April meeting, perhaps feeling a bit more comfortable in doing so now that the USDCAD has bounced from lows near 1.2000 to closer to 1.2500 recently. The pace may drop to CAD 2 billion per week from the current CAD 3 billion, with guidance on eventual further tapering or rate hikes also critical.
Democrats unveil huge $3.5 trillion “go it alone” spending plan - this is on top of the $600 billion plan that the Democrats are trying to achieve with bipartisan support. The ability of such a large plan to pass will depend on “kingmaker” single Democratic senator Joe Manchin of West Virginia, who has expressed a reluctance to sign on to straight partisan deals and large spending plans that are not “paid for”.
Earnings for the rest of this week. After blow-out results yesterday pumped PepsiCo shares for strong gains and mixed results from megabanks JPMorgan and Goldman Sachs saw their share prices weaker, the focus today goes to two more US banks: especially Wells Fargo and its more Main Street focus. Delta Airlines is an interesting one for the company’s results and particularly guidance as concerns have risen on the ability of international travel to bounce back amidst covid variant resurgences.
Economic Calendar Highlights for today (times are GMT)
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