Make it a double
The parade of central banks cutting rates turned into a stampede this week. South Korea, Indonesia, Ukraine and South Africa made moves, and the market put odds of a European Central Bank (ECB) easing at more than 50/50. New York Fed President John Williams on Thursday appeared to advocate for a 50 basis-point cut when policymakers meet at the end of the month, reinforcing the recent dovish musings from Fed Chair Powell. (The New York Fed this morning clarified the remarks, saying Williams wasn’t recommending a 50-basis point cut. The markets appeared to look past the clarification.) Last week, Powell said the relationship between unemployment and inflation has become “weaker and weaker” and that the “neutral” policy rate is lower than past estimates have put it, indicating monetary policy has been too restrictive. He seemed to go even further this week in Paris, where he said he’s worried that factors keeping inflation low—well-anchored inflation expectations, demographics, globalization, slower productivity growth, greater demand for safe assets, and weaker links between unemployment and inflation—“seem likely to persist,” keeping the “neutral rate” too close to zero. “This … poses new complications for central banks and calls for new ideas.” The problem is that the central bankers have run out of new ideas (and policy tools), so they keep trying the same old ones. Yardeni Research thinks maybe they should just give up on the notion that deflation is a bad outcome of the 4Ds (détente, demographics, disruption and debt) and admit that they are trying to fix a problem that monetary policy cannot fix.
If the Fed is to cut more than a quarter point this year, history would suggest it will act sooner rather than later as it prefers to stand back once the presidential election season gets underway. One counter is Powell may not want to be seen as caving to President Trump’s brow-beating, although he and other policymakers insist the president’s comments don’t factor into deliberations. Still, the Institutional Strategist (TIS) says Fed independence has been questionable for some time. It recalls that Fed Chair Arthur Burns, who served under President Nixon, kept a diary in which he highlighted numerous meetings and phone calls with the president. LBJ allegedly pushed then-Fed Chairman William McChesney Martin up against a wall at his Texas ranch. Deutsche Bank research finds about 10% of 118 central banks face political pressure in an average year, and it’s almost always for looser monetary policy. TIS thinks the White House approached Scott Minerd, the global chief investment officer at Guggenheim Partners, for a Fed job to inject more market-savvy thinking into policy-setting committee discussions. Minerd in April said the probability of a recession and stock market drop of 40-50% within 24 months had more than doubled. By June, his recession forecast had shifted to 2020’s first half (that’s not Federated’s view), which would not work for Trump going into the election. Fed appointments will be very telling from here on.
While no one will publicly admit it (except President Trump), Wolfe Research thinks many policymakers in the U.S., Europe, Japan and China are enticed by the near-term tailwinds that rate cuts and currency weakness provide for exports. Recent rhetoric from President Trump and Fed nominee Judy Shelton indicate another round of competitive currency devaluations could come in the months ahead. The ECB may be the primary catalyst, given the eurozone’s reliance on exports (about 45% of Germany’s GDP) and its teetering economy, but the U.S. is certain to counter as a falling euro would only serve to act as a tariff against the U.S. In a world with nearly $14 trillion in negative-yielding debt largely engineered by the ECB and a U.S. yield curve that has the Fed paying 2.35% interest on excess bank reserves while the 10-year Treasury rate hovers around 2.05%, a rising dollar would not be helpful, Shelton said earlier this month. Meanwhile, the market is loving the idea of more rate cuts. Research shows that 21 prior examples of rate cuts when the S&P 500 was within 2% of a 52-week high, as is the case now, were bullish, the outlier being in late 2007 when the global financial crisis was starting to unravel. While daily momentum indicators continue to suggest a possible near-term pullback, most breadth indicators remain favorable. From a contrarian positive perspective, small investors are quite cautious. It would be surprising to see a major top in stocks without more optimism. Might a Fed twofer do the trick?
- The consumer keeps spending June retail sales surprised, rising well above consensus and a fourth straight month, prompting forecasters to up Q2 GDP forecasts. Dudack Research thought the tone was “defensive,’’ as sales disproportionately were led by non-store retailers such as Amazon and food services and drinking places. Brick-and-mortar sales fell. Still, citing personal finances and the buying climate, consumer moods improved, with the weekly Bloomberg gauge almost reaching a 19-year high. Michigan consumer sentiment also ticked up.
- Has manufacturing turned a corner? The Philly Fed’s monthly survey of manufacturers jumped the most in 10 years in July to its best level in a year, and the report’s details were just as strong, with the employment component reaching its second-highest level since the series started in 1968. New York’s companion Empire gauge of activity improved modestly, and the Fed’s June survey of manufacturing rose 0.4% month over month, double expectations and its biggest gain this year.
- Home builder optimism rises While multifamily starts and permits plunged (more below), single-family activity rose on both fronts, helping lift builder confidence to the high end of its recent narrow range.
- Just a soft patch Conference Board leading indicators unexpectedly declined in June by the most since January 2016, dropping the 6-month rate of change to 0.4%, matching a 3-year low and consistent with trend growth. Taking into account the latest data, Ned Davis Research’s proprietary economic timing model held steady a third straight month, indicating near-term recession risk remains slim.
- Trade anxiety builds “Tariff’’ was mentioned 49 times in this month’s Beige Book survey of conditions in the Fed’s 12 districts, versus 37 times in June. The periodic snapshot continues a mounting trade-anxiety theme that has dominated recent global data and earnings guidance. Three months ago, the U.S. and China were seemingly talking about solutions. Now, the two sides are talking about talking.
- Home builders not immune to trade tensions Foreign purchases of U.S. homes plunged 36% last month, sending starts and permits plunging, with the weakness entirely in the multifamily sector. The main factor crippling foreign buying, Third Seven says, is the mounting effects of the lack of a U.S.-China trade deal is having in the data.
A Modern Monetary Theory skeptic MMT, as we explained last week, posits that as long as inflation remains low, countries can borrow at very low interest rates to finance spending without regard to deficits. Certainly, Japan has proven that to be true and, given ongoing Fed accommodation and grandiose spending plans among progressives, the U.S. seems to be on this track, too. Nevertheless, at high levels of debt, growth tends to slow. This is true for countries globally over many decades and Ned Davis sees no reason it will be different now.
Could be your last chance to check out Williamson—you won't be sorry! The July 30-31 Democratic presidential primary debates will still have 20 candidates (10 each over two nights), with Montana Gov. Steve Bullock replacing U.S. Rep. Eric Stalwell, who dropped out. Then it gets interesting. A third debate in September has much higher metrics: the polling threshold climbs to 2% and candidates will need 130,000 unique donors to qualify (with at least 400 each in 20 states). Currently, only Biden, Sanders, Warren, Harris and Buttigieg make the cut.
A buying opportunity in gold? Multiple rate cuts tend to lead to a macro environment that’s conducive to gold, although the precious metal historically has declined about 3% on average after an “insurance” cut. Trading more than 20% above its 200-day moving average, a rate cut or two could result in a reversion to the mean short-term, but Strategas Research advises to view pullbacks opportunistically, especially if you think U.S. MMT is an eventuality.