WEDNESDAY, SEPTEMBER 18, 2013

All Eyes on the Fed Taper

By Leith van Onselen, Chief Economist of Macro Investor, Australia’s independent investment newsletter covering trades, stocks, property and yield. You can follow him on Twitter at @leithvo. Cross posted from MacroBusiness

It’s all about the FOMC meeting at 04:00 AEST tomorrow morning and to be honest nothing else really matters. Ben Bernanke speaks 30 minutes later at 04:30 AEST and the chairman’s speech will also be highly watched, potentially increasing volatility across the board.

Data in the US has been OK, but hardly enough to warrant a sizeable cut to its $85 billion a month bond buying program. The two key metrics which the Fed pays attention to, given its dual mandate, are price stability and full employment, and nether are brilliant. With the 160,000 jobs created on average over the last six months is 40,000 below Chicago Fed president Charles Evans target of 200,000. Core PCE at 1.2% is also significantly below the Fed’s longer term target of 2.5%.

There are three things that are fundamental to tonight’s meeting. The first is how much (if at all) the Fed will lower its asset purchase program? As things stand we feel the market is pricing in a $5 to $10 billion cut in the pace of the buying, although there are different thoughts as to whether this will be solely limited to US treasury buying or both US treasury and mortgage-back security buying. Any more than $10 billion should be USD positive and negative for equity and bonds (yields up). Gold and equity bulls will be hoping the bank don’t cut at all, potentially signalling it could happen in December. We feel the risk is that tapering will actually be announced tonight, but actually start in October, so the Fed has more time to smooth over any volatility this may cause.

Point two is around the Fed’s economic projections, which also come out also at 04:00 AEST. The risk that the Fed cut its real GDP forecasts is clearly very real and we would not rule out a change in forecasts to 2.2% (from 2.45% in June) for 2013 and 3% in 2015 (from 3.25). The board provides its first estimate for 2016 growth, which we feel should range between 2.5% and 3%, and this will be interesting because it is potentially the first read that includes how growth could be impacted by a hike in the Fed funds rate, which the Fed should detail in its forecasts as well. The Fed will also look to alter its core PCE inflation rate, while unemployment could also be tweaked through to 2016.

The third point, and in some way the most important for markets, isn’t the size of tapering; it is more about its forward guidance framework around what will be the triggers for a rise in the Fed funds rate. This is where the real action in commodities, the USD, fixed income, emerging market currencies and equities could materialise. This is where the Fed will need to anchor expectations.

The Fed currently would look to hike the funds rate when the unemployment rate is seen hitting 6.5%, and this should still remain in place. There is a possibility we see the Fed provide clarification that the 6.5% unemployment threshold for putting up rates is conditional on inflation trending to the 2%, although we feel this is largely priced in. What is not priced in and would cause a 15-20 basis point reaction in the US ten-year to the downside, would be if the Fed cut its employment threshold to 6% (from 6.5%). This, in theory, would push back on future rate hike expectations by around eight to nine months and would cause AUD/USD to rally to 0.9500, cable to smash the 1.60 barrier, gold to rally $50 and cause US equities to easily break all-time highs. Emerging markets would also love this. The chance of this happening though is low, and the market is not positioned for this action.

The Fed has tried so hard for so many months to separate the distinction between the tapering process (and thus its balance sheet) and a move in interest rates and tonight this will come in front and centre. All the market sees thus far is that tapering is a start of a normalising process and we feel the Fed’s message will again be reiterated loud and clear. They will ramp home that a tapering exercise is a reflection of the economic strength; however it is in no way a start of a normalisation in rates. In theory the economic projection really does matter then, because if the Fed cut its 2016 unemployment rate from 5.5% to 5.2% (we think it could be higher though) they will probably have to lower the employment threshold to 6% and, as previously mentioned, this should be a risk positive affair.

As detailed as we feel the risks are, the Fed actually verge on the dovish side, which in theory is good for gold. However, price action is not convincing at all and a daily close tonight below $1307 (the 50% retracement of the June to August rally) would see us suggest new shorts on gold. This would also coincide with the daily MACD firmly below zero.

http://www.zerohedge.com/news/2013-09-18/t-minus-seven-hours-till-taper

T-Minus Seven Hours Till Taper

Submitted by Tyler Durden on 09/18/2013 06:58 -0400

The day when the Fed will begin the unwind of its latest QE program (for the fourth time) has finally arrived (as has the day when an impeachment committee will vote whether to ban Berlusconi from public office, but understandably that is getting far less press). In a few short hours the answer to all those questions of whether and how much of the taper was priced in, will be revealed. But while the Taper discussions will dominate the airwaves, as they have for the past five months, there actually were some news in the world that had nothing to do with the US Politburo in charge of capital markets and the US economy, located in the Mariner Eccles building. Here is a brief summary.

Market recap from RanSquawk

Even though stocks traded higher in Europe this morning, seemingly ignoring the looming risk event (FOMC), safe-haven assets such as CHF and JPY remained bid given the obvious risks surrounding the event. Nevertheless, financials and tech sectors led the move higher, as credit spreads tightened, supported by the release of the minutes of the ECB's money-market contact group, where Draghi told the group the ECB intends to move to simpler collateral framework when fragmentation is significantly reduced.

GBP outperformed EUR this morning, with the GBP 1y1y forward swap rate better bid after the minutes of the most recent MPC meeting revealed that no MPC member saw more stimulus needed at present and voted unanimously to keep the benchmark rate, as well as the APF unchanged. The minutes also noted that the expectations of future inflation implied by financial market prices had risen only marginally on the month. However the MPC also noted that GBP strength makes CPI slightly more likely to be below 2.5% in 18-24 months, oil may push up short-run CPI. Even though Gilt yield curve steepened following the release, B/E rates held steady at around 3.083%. Going forward, apart from awaiting the announcement from the Fed, market participants will also get to digest the release of the latest Housing Starts and Building Permits data.

Overnight headline news bulletin from Bloomberg and RanSquawk

Treasuries steady before FOMC, with decisions on rates and possible asset purchase reductions and updated economic projections at 2pm in Washington, Bernanke press conference at 2:30pm.
Most strategists expect $10b-$15b of tapering, possible changes to forward guidance
A drop in demand for home loans may push Fed away from tapering MBS purchases
S&P forecasts a 0.7% decline in real GDP in Eurozone this year and sees 0.8% rise in Eurozone real GDP in 2014 and 1.3% in 2015.
Wall Street banks, facing a drop in 3Q trading revenue, are counting on today’s Federal Reserve announcement to spark a surge in volume
Janet Yellen has won praise from labor leaders for fighting to put unemployment on equal ground with controlling inflation at the core of Fed policy
Bank of England policy makers voted unanimously to keep policy unchanged as an improving economic outlook prompted agreement that no more stimulus was needed, minutes of Sept. 3-4 meeting showed
New home prices in China’s four major cities rose the most since January 2011 last month, led by a 19% jump in Guangzhou, as the government refrains from imposing further curbs to cool the market
Abe’s plan to boost the economy in part by reviving the housing market and encouraging new home construction is in conflict with Japan’s demographics; its population is one of the world’s fastest-aging
The borrowing and lending of European bonds in repo market expanded this year, even as U.S. trading contracted, the International Capital Market Association said
Sovereign yields mostly higher. EU peripheral spreads tighten. Nikkei +1.35 falls 0.65%, Shanghai Composite +0.3%. European stocks, U.S. equity-index futures gain. WTI crude and copper higher, gold falls

Asian Headlines

China is concerned about the potential for volatility in the US Treasury market in the face of Fed tapering but doesn't plan to sell in a falling market and will instead continue to hold to maturity, according to government sources.

EU & UK Headlines

BoE MPC voted 9-0 to keep QE unchanged at GBP 375bln and 9-0 to keep interest rates unchanged at 0.50%, no MPC member saw more stimulus needed at present .
- Rise in short-dated Gilt yields reflected US moves, better than expected UK data, possible reaction to BoE guidance.
- Need to emphasise that 7% unemployment level not a trigger for higher rates.
- GBP strength makes CPI slightly more likely to be below 2.5% in 18-24 months, oil may push up short-run CPI.
- UK recovery at least as strong as forecast in August, Eurozone recovery stronger than expected.

Minutes of the ECB's money-market contact group says Draghi told the group the ECB intends to move to simpler collateral framework when fragmentation is significantly reduced.

ECB's Coeure said he has full confidence that Fed will conduct its exit smoothly and the ECB still needs high level accommodation in monetary policy to safeguard recovery.

Germany sold EUR 4.22bln in 0.25% 2015, b/c 1.6 (Prev. 1.8), avg. yield 0.22% (Prev. 0.23%) and retention 15.6% (Prev. 18.16%).

RWI forecasts German CPI at 1.6% in 2013 and 1.8% in 2014. Maintains German 2013 GDP forecast at 0.4% and sees 2014 GDP at 1.9%.

EU Construction Output (Jul) M/M 0.3% (Prev. 0.7%, Rev. 0.9%) and EU Construction Output (Jul) Y/Y -1.2% (Prev. -3.0%, Rev. 2.7%)

US Headlines

US Senate Majority Leader Reid said House must act first on stop-gap government funding measure and until then the Senate is going to do nothing.

Equities

Better bid USTs in early trade ahead of the FOMC meeting and consequent interest rate differential flows saw USD/JPY trade under pressure in London this morning. The move lower was also said to have been driven by touted ME selling EUR/JPY. In turn, the pair fell below the 100DMA line and looks set to make a test on the 50DMA line seen at 98.71. Broad based GBP strength following the release of the MPC meeting minutes saw EUR/GBP fall to its lowest levels since
mid-Jan, with GBP/USD advancing to its highest since mid-Jan and towards the key 1.6000 level.

Commodities

Saudi Arabia produces 10.03mln bpd of crude, exports 7.47mln bpd and refineries process 1.8mln bpd for July, beating its prev. of 1.67mln for June according to JODI.

US API US Crude Oil Inventories (Sept 13) W/W -252K vs. Prev. -2930K
- Cushing Crude Inventory (Sept 13) W/W -889K vs. Prev. -587K
- Gasoline Inventories (Sept 13) W/W -641K vs. Prev. 195K
- Distillate Inventory (Sept 13) W/W -167K vs. Prev. 807K

In northeastern Colorado nearly 1900 wells were shut yesterday whilst operators investigated the impacts of deadly flooding on oil and gas installations.

China average daily crude steel output at 2.129mln tonnes during 1st-10th September, which is up by 0.48% from 21st-31st August, according to industry data.

- China is to shut 89.3mln tonnes of outdated steel capacity in Hebei, Shanxi and Shandong provinces by 2017, according to the government. Elsewhere, China will cut coal consumption and shut capacity of polluting industries in key northern cities and provinces by 2017.

Peru finance minister says the President will ask Congress next week to approve a new package of laws to untangle investments from red tape that has delayed mining projects.

* * *

Traditionally, we round out the overnight recap with Jim Reid's prior day summary:

As we head into today’s all-important FOMC, overnight markets are trading with a cautious tone. S&P 500 futures and the USD index are both trading less than one-tenth of a percent higher as we go to print. 10yr UST yields are also broadly unchanged at 2.84%. The September recovery in the Nikkei (+2%) continues with the index up at two month highs supported by gains in the tech sector following yesterday’s outperformance of the NASDAQ (+0.75%). Other bourses including the Hang Seng (-0.2%), KOSPI (-0.4%) and ASX200 (-0.3%) are trading moderately weaker. The precious metals complex is also trading heavily in anticipation of tapering, led by gold (-1%), platinum (-0.5%) and silver (-1.4%). In the fixed income space, the bond world lost another AAArated issuer overnight with the S&P downgrade of the mining-rich Australian state of Western Australia to AA+ – a gentle reminder of the fiscal pressures facing much of the DM world. In China, there has been a lot of recent press hype about Shanghai’s new free-trade zone. A Bloomberg article says that shares of companies with the word “Shanghai” in their names, including those linked to the free-trade zone, have added US$45bn in market value since August 22nd or a gain of 27%, outperforming the Shanghai Composite by 5x over the same time period.

Yesterday saw US markets record gains for the third consecutive day. The S&P 500 (+0.42%) ended above 1,700 for the first time since the beginning of August as US equities shrugged off a sluggish European session. Technology stocks (+0.54%) were the outperformer on the day helped by Microsoft’s announcement of a US$40bn share buyback and bump-up in dividends while oil & gas stocks (+0.02%) were the laggards following a 1.7% drop in oil prices. Indeed, share buybacks were a common theme across the market yesterday with companies such Philips, DollarTree, Herbalife and AT&T announcing or reportedly considering a stock buyback. US dataflow was largely positive with headline and core CPI below expectations at 0.1% MoM (vs 0.2% expected). September homebuilder sentiment was unchanged at 58—the highest reading since November 2005 – in spite of the continued increase in mortgage rates. Interestingly, the survey of prospective buyer traffic (47) rose to the highest level since October 2005.

In Europe, Italian bond yields briefly fell back below those of Spain on Tuesday after political sources said former premier Silvio Berlusconi was likely to step back from moves to bring down the Italian government. Berlusconi was expected to strike a conciliatory tone in a video message on Tuesday but delayed it to Wednesday, according to political sources. After weeks of debate, party doves have apparently persuaded him to avoid provoking a crisis of government (Reuters).

Turning to the day ahead, the FOMC statement and the updated economic and financial forecasts will be released at 2:00 pm EDT (7pm London). This will be followed half an hour later by Bernanke’s press conference which will have a Q&A session. The Fed aside, we get more US housing updates in the form of August housing starts, permits and mortgage applications data. The Bank of England publishes their latest minutes. According to Bloomberg, an Italian Senate Committee is expected to vote on a proposal to block Berlusconi’s expulsion from parliament on Wednesday evening. But all eyes will be on the FOMC.

http://www.zerohedge.com/news/2013-09-17/fed-taper-playbook-2-simple-charts

The Fed Taper Playbook In 2 Simple Charts

Submitted by Tyler Durden on 09/17/2013 17:21 -0400

Bond

Equity Markets

As we previously noted, it would appear - unlike the exuberance in the market - the 'taper downside risk' is very much in equity markets rather than bonds. Today's aggressive equity and credit hedging and bond stability perhaps signal more apprehension than a rallying volumeless equity market might suggest but if the following 2 charts are anything to go by, a shift to removing the punchbowl (no matter how biased to longer, lower, forward rate guidance - of course stymied by 2016 economic projection dilemmas) has seen bonds surge and stocks purge...

Charts: DoubleLine

Perhaps - as we noted earlier - credit markets are on to something?

Catharsis Ours

Wednesday, September 18, 2013

WEDNESDAY, SEPTEMBER 18, 2013

All Eyes on the Fed Taper

T-Minus Seven Hours Till Taper

The Fed Taper Playbook In 2 Simple Charts

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