Expectations Of A Fed Rate Cut Now At 78%

Okay, very good morning to everyone. Hope you are well. It's Thursday the 3rd of October. As you can see to the side of me, just looking at a graphic here of the S&P 500 after yesterday seeing a continuation of the move seen in the prior day. So it's the first back-to-back 1%+ losses that we've seen in the index for the first time this year. In fact, although we had a lot of heightened volatility in recent months, we haven't seen the kind of persistent nature of what we've had in the last 2 days. Um, in terms of the reasoning behind this, I'm sure you're pretty much all up to speed. I mean, it's pretty broad-based when you start looking at the, the kind of scoreboard or the heat map, so to speak. The only kind of one area of green of any significance was Johnson Johnson shares. Uh, the company basically reaching a— I think it's about a $20.5 million deal in a settlement with two counties in Ohio to do with opioids, which meant that it hasn't got to progress further into the legal system. And so they've kind of averted a worst-case scenario. So hence the reason why they outperformed formed the market so substantially yesterday. But otherwise, and this definitely a reflection of not so much micro level but more macro level reaction to an economy that's, that's radically changed in perception over the course of literally about 4 days. We've just had one of the Fed voting FOMC members speaking on Bloomberg TV live this morning, about 10 minutes ago, and has been asked about the disappointing manufacturing ISM print. Obviously, that was the one that initiated the selling earlier this week. We had the ADP also touch on the weaker side yesterday. Uh, on the ISM print, he said it's an important data point, does not see this though as an overreaction in terms of how the markets have reacted, uh, confirmed the FOMC's view and said they were open-minded about the October meeting. And on that note, just having a look then, how are we positioned at the moment? Well, this is now the current expectation. You'll remember that on Monday when I deliver the kind of look ahead for the week, the probability of a 25 basis point rate cut on Monday resided at 40%. That now has risen to 77.5%. It's a radical reshaping of not the idea that the Fed were going to cut The market was of that belief anyway in the first instance. It's just about the timing, the nature of the fact that if the economy is deteriorating to the point of which some of the recent economic data would suggest, then more immediate action would need to be taken at this point. For the end of the year, still my balance is that they would do one more cut, but it does tend to be growing though further out down the timeline of potentially more multiple cuts to come, and this obviously would start to breach then this current communication line of just a simple mid-cycle adjustment. If we start going into the realm of cutting 4, 5 times out of the 9 that we had since the first rate hike in December 2015, you've got to think that's a little bit more meaningful than just a mid-cycle adjustment. That's a, as a rate cutting cycle in its purest sense. Um, So yeah, this is what a lot of the headlines are kind of suggesting this morning, going down this similar narrative. Uh, slumping data may force Powell to move to a third cut. I don't think that's a question. I think that is going to happen at this point. Recent data slumping, as we've seen. While the FOMC prefers to wait and see, markets are in a hurry. And definitely you would agree with that. Now obviously what's been quite interesting, just looking at the charts this morning, we were looking at the S&P in a bit of detail yesterday morning. And if I put it back on the 1:20 candlestick, you can see that, you know, that area that we were looking at— we— I mean, this chart does basically remain unaltered from what we were looking at this time yesterday. And at that point when I was delivering the briefing, we were just threatening the break of that kind of zone area that we were looking at between some of the lows that had held the price action at the end of last week and then the resistant point of pretty much the whole entirety of the month of August. A breakthrough there, um, as we were suggesting, does open up technically a decent push on the downside. And although we're still of the belief that any meaningful downside of a larger nature would ultimately create this shift in policy expectations, accompanied by the likelihood that Trump as well in that kind of trade war cycle would start to talk up the China possibility of a deal. That, you know, the lower we go, the more aggressive in nature it becomes, the more likelihood we get these kind of more interventional kind of options hit the table. And so buying the dip idea, I think, still has some validation, but as we were saying, not at the levels up here, potentially much lower down. And, and definitely yesterday after that break, we we did, we did see a decent move lower. Interestingly though, if I go back to the 30-minute chart, a couple things here. I think that it's a little bit misleading from the headlines you're reading in the press this morning. For one, the ISM Manufacturing for sure was a key catalyst that created the sell-off that we had earlier this week. The technical breach then of that lower bound level that was tested yesterday morning I think was key. ADP, I think, is a bit of a stretch to say that that really was such a massive contributing factor to yesterday's sell-off. Let's not forget that that comes out at 1:15. The actual equity sell-off didn't occur until the cash equity open, about an hour and a quarter after that data released. And then we broke that initial futures low that we printed in the European morning. So I think it's more— not ADP was such a catalyst, ISM definitely was— it's more that it just fits that mold of a further deterioration that that's going to force the Fed's hand to take more proactive measures in order to counteract this, this further weakening in the US economy. Obviously, this leads and sets us up nicely for this afternoon. We'll look at it shortly, but there's more top-level US economic data, of course, coming out later on in the form of ISM Non-Manufacturing. And actually, I think that's going to be particularly interesting because I think that, you know, it's the activity data we know has been a little bit more precarious, a bit more fragile in the US. The consumer generally has managed to hold its head above water in those data readings. If that comes out weak, I think that then you're kind of— that's real testing of what has been a relative sweet spot of more better performing areas of the economy. If that is equally as weak or surprisingly weak, I think then that becomes again another volatile situation for today's trading session. With that in mind, here's a quick look at the ISM Non-Manufacturing PMI. Now the previous reading did see a decent bounce, actually a recovery on what otherwise was a deteriorating pattern from the month of May, June, and July. We did see a strong rebound in August. Rebounding from a 3-year low, in fact. And it beat expectations. It came in at 56.4 against expectations of 54. So it was very strong last time out. Now, expectations on the street for that figure— if we just quickly jump to the calendar here— is for 55.8. So a kind of holding steady, maybe a slight weakness from the prior month, a range of 54 to 56. So still comfortably keeping its head in firm expansionary territory, very unlike what we've had in the manufacturing PMI readings, of course, globally of late. Um, the other numbers that we've got coming out today, the other one of significance is the factory orders. I wouldn't be so interested in the jobless claim situation, that would be lower tiered, I'd say, to these two readings. The factory order number does tend to be a lot more volatile But again, new orders for US manufactured goods increased 1.4% from a month earlier in July of 2019. That was above expectations of 1%, so that also was relatively strong against consensus estimates last time around. Now, the factory orders is slightly different. You can see that as a trend kind of analysis in these bar charts that generally speaking non-manufacturing has decelerated somewhat from where we were on a year-to-year basis, and it's been a fairly orderly fashion. Factory orders is a lot more volatile as a piece of economic data. Now, from an expectation for the factory orders readings, we're actually looking for a negative 0.5%. Now, on the street, you've got a low of -2.6 to +0.8. -2.6 is the most pessimistic on the street. And if you could, as you can see here, that would breach the low we had in October of 2018. So if you put this on a 5-year, you've got to be really going back down to these lower points here that we probably pressed earlier in the year, and then the kind of low end of the range of what really has defined the last 3 years. So although it wouldn't be shocking even if it breached that point, I do think certainly it will just ramp up further. That 77.5% could well become just almost entirely priced in to the tune of, um, 85, 90% plus at that point. Um, interestingly though, despite a lot of this what we're talking about, uh, and this idea then that the Fed are going to have to take action, the dollar really hasn't been that reacting a great deal. And if anything, looking at the dollar index this morning, it's a little bit counterintuitive than that normal read across that we, we see from Fed pricing. I think a lot of that partly can be explained by the fact that this wasn't ever really that much in doubt that the Fed were not going to act. I mean, even at the beginning of the week, we were right on the cusp, you know, kind of 40% that they were going to act in October. They were, they were priced to act at least one more time by the end of the year. As they say, it's just shifted from Dec to October now. So I don't think it's massively surprising that they're going to cut. I guess one of the things that we're going to be very mindful to hear of is about the nature of what happens next. And so with that, there are a few other things that I just wanted to mention. One was this idea of stress in the money market. So this is looking much more short-term in kind of overnight lending facilities, which we saw a squeeze on in a lack of liquidity for a variety of different reasons. But, uh, the idea being here is that Bloomberg was suggesting for Q4 there could be more trouble on the horizon. Now, the reason why they're suggesting this. As they've put here, citing TD Ameritrade, that there's a confluence of events that could be much worse. Now they're talking about the fact that there's about roughly just shy of $400 billion of Treasury auctions on the calendar for Q4 of 2019 to see out the year. Now that's smaller than the flurry of auctions that we had that caused a lot of the, the turmoil just a few weeks ago, but it does come alongside then Treasury cash balances will continue to rise. There's more corporate taxes that need to be paid, and also we've got some seasonal holidays, things like Thanksgiving as well, and that does typically tend to put a bit of a squeeze on these short-term lending facilities. Not only that, of course, at the end of this month, you know, I am— I can't wait for what's to come over the coming weeks because not only have we got the Fed on the 30th We've got the Brexit deadline on the 31st, we've got Draghi leaving on the 31st, we've got the trade war going on. You know, it's all coming, well, at one kind of peak of interest, if you like, on the timeline ahead. So it's gonna be particularly interesting to see what happens. And obviously a lot of people thinking that from the Fed's point of view, if you look at this graphic here that Bloomberg have put together, I have actually tweeted this if you want it, but they basically constructed a repo calendar going forward because today, Thursday, next week actually is the, the end or conclusion of the planned Fed overnight repo operations that they have pledged 2 weeks ago when we saw that liquidity kind of squeeze and that pop in money market rates in America that caused quite a lot of tension in just general sentiment. Those planned intervention of injections of liquidity end this time next week. So a lot of pressure is going to mount again in that area. As you said, you've got a US holiday, the bond market is shut. You've got Columbus Day, October 14th. You've then got Veterans Day on November 11th when the bond market again is shut. And then you've got a corporate tax deadline coming up towards more towards Christmas, but with various different coupon settlements and Treasury refinancing estimates coming out as well. So yeah, just thought I'd point that out as well. That's on the kind of medium-term horizon. But just bringing it back in and reining it into the intraday environment, one thing that I thought was quite, quite important to look at yesterday was the associated kind of correlated moves that you were seeing in different assets it's almost like we've gone back to a more traditional flight-to-quality moves where normally what we've become used to in recent times is this coordinated bond-equity synchronized move, which is this new unprecedented era of which we're kind of living in, where really bad data is kind of good for equities and it's good for bonds as yields get pressured. However, I think the last few days you could have got caught out just kind of repeating that same strategy. And what we're seeing here is— and I thought what was important yesterday, and for those on trading live you probably heard me talking about it— was when equities were really testing lows. I remember we were testing that kind of S2 level in the equity markets. You had the Dow and the S&P kind of both looking to gather some momentum Then that oil inventory data came out and it caused— then with that headline crude reading being so counter to what we had in the APIs the night, night before, that was a trigger point for immediate selling pressure in oil. That break of that low was enough to then push those indices through those levels. And then you saw the T-note break as well in that bottom right-hand corner chart. The 10-year broke what was restricting a lot of that upside price action. You can see that on that timestamp there coming right when really that oil data came out. So you can see how a lot of the time it's not that the oil data is always going to have that equal level of importance for other assets, it's just that technically we were sitting right on the fence of a couple of key levels. And it's almost— I kind of think of this as an analogy, is that all the logs are on the fire, the lighter fuel's being poured on, and it's— you just need that spark, that catalyst bullishist. And I think that oil inventory number really did act as that, as that reason for then that continuation of the equity move. And that gets then validated with more momentum and force, where I think you can be more aggressive with higher conviction when you start to see those other assets follow suit. And certainly that also fits into gold to some degree, obviously supportive in that nature. Yesterday we saw a decent run-up in the price a break then of the, uh, the price activity we saw on Tuesday, which obviously was that really long-term level. You can see, I mean, I could stretch the chart back further. This level was so key, um, breaking above there, targeting that 1,500 level. That in itself also technically relevant, and then pushing up to where we are at the moment. You can see we have had already this morning a little bit of quite high degree of volatility of a decent kind of $5, $6 price movement, retesting initially that high that we had yesterday evening, the US session, and then back down towards that 1500 again. So yeah, that— the data today I think will be equally as important. I think given the amount of press attention it's generating, given the fact that the market really is trying to cement its thinking over what the Fed are going to do in October, And given the string and nature of the consistency of the weak data, don't forget then, if we had strong numbers today in ISM Manufacturing and in the accompanying number that we get in the factory orders, there's room for a bit of recovery as well, I'd say. So either way, I think you're in for another quite interesting day ahead. All right, jumping over to a few other things, you can see in the FX market things are relatively quiet. Major pairs down a touch in euro-dollar and cable, with the DXY up about 0.1%. Some of the headlines, of course, the conclusion of the Brexit— Brexit, what am I talking about— the Conservative Party conference. Boris Johnson giving quite a rousing speech which tends to, or seems to have appeased, a lot of the more Brexiteer-minded politicians. You probably saw me tweet yesterday. For me, it was kind of that typical Boris Johnson. He is kind of— he's such a master at the art of distraction, I feel. He's kind of layers in the jokes, he's kind of very charismatic, which means then you're so drawn into him, actually the content of what he's saying is fairly limited, but that doesn't really matter. But, you know, obviously we've seen this, um, before. Obviously Donald Trump is a real a proponent of this kind of approach. And I, I don't— as much as I can question it in terms of its effectiveness from a political economic point of view, that really is not the point. I think the one thing you would have learned about politics in recent times is that really it's about populism. It's about being popular as a politician. It's about resonating with the, with the electorate because as I still think is the case, he's lining up a general election. I think if he wants to capture that kind of sentiment, then he probably struck the right chord yesterday, or tone, I should say. But obviously the biggest test now comes with a few things, really twofold. Part one is today he'll present his plan to the cabinet. So I'm sure you're going to get lots of rumors from journalists on Twitter and things like that. But overall, Michael Gove made some comments last night, and he's very supportive, and he's senior, of course, in that respect. I would expect the cabinet to support him. This is why there was such a radical reshuffle of the cabinet when Theresa May left, for exactly this specific point, that they would get behind him. Otherwise, what will happen then, as the secondary part of this, after the cabinet give they give their kind of approval, either Boris himself or Stephen Barclay, the Brexit Secretary, will then take questions on it in Parliament. And that's going to be, of course, interesting. The second part of this is what Europe have to say. Kind of very cautious and guarded in their response so far about this idea of, of this new proposal to try and counteract the technicality around having a non-hard border in Northern Ireland. And so their response, of course, is key here. So yeah, much more to come. At this point in time, the pound's really not seeing a great deal of movement, but certainly could do later on in the session for sure. All right, quick look at the, um, calendar for the rest of today. And then actually, one thing I just wanted to mention Obviously we're just talking about the S&P. I did mark up, you probably would have seen here, the lower bound levels. Just wanted to mention that trend line that Sam was looking at earlier in the week. As always, Sam, kind of the king of trend lines, absolutely hitting it on the, on the nail on the head yesterday when that we had that sell-off, that push through at 2900, and that breach of this early September September low, just hitting that trend line to the tick almost. So definitely on any retest of that trend line you'd be interested. Any move lower then does start to open up then a move back and a look at that late August low level, which would be down here, and then the next point down at 24.5, which we did to continue lower. That kind of, um, 3 tests that we had through the month of August would be downside levels I'd be watching for sure. Just quickly back to the calendar, um, I'm not going to take too much more of your time. I am aware there's some economic data points coming out throughout the morning, some updates on the service PMI side out of Europe, so I do want you guys to focus on that. Other than that, which will be meaningful for European assets, so do just keep an eye out. I'll, uh, of course update you on the mic. Into the afternoon, initial jobless claims, and as we discuss factory orders, ISM non-manufacturing, the durable goods is coming up, but that's the revision figure. And all of that US data is coming at 3 o'clock, not 1:30. We've already had Fed's Evans on Bloomberg TV. We've covered— you do have ECB's Olli Rehn, who does tend to be quite interesting, one of the newer members, speaking a bit later on this morning, in about half an hour's time. And you've got another Fed sequence of speakers speakers happening at 1:30. Both are voting members, so I would also highlight that on your calendar, just given the context of all the things we've been discussing. All right, that is it from me. No Sam today, I'm afraid. Uh, he's going to be in the Trading Live room, but he's actually over at our other office in the training facility. So I'm going to leave you with that. Have a good day. Both Sam and I will be available in chat So anything you need, just give us a shout. Charlie there as well. All right, have a good day. Thanks very much.