In August the S&P 500 threatened to break 2800 three times to the downside, but managed to bounce each time off of its lows back to 2900. The market yo-yoed violently between these two levels as every time the market found solid ground President Trump decided to throw yet another wrench in the works and penalize China.
The outcome of the so-called U.S.-Sino trade talks remains uncertain, but the latest is that the two parties have agreed to meet on Oct. 1 for deliberations. It is beyond me what a month can do to change the extent of name-calling and bullying that has taken place, but one thing is clear: Trump is losing time and votes. He eagerly awaits the Federal Open Market Committee (FOMC) September meeting on the 17th to see if his angry tweets manage to coerce the Fed to cutting rates by 50 basis points. As the S&P 500 is back around 3000, this seems like wishful thinking.
U.S. economic data is deteriorating, no doubt. U.S. manufacturing is slowing per the latest PMI print, though Services have been holding up. GDP growth has nudged down toward 1.8%, which is not that bad. The Fed would like to cut, but it needs enough evidence that there is a need to cut, other than the fed funds rate trading well above government bond yields.
On Friday, the August payrolls report was released and revealed growth of 130,000 jobs vs. expectations of 160,000 jobs. The devil was in the detail, however, showing wage growth at 3.2% vs. 3% expected; inflation is starting to rear its ugly head. This makes it even harder for Fed Chairman Jerome Powell to cut rates by 25 basis points let alone 50 basis points. It is not a slam-dunk anymore.
Should the Fed cut by 25 basis points to save face and risk the wrath of Trump or just go all in and cut by 50 basis points and risk stoking inflation? Not an enviable position to be in, but certainly the answer is clear. The Fed should not cut right now as the market seems to be at all-time highs and the U.S. data is only worsening because Trump has carried on with his trade wars, which may be coming to an end as election time nears. China knows it, the world knows it. The Fed would be better suited to monitor the data patiently and stand pat. Expectations are supremely high going into this meeting. It seems the risk is for the dollar to rally and the market to be disappointed with a less-dovish Fed than hoped.
Another interesting phenomenon took place last week that helped support equities, that being bond versus equity rotation. Currently about $17 trillion of the global debt market is trading at negative yields. The thirst for yield at any level, even a negative one, is at extreme highs. It seems like a great time to raise debt. Why not lend money to people willing to pay you to take their money? Now that is a #nobrainertrade.
On Wednesday last week, investment-grade new issuances accelerated to 15 deals valued at $28.8 billion, bringing the total to $54.3 billion raised in just two days. Even Apple Inc. (AAPL) announced it was raising $7 billion in debt, even though it already has mountains of cash. Why would they need to raise more? Arbitrage.
As traders bought into these issuances, they probably needed to hedge their bond exposure and so started selling bonds to cover their maturity exposure. This sell-off in bonds caused a spike higher in yields and money flowed into the equity space. Just some balancing at extreme market levels given equity yields look quite compelling versus bond yields. Is this a start of a new trend? It remains to be seen.
There are only two trades at the moment despite individual market demand-supply dynamics -- bullish growth or bearish. If you are in the former camp, you will be long equities (cyclicals over defensives), long commodities, short bonds, short gold and bitcoin. If you are bearish, then one will be positioned short equities via cyclicals and long gold and bitcoin and bonds as the safe-haven trade. The whole market will move in a binary way. Regardless of oil, copper or other asset class fundamentals, the view here to take is more macro to forecast what the demand side of the ledger will be.
China is in no hurry to do a deal, contrary to Trump's tweets. It certainly will not be caving in prior to the 70th anniversary celebrations. The risk is for Fed to err once again on the side of caution and disappoint markets and Trump. Will it truly show its independence? All eyes are on Powell on Sept. 17.