The a.m. Note is a daily 

review of emerging news

and data impacting the 

economy and financial


Chris Ahrens is the Chief

Market Strategist at First

Empire Securities and is

a member of its Financial

Strategies Group. 

A veteran of the financial
industry, he is an authority
on interest rates and
the economy.

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Volatility Remains Center Stage


December 28, 2018 – Markets remain disjointed as they stagger towards the year-end marking period.


Overnight, equity prices have modestly extended the move higher after the violent upward surge in the last hour of U.S. trading yesterday. Volatility will continue to be the name of the game, but further upside seems attainable given the aggressive bounce off of important technical support.


The dollar has been quietly edging lower over the past few days, moving to the lowest levels seen since early November. If the pricing of fed funds futures proves to be broadly correct over time (no hikes are currently priced in, contrary to Fed guidance), then a weakening of the greenback could be a profitable macro trend in coming months. It would also provide some support to the U.S. economy through the export sector.


Commodity prices, led by energy, are near multi-year lows and are a key source of disinflationary pressures. Weakness in this sector clearly derives from the trade spat, fears of slower global growth, and the reality of a meaningful deceleration in Chinese growth.


U.S. Treasuries are holding their bid this morning, despite the bounce in equities. The curve has steepened over the past few days, with 2Y10Y moving from a low of 9.3 bps on December 20 to a current level of around 21 bps. The move is likely due to a flight to quality due to equity market volatility as well as profit taking on flatteners as the year draws to a close.


The news flow was unsurprisingly light, with most stories focused on the volatility in the markets rather than economic activity or geopolitical events. It is worth noting, though, that CPI data for both Germany and Spain fell short of forecasts and remained below the ECB target rate of 2.0% (1.7% and 1.2% YoY respectively).

Wash, Rinse, Repeat…


December 27, 2018 – The volatile trade continues to make it difficult for those who allocate capital to act with confidence. Risk markets have retraced about 1/3 of yesterday’s move in the past 12 hours.


A weak report on Chinese Industrial Profits (-1.8% v. 3.6%p) provided the pretext for the sell-off. Hong Kong trade data, also out overnight, similarly fell short of expectations. Yesterday’s Richmond Fed Index – admittedly a second tier piece of data – was broadly ignored by buyers, despite a record decline. Other diffusion indices, such as the Philadelphia Fed, Empire State Index, and industrial commodity prices are also flagging. This accumulated data is perhaps a harbinger of downside risk for next week’s round monthly ISM data, which will fuel further fears of a softening in global economic activity.


Today will likely be an inside day, given a light slate of data and time of year. Equity markets should find some support from short covering at key technical levels (see Chart of the Day below) and share buyback initiatives. Treasuries will likely hold their bid, awaiting more clarity on different story lines.


Treasury will auction $32 billion of 7 year notes at 1:00.


Currently, UST 2 year notes are 2.577%, 10-year yields are 2.752%, and the 2Y10Y spread is 17.5 basis points.



December 26, 2018 – Risk assets look set to trade higher today after the ugly washout during Monday’s abbreviated session. The price action looked like a possible capitulation with the gap opening lower, meager bounce, and then cascade downward to close at the day’s low (and a new low for the move). There’s no concrete reason, however, to believe that a bottom has been established, given that there has been no material change in any of the narratives that have created unease among the investor community. Thin volume is also exacerbating the volatility.


The overnight news was predictably light. Data on retail activity from the holiday season is filtering in, with reports indicating that it was one of the best selling seasons in many years. Any other result would have been a surprise, given the level of unemployment, low gasoline prices, and high levels of consumer confidence.


Geopolitical news was limited to a variety of minor stories. There were a couple of headlines about slowing growth in China and the need to re-capitalize the banking system. This could become one of the dominant themes of 2019, especially if the trade negotiations drag on for an extended period. 


Treasury will auction $18 billion of 2 year FRNs (re-opening) at 11:30 and $41 billion of 5 year notes at 1:00.


Currently, UST 2 year notes are 2.575%, 10-year yields are 2.758%, and the 2Y10Y spread is 18.3 basis points.

It’s About Risk Appetite


December 24, 2018 – Equities continue to lurch to the downside as a holiday abbreviated trading week gets underway.


Trading desks are thinly staffed due to vacations and positions have been reduced in advance of year-end. It therefore takes much smaller volumes to drive larger moves.


The news emanating from Washington also does little to inspire confidence among risk-takers or the investor class. While the data points on the economy remain solid – and by all accounts it seems to have been a very solid selling period for retailers – the absence of disciplined process and erratic decision-making by the U.S. administration are driving capital seek a safe harbors.


Signs of stress continue to grow across asset classes. In addition to weakness in equities, leveraged loans, high yield bonds, and investment grade bonds all continue to underperform. Gold is well bid.


The dollar remains surprisingly stable in this sea of turmoil. Given the ire directed at the Fed Chairman by President Trump and the fact that traders have repriced the short end of the yield curve to remove any rate hikes in 2019, the greenback remains relatively range-bound (for the time being).


Treasury will provide a wave of supply this week, with auctions of around $140 billion in bills, accompanied by another $131 billion in floating and fixed rate notes.


Treasuries remain well bid in this environment, as money hunkers down to ride out the storm. Currently, UST 2 year notes are 2.618%, 10-year yields are 2.765%, and the 2Y10Y spread is 14.7 basis points.

Biding Time


December 13, 2018 –  Markets will lapse into a quiet churn over the next few days, awaiting the Federal Reserve’s expected rate hike, updated Summary of Economic Projections, and press conference, all due to be unveiled next Wednesday afternoon.


Today’s ECB decision was within the realm of expected. The operational framework of rates was left unchanged and the asset purchase program was terminated. The balance sheet, at €2.6 trillion, will be maintained through reinvestment of maturing securities. The Governing Council continued its policy of forward guidance, affirming that rates will remain “at their present levels at least through the summer of 2019.”


In the following press conference, ECB President Draghi noted that incoming data has been weaker than expected, reflecting a softening in external demand. Notably, he observed that the balance of risks is moving to the downside. ECB policy makers also lowered their 2019 inflation forecast to 1.6% from 1.7%.


In other news, Italy has conceded to lower their 2019 projected budget deficit/GDP ratio to 2.04% in the coming year. This is down from the most recent proposal of 2.4%. Italian bonds have rallied on the news, as it brings the country closer to the ECB, but it’s not clear whether this move will be sufficient to placate Brussels. In the U.K., Prime Minister May managed to stave off yesterday’s vote of “no confidence” garnering the necessary, if not sufficient (again!), number of votes. There is still no solution to the Brexit situation.


China made a token purchase of soy beans in the last 24 hours, providing a glimmer of hope to the U.S. agricultural sector. This conciliatory gesture was also paired with a negative, however, as state authorities have now detained another Canadian citizen for questioning. Foreign Direct Investment in China plunged by 26% YoY in the most recent period. This is only one month of data and it could be an anomaly, but given the general tenor of the situation “attention must be paid.” 


U.S. economic data today consisted of the Import Price Index (0.7% YoY v. 1.3%e), Export Price Index (1.8% YoY v. 3.1%p), Initial Claims (206k v. 226k e), and Continuing Claims (1661k v. 1649k e). The 4-week average of Initial Claims, which has drifted higher in recent weeks, fell 3.75k to 224.75k from 228.5k).


Treasury closes out its “mini-refunding” today with an auction at 1 p.m. ET of $16 billion 30-year bonds (re-opening).


Currently, UST 2-year notes are 2.766%, 10-year yields are 2.90%, and the 2Y10Y spread is 13.4 basis points.


Pawns in a Paroxysmal Process


December 12, 2018 – Markets are rallying in response to the release of Huawei’s CFO on bail. Ostensibly, this is going to ease trade tensions between the U.S. and China and equities have reflexively moved higher on the news.


Huawei’s CFO was supposedly detained because the company is accused of violating U.S. sanctions against Iran. President Trump suggested that he could intervene in the situation, if that would lead to Chinese concessions on trade. Meanwhile, China has detained a former Canadian diplomat on charges that the company he represents was not properly registered to do business in China. This situation appears to have devolved into a crass game of taking citizens hostage, rather than a refined diplomatic process operating within a framework of rules designed to achieve legitimate goals.


Meanwhile, the cyberattack on Marriott which grabbed data on about 500m customers has been traced to a Chinese intelligence gathering unit, according to the New York Times.


None of this information provides a plausible reason for investors to commit capital to risk assets. Today’s up trade is a short-covering, relief rally in a volatile market.


In the U.K., the fight over Brexit continues, with Prime Minister May’s party calling for a vote of “no confidence” in her leadership. May has vowed to fight this move, and at this point the bean counters at the BBC feel she has sufficient support to maintain her position.


Fixed income markets are drifting higher in yield, given the move in risk assets. Dealer positions are at record longs, year-end is approaching, and Treasury supply is relentless. UST 10 years will likely drift back towards support (2.96% - 2.98%) as the refunding proceeds. Today, $24 billion of 10 year notes (reopening) will be auctioned at 1:00. These higher yields will likely represent a buying opportunity.


Today’s CPI data was squarely on forecast, with overall CPI at 0.0% and the Core rising by 0.2%. The YoY % change for each price measure was 2.2%.


Currently, UST 2-year notes are 2.774%, 10-year yields are 2.892%, and the 2Y10Y spread is 11.8 basis points.

Inflection Point?


December 11, 2018 – Inflection points are always obvious in retrospect. In recent weeks, certain measures of business and employment activity have turned over and may be signaling that the near-term environment is transitioning from one phase to the next. In this case, the change would represent a deceleration in the pace of activity.


A few of the metrics that are worth considering as harbingers of a change include today’s National Federation of Independent Businesses sub-index, which surveys the Outlook for General Business Conditions; the Institute for Supply Management’s New Orders, Orders Backlog, and Export Orders Indices; and the Department of Labor’s Initial Claims 4-week Moving Average.  It’s also worth noting that the Atlanta Fed’s GDP Now model is currently projecting a 2.38% rate of growth for Q4, while the New York Fed is tracking at 2.44%.


All of these measures are still at levels that suggest a healthy economy, solid labor market, and inflation near target, but it will be important to monitor their evolution over coming weeks and months.


Yesterday, market observers were questioning whether the price action was signaling a bottom, as well as trying to parse how much of the price action was due to year-end considerations and how much might be attributable to fundamental change in conditions. Time will answer these questions, but, for today, the risk markets look like they want to move to the upside. The main geopolitical risks remain unresolved: trade, Brexit, the Italian budget, street riots in France, and weakness in bank equities.


Fixed income prices have softened a bit, perhaps as a concession to the upcoming wave of Treasury supply. The auctions get started this week with $38 billion of 3-year note offered at 1:00 today


UST 2-year notes are 2.744%, 10-year yields are 2.866%, and the 2Y10Y spread is 12.2 basis points.


Shifting Seas


December 10, 2018 – Last week was an important one for the markets, with continued declines in open interest and high trading volumes, especially at the front end of the curve. Some of this represented a reappraisal of the Fed’s projected pathway into 2019, some a desire to find a safe harbor in the face of high volatility and a sell-off in equities, and some a desire to position for a slower forward pace of growth. Price action was both reactive and proactive.


There are good reasons to believe that the Fed could moderate its pace in 2019. While inflation and employment are basically near what is believed to be mandate appropriate levels, there is a growing sense that each component could tread sideways or drift away from these targets in coming months.


According to a recent note from the San Francisco Fed, many of the components that drove inflation towards its 2.0% target were “acyclical” in nature and are expected to fall back in coming months. Cyclical components did not rise as much as might have been expected, and could also fall off. From a macro level, commodity inputs are broadly moving down and interest rate sensitive sectors are also facing price pressures.


The labor market, while still quite healthy, may also be starting to ease a bit. The weekly average of initial claims has risen over the past few weeks, the average workweek fell in the latest report, and employers could adopt a more tempered stance for hiring as fiscal stimulus abates and trade negotiations evolve.


In terms of financial stability, Fed officials need to keep a close watch on the leveraged loan markets (to the extent possible). One feature that makes the recent sell-off in equities more perilous is the emerging deterioration of spreads across the credit spectrum, but most worrisome in the leveraged loan sector. Over the past few weeks, price indices for those instruments have broken lower. These instruments have been broadly stable for most of the past two years, so the break of support which took place in mid-November adds a new element of risk to those looking to commit capital in the equity markets. It raises the specter of roll-over risks for those entities financing themselves outside of the prudentially regulated financial sector.


The downside risks on the global front are well known and not easily resolved. Trade is front and center for the U.S. and China. In Europe, Brexit negotiations are faltering without an apparent solution that is palatable to all sides. Prime Minister May’s leadership position is on tenuous ground and is also one of the objectives “in play”, complicating the process. European leaders need to also tend to their own garden, with problems in the banking system posing a serious risk to financial intermediation specifically and economic growth in general.


Risk sectors are reflecting their concerns over these issues and are trading lower as the week gets underway. 


The Treasury market is generally steady, with traders monitoring equity prices as they prepare to bid on supply. Treasury will auction $38 billion of 3-year notes tomorrow, $24 billion in 10-year notes on Wednesday, and $16 billion of 30-year bonds on Thursday.


UST 2 year notes are 2.705%, 10-year yields are 2.836%, and the 2Y10Y spread is 13.1 basis points.

Payroll Friday


December 7, 2018 – While the U.S. Nonfarm Payrolls release will occupy most of the market’s focus, the most important event is taking place in Hamburg today and tomorrow, where the Christian Democratic Party (CDU) is selecting its next leader. Party Chair and German Chancellor Angela Merkel has stepped down from her post after 18 years. The next leader of one of Germany’s main political parties will be in the mix of candidates to replace Merkel as Chancellor when she finally exits the stage.


Overnight, the geopolitical news continued to focus on China – U.S. relations. There is nothing new (yet) to report on the trade negotiations, other than the initial impulse of the Chinese seems to be conciliatory. The recently arrested CFO of Chinese technology giant Huawei, faces her bail hearing in Vancouver today. This issue, which seems to involve a breach of U.S. sanctions on Iran by the company, appears to be ring-fenced (for the time being) from the larger discussion on trade.


In aggregate, the overnight economic data seemed soft. Japanese Household Spending and Leading Indicators declined, German Industrial Production was weaker than expected, and Chilean Copper Exports fell short.


Nonfarm Payrolls were a touch softer than forecast, at 155k v. 198k (e). The economy has added 2.4 million workers over the past 12 months, or approximately 204k employees per month. The Unemployment Rate held steady at 3.7%. Average Hourly Earnings were also unchanged at 3.1%. The Average Workweek, however, was -0.1 hour shorter than forecast, at 34.4 hours. This data keeps the Fed on track to hike rates by 25 basis points in December.


UST 2 year notes are 2.756%, 10-year yields are 2.886%, and the 2Y10Y spread is 13.0 basis points.


Look North


December 6, 2018 – Yesterday the Bank of Canada left their official rate unchanged at 1.75%. This decision was in line with economists’ expectations, but the policy statement indicated that the Bank has shifted towards a more dovish stance regarding future rate hikes.


Policy makers noted that “the global expansion is moderating largely as expected, but signs are emerging that trade conflicts are weighing more heavily on global demand.” Among other comments, they noted that “Oil prices have fallen sharply…Business Investment fell in the third quarter…” and “CPI inflation… is expected to ease in coming months by more than the Bank had previously forecast, due to lower gasoline prices.”


The Governing Council’s forward looking guidance took note of “the effect of higher interest rates on consumption and housing, and global trade developments. The persistence of the oil price shock, the evolution of business investment…will also factor importantly into our decisions about the future stance of monetary policy,” Governing Council Statement, Bank of Canada.


Sound familiar? Throw in a bit of equity market volatility, waning impact of tax law changes, and a dollop of political uncertainty, and it sounds like the U.S. is facing broadly similar circumstances. What also is interesting is that Canada’s CPI inflation is running at 2.4% YoY% (U.S. 2.5% YoY), while Canada’s core Inflation is at 1.6% (U.S. Core CPI 2.1%, Core PCE 1.8%). The relative economies are somewhat similar, with broad linkages, so taking note of the Bank’s observations is a worthwhile exercise.


U.S. equity markets are set to open in the red, with a rough day likely ahead. Right now the futures are down about 1.3%, with European markets off by over 2.0%. While the proximate trigger for the sell-off is being attributed to actions by the U.S. that are likely to irritate China as the trade negotiations commence, the sell-off is most probably a continuation of the closing out of positions. Global economic and geopolitical uncertainty is high, market correlations have shifted, volatility has risen, and it’s December. Against this backdrop, the people who are responsible for committing capital to active and algorithmic-based strategies are paring down risk. 


UST 2-year notes are 2.756%, 10-year yields are 2.881%, and the 2Y10Y spread is 12.5 basis points.

The Devil in the Details


December 4, 2018 – Right now, there don’t appear to be any details. There are dates, December 1 to March 1, which define the time frame for a negotiation. A formal framework probably doesn’t exist, but a “wish list” of popular talking points will probably serve as a basis for that. U.S. Trade Representative Robert Lighthizer, a seasoned negotiator, will manage the effort on behalf of the administration. He is viewed as having hard-line views on what reforms China needs to implement. He sounds like the right man to get the ball rolling.


The risk markets have reacted skeptically to the “deal” announced Saturday. U.S. equities rallied hard on Sunday’s Asia open, but gave back some of the gains during yesterday’s day session. Overnight, Japanese markets sold off hard, with the Nikkei down by 2.4%. Euro equities are lower across the board. Today’s U.S. session looks like it will start off modestly in the red.


The dollar has been under pressure over the past few hours, giving noticeable ground to the yen and the yuan. As year-end approaches, the greenback could come under further pressure. 


U.S. fixed income markets are mixed, with the front end higher in yield, while longer tenors are well bid. The inversion between the front end and the intermediate sector looks like it will persist. Investors are going to seek to capture the higher yields offered further out the curve, supported by a benign inflation environment and a vigilant Fed.


Worth a mention is the fact that Asian fixed income rallied strongly overnight. Australian 10-year yields dropped by 8 basis points to 2.53%. Chinese yields, hit multi-month lows across the board, with the 10-year settling -3.3 basis points at 3.32%. Chinese fixed income is likely responding to strength in the yuan, which will make exports less competitive on the global markets, causing domestic production slowdowns, and a deceleration in GDP.


UST 2-year notes are 2.827%, 10-year yields are 2.955%, and the 2Y10Y curve is flatter at 12.8 bps. Please see comments and chart below on UST 10-year.

As Predictable as the Dinner Menu


December 3, 2018 – The outcome of this diplomatic game was never in doubt. Going into this weekend’s G-20, consensus expectations had been fully managed to the idea that a truce in the trade spat, comprised of a U.S. agreement to hold-off on the next round of tariffs in return for some Chinese concessions and a mutual agreement to engage in serious negotiations, would be announced after a meal of grass-fed Argentinian steak and a good local Malbec.


On Sunday evening, President Trump tweeted that the Chinese have also agreed to “reduce and remove” tariffs on American auto imports. At a briefing early this a.m. in Beijing, a Chinese foreign ministry spokesman would not comment on any changes to auto tariffs.


In a Barron’s interview this weekend, former Governor of the Reserve Bank of India, Raghuram Rajan, commented on the China-U.S. dispute and succinctly defined the stakes as being not just about trade, but “global governance, technology appropriation, and military supremacy.” He continued, “ultimately, technology will determine military might in the future. Any dialogue about a few aspects of trade is not going to satisfy.”


Based on the wisdom of that comment, it seems unlikely that negotiations will be fully concluded within the 90-day timeline. 


The fixed income market will now turn its attention to the economic data and its potential impact on Fed policy. Monthly auto sales, out today, are expected to drop from last month’s 17.5 million annual pace, to around 17.2 million. The monthly ISM report (57.5e) will provide a reasonably contemporaneous snapshot of manufacturing activity as of November’s close. Friday’s Nonfarm Payrolls report for November is expected to be on trend (198k e), with a steady Unemployment Rate (3.7%e), with average hourly earnings rising at 3.1%e (forecasts are Bloomberg consensus).


UST 2-year notes are 2.831%, 10-year yields are 3.033%, and the 2Y10Y curve is flatter at 20.2 bps. 

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