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Saturday, April 22, 2017

Here’s the forecast: gloom over the demise of the Trump reflation trade gets a grip. Yields continue to drop.

The dollar ended the day of Thursday  higher off a double bottom and better than Tuesday, for a variety of reasons, including no new geopolitical tensions, TreasSec Mnuchin suggesting a tax reform plan will be coming “very soon,” and Fed Gov Kaplan coming out for two more hikes this year as well as starting to shrink the balance sheet as early as the end of this year. And oh, yes, those holding long euro positions pared back a bit, affecting the Swiss franc and European crosses.

US data was not particularly impressive, although continuing unemployment claims hit a 17-year low and leading indicators rose 0.4% when 0.2% was forecast. On the not-so-hot side was the Philly Fed business conditions index at 22 when 25 was expected and from 32.8 the month before.

Given the condition of the world today, including the threat of war at the highest in years and the possibility of Frexit, it’s surprising yields are flat, oil is down and most of all, gold is lower. Even the French German yield spread has moderated from 80 bp back to 62.6 bp. The dollar is higher against the yen for the third day. VIX is 14.04, near the middle of the recent range. It was a low of 10.90, on April 5 and a high of 16.28, on April 17. Market News notes “VIX has remained in sub-20, risk-friendly territory. A sustained break below the 200-day moving average, at 13.05 currently, would suggest rising risk appetite.”

All this connotes markets are hopeful (or complacent) that the status quo is not really at risk.

• In the UK, the BRC reported retail sales ex-petrol down 1.5%, far more than expected, although Feb was revised upward. For Q1, it’s the biggest quarterly drop in 7 years and points to GDP slipping down to 0.3-0.4%. Sterling took a hit on the news from 1.2831 to 1.2770, kissing distance of the last low from Wednesday.

• In Europe, France got a surprising bump in the April PMI to a 6-year high of 57.4 and surpassing Germany for the first time since 2012, according to Bloomberg. Germany got manufacturing at 58.2 from 58.3 and services at 54.7 from 55.6 for a composite down to 56.2 from 57.1.

       For the eurozone as a whole, Markit reports the flash PMI for April up to 56.7 from 56.4 in     March when no change was expected, with some evidence of wage pressure (a big deal as the driver of “secondary” inflation). Manufacturing rose to 56.8 from 56.2 in March, the highest in six years, while services rose to 56.2 from 56. 

Bloomberg says “The euro-area recovery is gathering pace despite a looming election in France, which could result in a president who is openly hostile to the single currency. The economic resilience is slowly pushing the European Central Bank toward a discussion about an exit from its unprecedented stimulus, which it has pledged to keep in place until at least the end of this year.” It looks like Bloomberg is egging the market on to a reprise of the ECB taper story.

Reuters reports Greece is meeting budget targets with a “primary budget surplus” of 3.9% in 2016 or about 4% of GDP. Really?


The euro fell from 1.0765 at the high to 1.0705 by the US close, just enough to signal paring of long positions ahead of the Sunday election in France but not enough to set your hair on fire. See the 240-minute chart. We get red support today around 1.0637. The lowest low in this timeframe is 1.0568 from April 10. On the upside, if traders persist in feeling optimistic, we could see a test of the highs at the 62% retracement level, 1.0776.

We say this chart suggests a continuation move to the last high and beyond. But all that means is that big traders are not all that worried about the wrong set of French candidates coming out on top on Sunday. Yeah, well, they didn’t see Brexit coming, either, and Brexit caused sterling to crash 1880 points in two days. To go long or stay long euros under these circumstances is to be an optimist. To go short is to bet on a long shot--plain old-fashioned gambling.

The Main Event The Reuters 10-year yield index closed at 2.241% on an opening gap after 2.202% at the close the day before. It’s quoted at 2.241% from 2.224% yesterday morning, almost unchanged.

The Bund yield is quoted at 0.233% this morning from 0.201% yesterday and 0.178% the day before.

The currency to watch from now until Monday morning is the euro. Campaigning was suspended in France because of a public shooting and would end anyway at midnight tonight, according to Bloomberg, which also reports Macron and Le Pen lead, as expected, but with Commie Melenchon and oldtimey Republican Fillon trailing, if closing the gap.

If the wrong set of French presidential candidates wins the Sunday round, we need to expect the euro to tumble through support. As noted above, we can already see some limited paring back of long euro positions but not enough to set your hair on fire. It is likely to develop further today and then we have to ask whether short-covering on a Macron/LePen win will not deliver a spike late Sunday or Monday. The latest polls show these two the likely winners for the May 7 second round run-off.

But hardly anyone saw Brexit or Trump coming so complacency is not really called for. And yet yields are flat and gold is falling. The CAC equity index is higher and the French-German yield spread has moderated from 80 bp back to 62.6 bp this morning. VIX is on the low side of the range.

The dollar may be the temporary beneficiary of European worries, but it is beset by the enduring effect of bad data and the stink of a failed presidency. In the now customary effort to distract attention from real issues crying out for a coherent plan, Trump is again promising a health care bill, perhaps as early as next week. Nobody believes he has a plan. This is to distract attention from the unhappy fact that Congress needs to pass a budget continuation in the next week or we get another government shutdown on Friday. The budget director is a Trump ideologue who wants to include funding the Mexican wall, among other things, that will never pass.

Next Friday is the 100th day of the presidency, an arbitrary benchmark that nonetheless carries weight in the form of a judgment on whether the president can get things done. This one can’t. The Muslim travel ban is mired in the court system. This week the gung-ho Immigration agency deported a kid with protected status under the Dream order and that has gone to the court, too (and with delicious irony, the same judge Trump dissed during the campaign who made him cough up millions over the Trump University fraud). Trump also decried Canadian dairy in a trade rant stuffed full of non-facts. The WSJ has a story on how “Buy American” is unrealistic.

Trump charged Iran will not hewing to “the spirit” of the nuclear freeze, despite the inspectors affirming Iran is in compliance (as it does every 90 days). He says it’s one of the worst deals ever. Nobody believes he has read the deal or understands the history and context, so this is another lie. And it comes as a deliberate attempt to distract from the absence of a strategy in North Korea.

And the financial markets are not blind to Trump’s failures. He sent TreasSec Mnuchin out to say tax reform can be passed by the end of the year, another effort to distract attention from policy issues that are genuinely urgent, like the budget. But it didn’t work this time. The 10-year yield this morning is almost unchanged from the close yesterday and the close the day before.

Here’s the forecast: gloom over the demise of the Trump reflation trade gets a grip. Yields continue to drop. Market News notes that the fixed income consensus is shifting toward stimulus not arriving until later this year, despite Mnuchin saying tax reform is “pretty close.” The low yield on Tuesday was 2.166%, which was the lowest since Nov 14. Traders are eying old lows from Nov 17 at 2.187% and Nov 15 at 2.184%. “Yields sliced through these old lows earlier this week” and can get back there in a minute.

The post-election surge is a dead duck. We saw highs at 2.639% on Dec. 15, 2016, which was the highest since the Sept. 19, 2014 peak near 2.655%. To be fair, it was the Fed outlook as much or more than Trump reflation driving this move, but if the move is dead, we say it’s Trump that killed it. “For bond bears to feel more confident in their view, 10-year U.S. yields must vault 2.43%. The 100-day moving average comes in at 2.428% and is near the 55-day moving average, currently at 2.412%.”

Analysts see a recovery in yields during the second half of the year, but in the meanwhile, the dollar is losing its key support. 

In Europe, the polls will be right and Macron and LePen will win the top two spots for the May 7 runoff. Macron will win, not least because LePen is female and a racist. There is a chance the two winners will be Fillon and LePen, in which case Fillon wins. Either way, the euro comes roaring back from a short-lived slump and soars back to the March high of 1.0905 on a relief rally. When in doubt, sell dollars.

The first round of the election is scheduled for Sunday April 23.  Officials results will be available on the website of the French Interior Ministry beginning at 8Pm local time ( 2:00 PM E.T). http://www.interieur.gouv.fr/

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