Conflicts in Search of a Resolution
“It can only be attributable to human error.”
—HAL, 2001: A Space Odyssey
Powell just made this personal.
Key takeaway: Crosscurrents abound, and we need to be aware of their existence, but they need to unfold further. Employment data and Consumer Confidence are at odds with the No Landing view. Powell is at odds with at least a few FOMC voters. Wages should continue trending lower based off a lower Quits Rate, which contradicts the pop in the Employment Cost Index and Unit Labor Costs. The BoJ is inadvertently squaring off against the MoF.
Contrarian Signal Dept: We may end up looking back at Apple’s historic $110 billion buyback announcement as a tipping point that epitomized the market’s topping process. The announcement of the largest ever stock buyback on the Apple earnings call then followed by news that Warren Buffett is selling more Apple shares means, in the simplest of terms, that Warren is selling Apple stock back to Apple. Berkshire still has enormous exposure to Apple, but it is never a good bet to be on the other side of Buffett. The timing is rarely immediate, but the result normally moves in Berkshire’s favor. Time will tell.
Powell:? And That’s How We Think About That
“If you go back a couple of years, our sort of framework document says that when you look at the two mandate goals, if one of them is further away from goal than the other, then you focus on that one. ..and that was clearly inflation. As inflation has come down now to below 3 percent on a 12-month basis, we're now focusing the other goal. The employment goal now comes back into focus. So, we are focusing on it. And that's how we think about that.”
So inflation is now in the rear view mirror: mission accomplished? During his press conference following the Federal Open Market Committee (FOMC) statement, the Chairman pretty much promised the press room the Fed will attain their target. When asked about the potential for stagflation: “And of course with inflation, we will return inflation to 2 percent and that won't be, so I don't see the stag or the flation actually.”
I guess that is…that.
Powell vs. The Press…and Bowman
Powell was confronted about rate hikes at the press conference. His first response was it is unlikely. When he was asked three times (!) by the same journalist if anyone discussed rate hikes at the meeting, he said:
“So, if we were to conclude that policy is not sufficiently restrictive to bring inflation sustainably down to 2 percent, then that would be what it would take for us to want to increase rates. We don't see…evidence for that. So that's where we are “
I have a problem with that too.
You Had Me at “Inflation Remains Elevated”
The FOMC has used the phrase “Inflation remains elevated” since the November 2022 meeting. If Powell is speaking for the entirety of the FOMC, then the consensus is confident they are going to reach their 2% inflation goal. If that were the case, then the last three months of elevated inflation should be sufficiently covered by the long-standing statement language. However, they chose to add a sentence stressing that there has been a lack of forward progress in reaching that goal. The FOMC is very deliberate in adding sentences to their statement and only do so when they are confident it should stay in for a few months. When I read that added sentence:
“In recent months, there has been a lack of further progress toward the Committee's 2 percent inflation objective.”
It was clear that enough members on the Committee are sufficiently concerned about the prospect of elevated inflation continuing indefinitely that they insisted on this additional sentence to avoid giving the market the wrong impression.
And then, in my view, Powell proceeded to give the market the wrong impression.
Fed Governor Michelle Bowman was the first FOMC voting member to speak after Powell. In her remarks Friday, she was, at first, in line with the chairman, saying “my baseline outlook continues to be that inflation will decline further with the policy rate held steady.,” However, the connection abruptly ended there. She sees a number of upside inflation risks and expects “inflation to remain elevated for some time…inflation was temporarily lower in the latter half of last year”. She then went on to give a litany of reasons why that extra sentence was added to the statement:
Given that logic, she concluded “I remain willing to raise the federal funds rate at a future meeting should the incoming data indicate that progress on inflation has stalled or reversed.”
As to her last point about loose financial conditions since late last year, at his press conference, Powell first said that the easier financial conditions last year did not cause any overheating, and followed that up by completely contradicting Bowman’s assertion when he said “rates are certainly higher now…than they were before the December meeting, and they're higher and that's tighter financial conditions.”
Given Bowman’s comments, the addition of that sentence makes perfect sense. There had to be several voters in Bowman’s camp to push through a language change. It is clear to me that Powell presented his personal views as those of the entire Committee at the press conference. Granted, Michelle Bowman is the extreme hawk on the FOMC. Barkin and Kashkari speak early this week, and I expect them to echo Bowman, not Powell.
Econ 101
As for the data last week, nonfarm payrolls surprised with an uptick in the unemployment rate (although it went from 3.83% to 3.86% so the 3.8% to 3.9% headline is not quite as dramatic in reality). The real dynamic at hand is the influx in the available labor supply, and a lot has been written about immigration’s impact.
Absent an acceleration in immigration, nonfarm payrolls will slowly catch up to the more forward-looking employment indicators I have been featuring here for months such as the Quits Rate and Hiring Intentions:
The Job Openings and Labor Turnover Survey (JOLTS) for March reported a drop in openings that was dominated by small business. The data supports the weak trends in the employment data that have been evident in the National Federation of Independent Business (NFIB) survey. The weakness in NFIB Hiring Plans has a great history of leading the payroll number. The NFIB Jobs Report released last week (the full survey is out May 14) reported “Overall, small businesses are not reporting net gains in employment as wage pressures and inflation keep the labor market tight.” Hiring Plans bounced 1 percent, but that is within a very negative trend:
The Quits Rate from JOLTS has continued to fall, and it indicates workers sense that they are more replaceable, giving management the upper hand in capping wage gains. The Quits Rate is an excellent predictor of Average Hourly Earnings six months ahead, so its unrelenting decline contrasts with the low productivity / high unit labor costs data as well as the strong rise in the Employment Cost Index that both came out last week:
It could be that the additional supply of labor has dampened the effectiveness of these employment leading indicators but has not rendered them ineffective. The impact of the increase in borrowing rates and tight bank lending standards combine to make it more difficult and more expensive to attain working capital. This is hitting small businesses first, but the effects should be working themselves up the capital ladder.
An Important Note Regarding Productivity
From last week’s productivity report, the annual growth rate in real private fixed investment in information processing equipment and software over the last four quarters just hit a 3-year low. Despite the hope for stronger productivity, the reality is we could see depressed productivity numbers for the next few quarters, and that could dampen high-flying AI sentiment.
Wage weakness: Good for Inflation Bad for Consumption
Consumer confidence is going in the wrong direction according to those who see a no landing scenario of continued economic growth. It is no surprise given the data above that the Conference Board’s Consumer Sentiment index has struggled. The headline number was driven lower by the expectations component, which is strongly correlated with consumption.
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Consumers have grown more pessimistic about future business conditions, job availability, and income. The expectations index had an outsized 7.6-point drop to 66.4, and anything below 80 tends to presage recessions. Anecdotally, April’s write-in responses showed “elevated price levels, especially for food and gas, dominated consumer’s concerns.”
One important factor behind lower confidence can be seen by the following chart of the annual growth rate in Aggregate Weekly Payrolls. The series is calculated by taking the number of workers (which has been positive) and the hours they worked (declining) with what they were paid (below consensus):
The recent data is now back toward the 2010-2019 range (see red lines) and adjusted for inflation is an explanation behind slowing consumption among lower earners.
QRA Update and Yen Intervention: MoF vs. the Market
The Quarterly Refunding Announcement (QRA) did not rattle the market because the auction sizes for coupons were kept basically the same. That did not have any impact on Treasury yields, which dropped last week on weaker economic data. However, the second round of Yen buying probably helped too. The Ministry of Finance did instruct the Bank of Japan to sell USDJPY after I published last week. They came in with massive size and did an effective job in two separate rounds; with that 10-year yields (seen as an overlay in black) also moved lower in tandem:
USDJPY is a key support level, hitting 152. If USDJPY can be pushed below there and the psychological 150 level, then it will begin to impinge on Yen carry trades and push rates lower in the U.S., which could dampen any appetite for value stocks.
The major obstacle to further Yen appreciation, and by extension, lower 10-year yields, is that the yield differential still makes the Yen a very attractive funding currency to short. The minutes of the Bank of Japan’s (BoJ) March Monetary Policy Meeting (when they raised rates) were just released Thursday. The minutes show the contrast between the impatience of the FX trading community and the glacial pace adopted by the BoJ. Some members of the Policy Board pointed out:
“Changes in the monetary policy framework would not be a shift to a phase of monetary tightening…it was important for the Bank to provide a clear and thorough communication…so there would not be a spread in the misunderstanding that it had shifted its monetary policy stance from monetary easing to rapid policy interest rate hikes.”
There was a similar logic applied to maintaining the current size of JGB purchases. The motivation for doing so may not only be to help promote economic growth. The BoJ may have maintained the policy of controlling the yield curve in practice (even though they announced they have ended it) out of fear that they will have to come in with even heavier purchases if U.S. Treasury yields begin to sell off again. ?The dilemma the BoJ faces is that as they maintain their JGB buying program, it works at cross purposes to any Ministry of Finance intervention plans. Therefore, the MoF is not only fighting the markets, but the BoJ.
Markets:
Equity Market: Get ready
Weekly Trend: Neutral/Bearish
Daily Perspective: I am updating the chart from last week of the daily S&P 500 Index from the October 2023 low, with an Ichimoku cloud. It failed at my key 5145 level (blue arrow). There are two additional resistance levels at 5179 and 5219 (black and red arrows, respectively.
I will repeat what I wrote last week before this week’s action:
“This makes for some clean risk/return parameters:
Again, repeating from last week:
“I believe we are in a ‘picking up pennies in front of a steamroller’ situation, so any breakout above 5145 can be traded from the upside, but not for long-term positioning”.
Weekly Perspective: The pattern below is unfolding similar to the selloff leading to the October 2022 and October 2023 lows (see black arrows). However, I cannot entirely rule out that this pullback is analogous to the March 2023 low that set up a sustained rally (blue arrow). The tell will be whether the oscillator in the lower portion of the weekly S&P 500 Index below reverses up (see the three times that are highlighted since the October 2022 low).
Software
From Morgan Stanley after surveying software companies in their research universe: “The recovery in enterprise software has been more gradual than expected so far this year, but budgets are up versus 2023. As it relates to Generative AI, the software sector is still in the ‘proof of concept’ phase and identifying use cases to justify ROI.”
Below is a weekly IGV chart, the software ETF, showing a massive distribution top. The top 5 names constitute 40% of the total, and the top 3 names are MSFT CRM and ORCL.? You can also make the case for a head and shoulders top.
This is a chart that has to move decisively back up above 85 to suggest the overall market has a chance for new highs.
Bitcoin futures just avoided a long-term sell signal last week. It is currently on a buy signal from October 2023 at 28,525. A close below 58,000 would be a short signal. That would be a negative for NASDAQ due to their high correlation, and a sign that financial conditions are tightening.
Fixed Income: Daily vs. weekly charts
Weekly Trend: Bearish ?
Daily: The 10-year Treasury note yield chart below shows that payroll weakness and the weak ISM print Friday pushed 10-year yields to the bottom trading band. There should be a continued rise in yields after hitting support. Alternatively, we are on the lookout for a limited bounce similar to November 2023 (see red horizontal line). That could set up a nice rally in fixed income/fall in yields and support the weekly chart to follow.
Weekly: 10-year yields broke below the channel in December presented below in the weekly chart. If that is the case, 4.72-4.76% should cap yields.
Crude Oil: Breakdown
Weekly Trend: Bearish
Crude oil Inventories were reported higher last week, and the economic weakness from payrolls that boosted stocks pressed WTI futures down further after breaking my 81.50 support discussed in the last report. The trend model reversed to bearish mode (see red bar) and broke below the bottom of the cloud support at 79.30.
However, the daily chart shows support at 78, the bottom of the channel and a 50% retrace level:
As I mentioned last week, the break of 81.50 would target a price in the mid-70’s, and perhaps extend to the December lows. Energy bulls need to see bids come in above 78. A break below the 78 level would give consumers an additional break at the gas pump and boost confidence.
Best,
Peter Corey
Pave Pro Team
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