Category: Inflation

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Gold and stocks jump as Treasury yields plunge

The Fed is talking down the strong January PCE inflation result:

Feb 29 (Reuters) – “I expect things are going to be bumpy,” Atlanta Federal Reserve Bank President Raphael Bostic said during an interview at a banking conference in Atlanta, Georgia, after a Commerce Department report showed the core personal consumption expenditures price index rose more than 5% on an annualized basis….Bostic said his eye remains on the longer-term trends and repeated his view that he sees the U.S. central bank beginning to cut rates “in the summer time,” if the economy evolves as he expects.

Cleveland Fed President Loretta Mester, speaking with Yahoo! Finance later in the day, said three rate cuts is still her baseline view…..Mester said she expects employment and wage growth to cool in coming months, easing price pressures and giving her more assurance that inflation is headed sustainably back to the Fed’s goal.

Chicago Federal Reserve Bank President Austan Goolsbee also shrugged off January’s inflation data as indicative of a setback, and said he believes the disinflationary effect of last year’s supply chain improvements and immigration-fueled rise in labor supply have a “decent chance” of continuing into this year. And that, he said, means there is still scope for the U.S. economy this year to continue on what he has dubbed the “golden path” of falling inflation alongside a robust labor market and economic growth, a historically unusual pattern.

March 1 (Bloomberg) – The S&P 500 topped 5,100 — hitting its 15th record this year. Traders looked past weak economic data amid bets policymakers will be able to cut rates as soon as June. US two-year yields sank as Fed Governor Christopher Waller noted he’d like a shift in the central bank’s holdings toward a larger share of short-term Treasuries…

The 2-year yield is testing support at 4.5%.
10-Year Treasury Yield

10-Year Treasury yields broke support at 4.20%, closing at 4.18% on Friday.

10-Year Treasury Yield

The S&P 500 broke resistance at 5100 — our target from December 2023 — to make a new high at 5137. Trend Index troughs above zero flag strong buying pressure.

S&P 500

Russell 2000 Small Caps ETF (IWM) closed above resistance at 205 but we expect retracement to test the new support level.

Russell 2000 Small Caps ETF (IWM)

Gold

Spot Gold shot up to $2083 per ounce. We expect retracement to test support at $2060 but respect would be a strong bull signal, confirming a target of $2100.

Spot Gold

Financial Markets

Commercial bank cash assets, consisting mainly of reserve deposits at the Fed, continue their up-trend with an increase to $3.6 trillion.

Commercial Bank Cash Assets

Reverse repo (RRP) balances at the Fed declined to $570 billion as money market funds switched into higher-yielding T-Bills. The outflow cannot continue at the same rate for long and the Fed is likely to reduce the level of QT — from the current $95 billion per month — in order to offset this.

Fed Reverse Repo (RRP)

Moody’s Baa corporate bond spread fell to 1.55% — the lowest level in more than twenty years — indicating abundant liquidity in credit markets.

Moody's Baa Corporate Bond Spread

Europe

DJ Stoxx Euro 600 — the top 600 stocks in Europe — is making new highs as well.

DJ Stoxx Euro 600

Australia

In Australia, the ASX 200 broke resistance at its previous high of 7700, offering a target of 8000.

ASX 200

Crude Oil & Commodities

Nymex light crude is testing resistance at $80 per barrel. Breakout would confirm a fresh advance, with a target of $90.

Nymex Light Crude

Brent crude is also testing resistance at $83 per barrel. Narrow consolidation is a bullish sign (in an up-trend) and breakout would offer a target of $93.

Brent Crude

Copper continues to test resistance at $8500 per metric ton despite weak manufacturing activity in China.

Copper

China Beige Book

Conclusion

The bond market is getting excited about rate cuts around mid-year after plenty of dovish guidance from Fed officials. Ten-year Treasury yields broke support at 4.2%, warning of a decline to test primary support at 3.8%, but retracement is likely to test the new resistance level.

Strong growth in average hourly earnings, CPI and PCE inflation in January, warn that early rate cuts would be premature. Investors are piling into real assets as a hedge against an expected resurgence of inflation.

Stock indices broke to new highs, including the S&P 500, DJ Stoxx Euro 600, and the ASX 200 in Australia.

Gold jumped to $2083 per ounce. Retracement that respects support at $2060 would confirm an advance to $2100 per ounce.

Crude oil threatens a breakout that would likely see a $10 rise in the price per barrel, increasing expectations of a sharp rebound in inflation.

The Fed is under pressure to support the Treasury market, lowering long-term yields to reduce rising debt servicing costs for the US Treasury. Latest CBO projections show how interest servicing costs (pink) are likely to expand deficits in the years ahead.

CBO: Budget Deficit (% of GDP)Treasury debt held by the public is projected to rise to a precarious 160% of GDP by 2050.

CBO: Debt/GDP

As we mentioned in a recent post, the only way to solve this is through high inflation — which would expand GDP relative to nominal debt — and negative real interest rates.

Our long-term outlook is overweight real assets — stocks, Gold, critical materials, and industrial real estate — and underweight long-duration financial assets like USTs.

Acknowledgements

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Core PCE surprise jump

Monthly core PCE — the Fed’s favorite measure of underlying inflation — jumped by 0.416% or 5.0% annualized.

Core PCE - Monthly

Annual figures are still declining, including the Trimmed Mean PCE which declined to 3.2%.

Core PCE & Trimmed Mean PCE

The 3-month (orange) and 6-month (gray) moving averages have turned upwards but not yet crossed the descending annual line (red).

Core PCE - Moving Averages

Services PCE — which tends to be the most persistent inflation — jumped even higher in January, reaching 0.596% or 7.2% annualized.

Services PCE - Monthly

The 3-month (yellow) and 6-month (gray) moving averages have crossed above the descending annual line (orange), warning of a trend reversal.

Services PCE - Moving Averages

The resilient US economy warns that the spike in January inflation may not be an anomaly. Financial conditions remain easy, with the Chicago Fed index at a low -0.518.

Chicago Fed Financial Conditions Index

Real personal disposable income per capita declined slightly in January but remains in an up-trend.

Real Personal Disposable Per Capita Income

Real retail sales are on trend.

Real Retail Sales

The labor market is tight, with job openings exceeding unemployment by close to 3 million.

Job Openings & Unemployment

Container rail freight (blue) has been climbing since Q2 of last year.

Rail Freight

Heavy truck sales rebounded in January after weakness in September-October last year.

Heavy Truck Sales (units)

Gold

Gold jumped to $2044 per ounce on higher inflation expectations. Another test of $2060 is likely.

Spot Gold

Conclusion

January core PCE warns that inflation is not dead and is likely to rebound in 2024. Easy financial conditions underpin a robust recovery, with a tight labor market, retail sales at trend, and signs of improving economic activity.

The economy is likely to remain robust for as long as Treasury floods financial markets with liquidity — ahead of the November elections.

A resurgence of inflation would increase pressure on the Fed to hold rates steady for longer. Further rate rises are unlikely — unless there is a massive spike in PCE inflation — but it is also possible that we don’t see rate cuts before the fourth quarter.

Acknowledgements

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Eleven reasons for optimism in the next decade

This might seem more like a wish list than a forecast — there are always risks that can derail predictions — but we believe these are high probability events over the long-term.

Our timeline is flexible, some events may take longer than a decade while others could occur a lot sooner.

Also, some of the reasons for optimism present both a problem and an opportunity. It depends on which side of the trade you are on.

#1 US Politics

The political divide in the United States is expected to heal after neither President Biden nor his predecessor, and current GOP front-runner Donald Trump, make the ballot in 2024. The first due to concerns over his age and the latter due to legal woes and inability to garner support from the center. A younger, more moderate candidate from the right (Nikki Haley) or left (Gavin Newsom?) is likely to be elected in 2024 and lead the reconciliation process, allowing Congress to focus on long-term challenges rather than political grandstanding.

Nikki Haley
Gavin Newsom

Nikki Haley & Gavin Newsom – Wikipedia

#2 The Rise of Europe

Kaja Kallas

Prime Minister of Estonia, Kaja Kallas – Wikipedia

Europe is expected to rediscover its backbone, led by the example of Eastern European leaders who have long understood the existential threat posed by Russian encroachment. Increased funding and supply of arms to Ukraine will sustain their beleaguered ally. NATO will re-arm, securing its Eastern border but is unlikely to be drawn into a war with Russia.

#3 Decline of the Autocrats

We are past peak-autocrat — when Vladimir Putin announced Russia’s full-scale invasion of Ukraine on February 23, 2022.

Vladimir Putin

Vladimir Putin announces invasion of Ukraine – CNN

Russia

The Russian economy is likely to be drained by the on-going war in Ukraine, with drone attacks on energy infrastructure bleeding Russia’s economy. Demands on the civilian population are expected to rise as oil and gas revenues dwindle.

Fire at an oil storage depot in Klintsy, southern Russia

Fire at an oil storage depot in Klintsy, southern Russia after it was hit by a Ukrainian drone – BBC

China

The CCP’s tenuous hold on power faces three critical challenges. First, an ageing population fueled by the CPP’s disastrous one-child policy (1979-2015) and declining birth rates after the 2020 COVID pandemic — a reaction to totalitarian shutdowns for political ends.

China's birth rate

Second, is the middle-income trap. Failure to overcome the political challenges of redistributing income away from local governments, state-owned enterprises and existing elites will prevent the rise of a consumer economy driven by strong levels of consumption and lower savings by the broad population.

Third, the inevitable demise of autocratic regimes because of their rigidity and inability to adapt to a changing world. Autocratic leaders grow increasingly isolated in an information silo, where subordinates are afraid to convey bad news and instead tell leaders what they want to hear. Poor feedback and doubling down on past failures destroy morale and trust in leadership, leading to a dysfunctional economy.

Iran

Ayatollah Ali Khamenei

Iranian Ayatollah Ali Khamenei – Wikipedia

Demographics are likely to triumph in Iran, with the ageing religious conservatives losing power as their numbers dwindle. The rise of a more moderate, Westernized younger generation is expected to lead to the decline of Iranian-backed extremism and greater stability in the Middle East.

#4 High Inflation

The US federal government is likely to avoid default on its $34 trillion debt, using high inflation to shrink the debt in real terms and boost GDP at the same time.

US Debt to GDP

#5 Negative real interest rates

High inflation and rising nominal Treasury yields would threaten the ability of Treasury to service interest costs on outstanding debt without deficits spiraling out of control. The Fed will be forced to suppress interest rates to save the Treasury market, further fueling high inflation. Negative real interest rates will drive up prices of real assets.

#6 US Dollar

The US Dollar will decline as the US on-shores critical industries and the current account deficit shrinks. Manufacturing jobs are expected to rise as a result — through import substitution and increased exports.

US Current Account

#7 US Treasury Market

USTs are expected to decline as the global reserve asset, motivated by long-term negative real interest rates and shrinking current account deficits.

Foreign Holdings of US Treasuries

Central bank holdings of Gold and commodities are likely to increase as distrust of fiat currencies grows, with no obvious successor to US hegemony.

#7 Nuclear Power

Investment in nuclear power is expected to skyrocket as it is recognized as the only viable long-term alternative to base-load power generated by fossil fuels. Reactors will be primarily fueled by coated uranium fuels (TRISO) that remove the risk of a critical meltdown.

TRISO fuel particles

TRISO particles consist of a uranium, carbon and oxygen fuel kernel encapsulated by three layers of carbon- and ceramic-based materials that prevent the release of radioactive fission products – Energy.gov

Thorium salts are an alternative but the technology lags a long way behind uranium reactors. Nuclear fusion is a wild card, with accelerated development likely as AI is used to solve some of the remaining technological challenges.

#8 Artificial Intelligence (AI)

Scientific advances achieved with the use of AI are expected to be at the forefront in engineering and medicine, while broad productivity gains are likely as implementation of AI applications grows.

#9 Semiconductors

Demand for semiconductors and micro-processor is likely to grow as intelligent devices become the norm across everything from electric vehicles to houses, appliances and devices.

McKinsey projections of Semiconductor Demand

#10 Industrial Commodities

Demand for industrial commodities — lithium, copper, cobalt, graphite, battery-grade nickel, and rare earth elements like neodymium (used in high-power magnets) — are expected to skyrocket as the critical materials content of EVs and other sophisticated devices grows.

Expected supply shortfall by 2030:

Critical Materials - Expected Supply Shortage to achieve Net Zero by 2030

Prices will boom as demand grows, increases in supply necessitate higher marginal costs, and inflation soars.

#11 Stock Market Boom

Stocks are expected to boom, fueled by negative real interest rates, high inflation and productivity gains from AI and nuclear.



Conclusion

There is no cause for complacency — many challenges and pitfalls face developed economies. But we so often focus on the threats that it is easy to lose sight of the fact that the glass is more than half full.

Our long-term strategy is overweight on real assets — stocks, Gold, commodities and industrial real estate — and underweight long duration financial assets like USTs.

Acknowledgements

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Australian CPI falls but no rate cuts in sight

Quarterly CPI fell to 4.1% for the 12 months to December, while the trimmed mean is not far behind at 4.2%.

CPI & Trimmed Mean

Household rent increases remain strong, however, boosted by a surge in immigration.

CPI - Rents

Conclusion

Inflation, apart from rents is generally falling as the economy slows. But the RBA is unlikely to cut rates soon unless we see a sharp contraction in household consumption.

Warwick McKibbin

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ASX 200 tests support

The ASX 200 retreated from resistance at the high of 7600 and is now testing support at 7400. Breach would warn of a correction to test primary support at 6750.

ASX 200

The Financials Index has similarly retreated from resistance at 6800. Reversal below 6650 would warn of a correction.

ASX 200 Financials

The A-REIT Index would likewise warn of a correction to test 1200 if support at 1440 is breached. The recent rally was in response to falling long-term bond yields.

ASX 200 REITs

The correction in yields is secondary in nature and is unlikely to reverse the long-term up-trend. Further increases in long-term yields are expected to weaken A-REITs.

10-Year AGB Yield

Healthcare also rallied strongly in the past two months but could reverse if long-term bond yields strengthen.

ASX 200 Healthcare

Consumer Staples are in a strong down-trend. Breach of support at 11500 would warn of another decline.

ASX 200 Staples

Discretionary has surprised to the upside, breaking resistance at 3200. A Trend Index trough at zero indicates buying pressure. Retracement that respects the new support level would signal a further advance.

ASX 200 Discretionary

Energy rallied to test resistance at 11000 but a Trend Index peak below zero warns of selling pressure. Another test of primary support at 10000 is likely.

ASX 200 Energy

The All Ordinaries Gold Index fell sharply as the US Dollar strengthened. Follow-through below 6500 would warn of another test of support at 6000.

All Ordinaries Gold Index

The ASX 300 Metals & Mining Index is falling sharply as China’s recovery falters. Another test of primary support at 5600 is likely.

ASX 300 Metals & Mining

China

Rate cuts and measures to stimulate the Chinese economy have been modest as the PBOC is trying to protect the Yuan from further depreciation against the US Dollar.

ASX 200 Discretionary

The result is slowing growth and deflation as weak demand persists.

China & India Inflation

Conclusion

Falling long-term bond yields have boosted Financials, REITs, Health Care and Consumer Discretionary sectors but the correction in yields is secondary and we expect this to reverse in 2024.

The Metals & Mining sector is falling sharply as China struggles to overcome weak demand while at the same time protecting the Yuan from further depreciation against the Dollar.

Our overall outlook for the ASX 200 remains bearish. Breach of support at 7400 would warn of a correction to test primary support from the October 2022 low at 6750.

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10-Year Treasury yields rally, Dollar surges

Ten-year Treasury yields tested support at 4.25% yesterday before rallying to 4.35%. Breakout above 4.35% would suggest a stronger move to test 4.50%.

10-Year Treasury Yield

The Dollar index surged in response and is likely to test resistance at 103.

Dollar Index

Gold weakened slightly, to $2040 per ounce.

Spot Gold

Long-term View

Jim Bianco thinks we are headed for 5.5% yield on 10-Year Treasuries by mid-2024. He says that the 10-year yield should match nominal GDP growth:

  • No recession next year
  • Inflation bottoms around 3%
  • Real growth of 2% to 3%
  • That gives nominal growth of 5.0% to 6.0%.

Growth

Nominal GDP growth ticked up to 6.3% for the 12 months to September, but the long-term trend is downward.

Nominal GDP Growth

Growth in Aggregate weekly hours worked declined to 1.1% for the 12 months to October — a good indicator of real growth.

Estimated Aggregate Non-Farm Weekly Hours Worked

Continued unemployment claims are climbing, suggesting that (real) growth will slow further in the months ahead.

Continued Claims

Inflation

The other component of nominal GDP growth is inflation, where five-year consumer expectations (from the University of Michigan survey) have climbed to above 3.0%.

University of Michigan Inflation Expectations 5-Year

However, core PCE inflation (orange) and trimmed mean PCE (red) are both trending lower.

Core PCE & Trimmed Mean PCE Inflation

Services PCE inflation (brown below) is also trending lower but likely to prove more difficult to subdue.

PCE Services Inflation

Real Interest Rate

Jim Bianco suggests that nominal GDP growth will fall to between 5.0% and 6.0% in 2024 — a good approximate of return on new investment  — while the 10-year yield will rise to a similar level. This represents a neutral rate of interest  that is unlikely to fuel further inflation.

10-Year Treasury Yield & Nominal GDP Growth

Inflation builds when the 10-year yield exceeds GDP growth by a wide margin. The long-term chart below shows how PCE inflation (red) climbs when 10-year Treasury yields minus GDP growth (purple) fall near -5.0%. Inflation also falls sharply when the purple line rises above 5.0%, normally during a recession when GDP growth is negative.

10-Year Treasury Yield minus Nominal GDP Growth & PCE Inflation

Conclusion

Jim Bianco’s premise of 10-year yields at 5.5% is based on the expectation that the Fed will maintain neutral real interest rates in order to tame inflation. Whether the Fed will be able to achieve this is questionable.

Japan and China have stopped investing in Treasuries, commercial banks are net sellers, and the private sector does not have the capacity to absorb growing Treasury issuance to fund federal deficits. That leaves the Fed as buyer of last resort.

The Fed may be forced to intervene in the Treasury market, keeping a lid on long-term yields while expanding the money supply. The likely result will be higher inflation and a weaker Dollar, both of which are bullish for Gold.

Acknowledgements

  • CNBC/Jim Bianco: 10-Year Treasury yield to rebound to 5.5%
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Australia: Monthly CPI proving “sticky”

Australian monthly CPI fell to 4.9% for the 12 months to October while trimmed mean — the RBA’s favorite measure of underlying inflation — edged down slightly, from 5.4% in September to 5.3% in October. This supports the RBA governor’s message that services inflation may prove difficult to tame.

Australian CPI, Core CPI, and Trimmed Mean

Especially when one considers that electricity prices are measured net of government rebates and relief payments. Before adjustment, electricity prices increased by 14.0% over the past 12 months and not the 10.1% included in CPI.

Australian CPI: Electricity Prices

Monthly rent inflation also shows a surprising fall from 7.6% for the 12 months to September — to 6.6% in October. The decline of 1.0% was again due to adjustment for Commonwealth Rent Assistance payments.

Australian CPI: Dwellings & Rent

In monthly terms, Rent prices fell 0.4% in October, following a 0.3% rise in September. The fall in Rents this month was due to the remaining impact of the changes to Commonwealth Rent Assistance. From 20 September the maximum rate available for rent assistance increased by 15%, on top of the regular biannual indexation. An increase in rent assistance reduces rents for eligible tenants. Excluding the changes to rent assistance, Rents would have risen 0.7% over the month. (ABS)

Conclusion

CPI inflation is understated by adjustment for Government rebates and assistance payments. Trimmed mean CPI is proving “sticky” and may require further rate hikes from the RBA.

Acknowledgements

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Michael Howell | Why Monetary Inflation will Drive Gold Higher

In this interview, Michael Howell from Cross Border Capital suggests that the Fed will be forced to step in to fund US federal government deficits.

Deficits will rise for two reasons:

  1. An ageing population means greater spending on Medicare, Medicaid and social security.
  2. Defense spending rising to 5.0% of GDP.

Japan and China are no longer buying Treasuries and the private sector doesn’t have the capacity. The Fed will have to step in.

In Howell’s words: “THERE IS NO OTHER WAY OUT”.

Conclusion

Gold is a great hedge against expected monetary inflation.

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S&P 500 rallies while consumer sentiment falls

The University of Michigan Index of Consumer Sentiment declined to 61.3 for November. Levels below 70 in the past have signaled a recession.

University of Michigan Consumer Sentiment

Consumer sentiment is in sharp contrast to robust personal consumption expenditures which at 93% of disposable personal income are well above pre-pandemic levels.

Personal Consumption Expenditure/Disposable Personal Income

Mortgage rates above 7.0% failed to dampen discretionary spending, with most households having locked in low fixed mortgage rates over the pandemic.

30-Year Mortgage Rate

Home Sales

Existing home sales declined to an annual rate of 3.8 million, with households are reluctant to give up their cheap fixed-rate mortgages.

Existing Home Sales

New home sales surged as a result, boosting residential construction.

New One-Unit Home Sales

Inflation Expectations

The University of Michigan November survey shows 1-year inflation expectations increased to 4.50%.

University of Michigan Inflation Expectations 1-Year

Five-year expectations increased to 3.2%, with the 3-month moving average of 3.0% well above the Fed’s 2.0% target.

University of Michigan Inflation Expectations 5-Year

Rising inflation expectations mean that the Fed is unlikely to cut interest rates in the foreseeable future.

Interest Rates

10-Year Treasury yields continue to test support at 4.40% after Treasury weighted new issuance towards the front-end of the yield curve — largely funded by money market funds currently invested in repo. Breach of support would offer a target of 4.0% — bearish for the Dollar.

10-Year Treasury Yield

Stocks

The S&P 500 is testing its July high of 4600. Breakout is uncertain but would not signal a bull market unless confirmed by other indices.

S&P 500

The S&P 500 Equal-Weighted Index ($IQX) has recovered less than 60% of its last decline.

S&P 500 Equal-Weighted Index

The Russell 2000 Small Caps ETF (IWM) is even weaker, retracing less than 50% of its last decline, suggesting that investors have little appetite for risk.

Russell 2000 Small Caps Index iShares ETF (IWM)

Dow Jones Transportation Average has also retraced less than 50%. The Trend Index below zero continues to warn of selling pressure.

Dow Jones Transportation Average ($DJT)

Gold and the Dollar

The Dollar Index retraced to test resistance at 104. Respect is likely and breakout below 103 would offer a target of 100.

Dollar Index

The weakening Dollar is bullish for Gold which is testing resistance at $2000 per ounce. Breakout would offer a short-term target of the previous high at $2050.

Spot Gold

Commodities

Dow Jones Industrial Metals Index ($BIM) fell sharply, warning of another test of primary support at 153. Breach would warn of a global recession, especially if mirrored by a similar breach in Copper.

Dow Jones Industrial Metals Index ($BIM)

Copper is testing its descending trendline at 8300. Reversal below primary support at 7800 would warn of a global recession. China consumes about 50% of the world’s copper production, most of it used in construction. So a lot depends on China’s efforts to rescue their ailing property sector.

Copper

The downward spiral of China’s ailing property sector shows no sign of abating despite the government’s rollout of a seemingly endless series of supportive but as yet ineffective measures, with the crisis stretching for over three years…..

The market for Chinese developers’ dollar-denominated bonds has seen a meltdown over the past two years, losing 87% of its value. The rout has wiped out $135.5 billion of value from $154.9 billion of outstanding notes, according to analysis by Debtwire. (Caixin)

Brent crude is testing resistance at $83 per barrel. Respect would warn of another downward leg to $72 and strengthen a bear market warning from Copper and base metals.

Brent Crude

Conclusion

Personal consumption expenditures remain strong despite falling consumer sentiment. The S&P 500 is testing resistance at 4600 but the advance is narrow, with investors avoiding risk in the broader market.

The Dollar weakened on the back of falling long-term Treasury yields, boosting demand for Gold which is testing resistance at $2000 per ounce. Breakout would offer a short-term target of $2050.

Copper and base metals are expected to again test primary support as doubts remain over China’s ailing property sector. Breach of support would warn of a global recession.

Inflation expectations remain persistent, with five-year expectations at 3.0% in the November University of Michigan consumer survey, well above the Fed’s target of 2.0%. The likelihood of rate cuts in early 2024 is remote unless a major collapse in financial markets forces the Fed’s hand.

Acknowledgements

Macrobusiness: China’s property black hole sucks in the CCP.

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Moody’s negative outlook and falling consumer sentiment

Ten-year Treasury yields continue to respect support at 4.50%. We expect another test of resistance at 5.0%.

10-Year Treasury Yield

Moody’s kept their AAA rating for the US government but changed their outlook from stable to negative. The reasons cited  — large deficits and a polarized ineffective Congress — are strong arguments for higher Treasury yields:

Moody's Rating

Japan has also broken above 150 yen to the Dollar, increasing pressure on the BoJ to relax their cap on long-term JGB yields. Any move to relax yield curve control would be likely to cause an outflow from US Treasuries and the Dollar, driving down prices.

USDJPY

Inflation

Inflation expectations are rising, with University of Michigan 1-year expectations jumping to 4.4% — and the 3-month moving average to 3.9%.

University of Michigan Inflation expectations 1-Year

Five-year expectations are also rising, reaching 3.2% in October, with the 3-month moving average at 3.0%.

University of Michigan Inflation expectations 5-Year

Higher inflation expectations add to upward pressure on long-term yields.

Financial Conditions

Financial conditions remain loose — despite the strong rise in long-term yields — with the spread between Baa corporate bonds and the equivalent Treasury yield at a low 1.84%.
Moody's Baa Corporate Bond Spreads

Economic Outlook

Low consumer sentiment, with the University of Michigan Index at 64, continues to warn of a recession.
University of Michigan Consumer Sentiment

Heavy truck sales — a reliable leading indicator — are falling steeply. A fall below 35,000 units would be cause for concern.

Heavy Truck Sales

Stocks

The S&P 500 ended the week stronger, with a bullish candle testing resistance at 4400.

S&P 500

Small caps continue to warn of weakness, however, with the Russell 2000 iShares ETF (IWM) likely to test primary support at 162. Trend Index peaks below zero warn of strong selling pressure. Small caps tend to outperform large caps by a wide margin in the first phase of a bull market — clearly not the case here.

Russell 2000 Small Caps iShares ETF (IWM)

Global Economy

Copper is retracing for another test of primary support at $7800 per metric ton. Breach would warn of a global recession.

Copper

Gold

Gold broke support at $1900 per ounce, indicating a test of $1900. Rising long-term interest rates are undermining investor demand for Gold.

Spot Gold

But Gold is supported by strong central bank purchases, led by China.

Central Bank Gold Purchases & Sales

Australia

The ASX 200 retreated below 7000 on Friday but a bullish close on the S&P 500 should see retracement to test resistance. Declining Trend index peaks, however, warn of rising selling pressure.

ASX 200

Conclusion

We expect upward pressure on long-term Treasury yields to continue, boosted by Moody’s negative outlook for the US, a weakening Japanese Yen and rising inflation expectations.

Declining heavy truck sales and weak consumer sentiment are bearish for the economy. The S&P 500 remains bullish but small caps are more bearish, warning that this is not a broad-based recovery.

Copper breach of $7800 per metric ton would warn of a global recession.

We remain overweight cash, money market funds, short-duration term deposits and financial securities (up to 12 months), defensive stocks, critical materials and gold.

Acknowledgements

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