Market Recap

A typical risk-on day as stock markets in Asia follow the lead of Europe and New York on Friday. After the S&P 500 rose 0.7% Friday, most stock markets in Asia are higher, lead by Tokyo up 1.4%. As a result, the commodity currencies are up and JPY and CHF are down. USD, the ultimate “safe haven” currency, is slightly lower.

Stocks may be reacting to comments by US Treasury Secretary Mnuchin that the US and China are making progress on their trade talks. Finance ministers and central bankers meeting in Washington also released a statement Saturday saying they were willing to “act promptly” to support growth if necessary.

Note the tiny move in the GBP trade-weighted index. The steam has probably gone out of GBP for the time being.

Commitments of Traders (COT) report

Friday’s COT report showed speculators adding to EUR shorts and to USD longs. They resumed trimming their GBP shorts, and indeed are almost flat GBP.

CHF shorts are starting to reach an extreme level, as are MXN and RUB longs. Speculators trimmed AUD shorts but added to NZD shorts.


Today’s market

There isn’t much data on the schedule today. Brexit is now delayed until Oct. 31st and Parliament isn’t in session again until April 23rd, so the Brexit news that’s been the lifeblood of the market recently has suddenly stopped (for now).

Perhaps the major thing to watch for today is the start of trade talks in Washington between Japan and the US. The two sides said after the September summit that negotiations will focus on goods and "other key areas, including services, that can produce early achievements." Tariffs on autos and auto parts are likely to be a big topic, but Japan would probably reject any import quotas on autos or any widening of the talks to include the foreign exchange market. Any tension from the talks is likely to cause JPY to strengthen.

The Empire State manufacturing survey is expected to be slightly higher. Ordinarily I might say that was good news, but the Philly Fed survey, which comes out on Thursday, is expected to be slightly lower – the two surveys have been giving somewhat conflicting signals recently. Taken together, the two of them would show basically no change in the economic picture – neither accelerating nor decelerating. That would tend to be neutral for the dollar.

There are no forecasts for the Bank of Canada’s business outlook survey. The key indicator here seems to be the “future sales growth” number. That slipped into negative territory in Q4. A deeper fall into negative would only cement the idea of a weak Canadian economy and perhaps increase the odds of a rate cut this year, which currently stand at only 12%.

There are also no forecasts for the US Treasury International Capital (TIC) flows. But it seems that the inflow into the US of both long-term capital and overall capital is shrinking. Unless the trade deficit narrows as well, this suggests a weaker dollar sometime in the future.

With little on the schedule today, I’d like to say a few more words about the disastrous nomination of Stephen Moore and Herman Cain to the Federal Reserve Board of Governors.

As it stands now, it looks unlikely that Cain will even be nominated. As a result, it looks even more likely that Moore will get on the board. This is a natural reaction, perhaps related to the behavioral finance phenomenon called anchoring. With anchoring, a number takes on the function of an anchor for people’s thinking and that becomes the norm whether it’s reasonable or not. In the case of Moore & Cain, people may anchor on Cain and think that Moore is qualified because he’s better than Cain, whereas if they were to be compared with say Janet Yellen, it would be clear how laughable both their candidacies are.

Also, there’s a common twist of thought that makes people unlikely to reject two candidates in a row like this, just as if you sent a bottle of wine back because you didn’t like it, you’re unlikely to send the next bottle of wine back too no matter what (unless either it’s really really bad or you’re a jerk).

But the problem that both of these guys raises is what’s called the Overton Window. The Overton Window was first developed in the mid-1990s by Joseph Overton of the Mackinac Center for Public Policy. According to Overton, the window contains the range of policies that a politician can recommend without appearing too extreme to gain or keep public office in the current climate of public opinion. Just the fact that these two guys were nominated means there is now a precedent for putting people at the Fed whose sole qualification is loyalty to the President. That definitely widens the window. And if Moore does get on, as seems likely, then the window will be wide open.

Until now, the Fed was considered to be above politics and the Board members were expected to be economic experts implementing monetary policy in as neutral a way as they can for the benefit of the country. Of course this inherently impossible, as there are no Vulcans with PhDs in monetary economics (for those who don’t watch Star Trek, Vulcans were a human-like species with no emotions) and all economic policy favors one group or another, either borrowers or lenders. But regardless of their political bias, all members were expected to have a certain level of expertise that would allow them to base their opinions in an objective analysis of the economy, albeit filtered through inevitable human biases. Now, no more. Loyalty towards the administration is enough.

Perhaps this is why ECB President Draghi Saturday took the rare step of weighing in on these appointments. Speaking to reporters at the IMF meetings in Washington, Draghi said he was “certainly worried about central bank independence” and especially “in the most important jurisdiction in the world.”

If people think that the Fed is losing its independence, they would need more of a risk premium to entice them to hold the trillions of dollars worth of US government securities that they currently hold. That could come through higher interest rates or a lower dollar, or both.

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Marshall Gittler

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