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The Weekly Track windmills

- The Weekly Track – Windmills by Bob Savage
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We maybe tilting at windmills as the relentless rally up in risk in the last week for US equities begets ever more analysis as to why markets react to policy and economic data as bulls beat bears. The cause and effect of why shares are bid in the US and Europe, less so in Asia and emerging markets matters. Knowing what caused the rally matters more than the rally itself, as it will be the underpinnings for the next cycle of selling. The abnormality of the last week stands alone - Stocks up, Dollar up, Oil up, Bonds up, Emerging Markets down. The cracks are in the logical inconsistency of it all, bonds and stocks can’t rally together forever, nor can the USD rally with commodities. Emerging markets depend on growth and easy money and yet the weakness last week seems to suggest more a zero sum game in play for value. The bulls will list out better 4Q earnings, less fears about US/China trade, less fears about China growth, less US political troubles – ie. no new govern
ment shutdown – and further easy money promises from numerous central bankers. Bears continue to point to the growth disappointments of Europe, the troubles in China and doubting of its data, ongoing political issues in Europe from Brexit to Spain to Italy and Germany, along with the usual geopolitical problems from Russia, to India/Pakistan to Mexico and Venezuela. The four stories that play out next week will matter significantly to how markets see the windmills of cause and effect – they might be giants or they may be more grist for the millstone.

1) China. Is this optimism that the US/China trade talks lead to a March 1 deal or if not an extension in the deadline? According to a Reuters report, China offered to boost its purchases of U.S. semiconductors in exchange for lower U.S. tariffs even as the talks seem inconclusive on intellectual property or state subsidies. The underlying status of talks will become more obvious with the Trump tweets on this next week along with the China auto sales and home price data.

2) Fed. Or is this hope that the FOMC is next going to ease – driving another risk parity rally - with the 1.2% drop in US December retail sales – worst drop since Sep 2009 – along with a higher weekly jobless claims shifting the Fed policy games on balance sheet reduction and rate normalization. The FOMC minutes will be critical in assessing the reaction function to the present data.


3) ECB. Similarly, is the EUR weakness due to German near recession and Italian confirmed recession or because the ECB is more likely to reverse from its QE end and talk for rate normalization? The numerous ECB speeches from Praet next week along with the ECB meeting account will be seen as critical in judging this point.
4) Brexit. Finally we see the confusion of Brexit still bleeding over the UK economy and yet the GBP holding stable, perhaps because of the inevitability that without a deal yet acceptable both Europe and the UK will delay any divorce.

There are many undercurrents to cause and effects in markets, as every cause produces more than one effect. We will found this out next week in the readings of the FOMC minutes as they compare to those of the ECB. Present policy expectations are like windmills – they might be giants blocking the next advance up in risk as not hiking isn’t the same as easing, nor is freezing the size of your balance sheet the same as continuing to expand it. What matters is what the US, Europe, PBOC, BOJ and others do with their policy more than one action alone.