The Fed must be delighted. Their second hike in a quarter has been greeted as a dovish hike. This week at least 9 of them are giving speeches: will they pour oil on this becalmed water? Or will it be a case of carry on carrying, as it usually is in the (perceived) absence of event risks… Our favourite blind-pile-into-high-yield, the South African Rand, is at the highs of the year – in fact of about two years.
This is the disquieting fact about markets since central banks got unconventional: the status quo isn’t a flat line, it’s an upward slope. Just as equities always had a long bias, with money needing to be put to work, now bonds, commodities and carry currencies experience the same upward momentum in the absence of anything else going on. So events pass by, positions are shuffled, and then volatility is completely smashed – driving the daily wall of money into higher yielding assets. With negative interest rates out there, why wouldn’t this happen?
Ah but those negative interest rates will not be with us forever. In fact, the interest rate pile is fast shifting from those falling over themselves to cut, to those trying to erase the easing. And thus the Fed must indeed be delighted that their dot plot for the next two years would take them above one of the previous kings of carry, the Australians, without anyone noticing.
This is allowing those uber doves, the ECB, to sneak out their hawkish feathers unnoticed too. We are used to comments from hawks like Nowotny, who last week popped up to argue that the deposit rate could be raised before ending QE.
But now one of the doves, Italy’s Visco has also said that the time between hiking rates and ending QE could be “shortened”.
The exit debate is clearly furiously afoot at the ECB. Maybe that explains Draghi’s almost exasperated attitude as the last press conference. He referred back to other statements so often that it’s clear he doesn’t want to stamp his voice on the official ECB communications yet.
Other developments over the weekend should also give carry-hunters pause for thought. For the first time in decades, the G20 couldn’t agree that “refraining from protectionism” was A Good Thing. We all know the elephant in the room is orange, and he wants bilateral trade deals as the only way to ensure his country gets its way. But this creates significant risks ahead for those who are in line for a deal and for those who are not. Not just the US: note that Merkel’s main response to her meeting with Trump was to emphasise the need to get the EU/Japan trade deal confirmed ASAP.
This is a paradigm shift from the shibboleth of the past two decades. Previously the equation ran: Globalisation good = trade up = EM growth = DM growth = commodities up BUT inflation down as new labour came onstream and technology made us more productive. Thus the Great Moderation. Now many of those forces are going into reverse. Does this mean growth down but inflation up?
Let’s keep climbing the wall of worry until the stagflation demons make themselves known. Oh, and while we are at it, let’s not forget the monetary policy divergence rankings are rearranging themselves too.