WEEKLY: US CPI and midterms push markets higher
Week ended November 11, 2022
As usual the week was characterised by a combination of “saw that coming” and “what just happened?” Investors knew that the US mid-term elections and the October CPI release were both this week. However, both had different outcomes than investors were anticipating, which drove investor sentiment during the latter part of the week.
The FTX debacle dominated news flow early in the week, reverberating around the cryptocurrency market more broadly. The collapse of crypto brokerage FTX, which started early in the week and cumulated with the company filing bankruptcy on Friday, (re)raised issues that were bubbling to the surface in May and June about the opaque but very inter-connected infrastructure of players involved in the cryptocurrency community, including investors and brokerages/exchanges. Bitcoin was down 19.4% WoW ($17,034 close), and at one point on Thursday fell below $16,000.
The outcome of the Senate and House midterm elections is still not completely decided, although the Republicans will likely take the House while Senate control remains up in the air at the time I am writing this. Should the Democrats lose control of the House, the Biden Administration will have a difficult time getting any more of its progressive legislation passed into law during the next two years. Although the Dems clearly lost ground as anticipated, most – including President Biden – think they did better than expected. The casualties included many “Trump candidates”, damaging his appeal as the Republican candidate for a third run for president in 2024. Ron DeSantis, who won the Florida gubernatorial race by a landslide, appears to now be the Republican frontrunner.
October CPI in the US was better than consensus expectations, especially in terms of core inflation (ex-food, ex-energy), which came in at 0.3% MoM vs 0.6% in September. This suggests that the Fed’s single-minded focus on bringing down inflation appears to be working, although the signs have been suggesting this now for several weeks. John Authers covered this brilliantly (as well as investors’ reaction to CPI) in his Bloomberg Opinioneditorial on Friday morning, which you can find here.
Perhaps less of a surprise was the UK 3Q22 GDP read, which came in negative as the UK slips into a much-anticipated recession. Apparently, the UK is the only G7 country to have a smaller economy now than before the pandemic. Think what you may, but to deny BREXIT hasn’t damaged the UK economy is simply ridiculous as the weak data economic mounts. PM Rishi Sunak is truly stuck between a rock and a hard place. His government is floating trial balloons in the press of various versions of austerity measures (or call it what you may), which is a follow-through of the commitments he made to stabilise Gilts and the Pound after the mistakes of the former government. It is undoubtedly going to be a difficult few quarters in the UK.
MARKETS THIS WEEK
Friday was a holiday in the US bond market (Veteran’s Day), but it didn’t stand in the way of a strong rally in bonds and equities on Thursday, triggered by the lower-than-expected CPI data released that morning before the US open. The feel-good carried through to Friday for US – and global – equities. There are two ways to look at this sudden change in sentiment.
On one hand, investors that had moved to the side lines awaiting signs of a potential Fed pivot and hoping for a “normal” US election (i.e. not a repeat of January 6th) got just what they wanted. Investor expectations as far as the scope and severity of further Fed tightening moderated very quickly following the CPI read, and investors piled back into equities and bonds, pushing prices sharply higher throughout the day on Thursday. NASDAQ was up an astonishing 7.4% on Thursday and finished the week higher by 8.1% WoW.
On the other hand, lowering inflation comes with a price. Slower economic growth and higher unemployment are the collateral damage of monetary tightening. This is not positive for corporate earnings, but investors – at least for the time-being – are subordinating these concerns to the euphoria of a potential Fed pivot.
I still struggle to believe the Fed can orchestrate a soft landing, but investors live in the moment, and for now, the moment suggests that inflation is on the way down. The potential Fed pivot is clearly trumping concerns over slowing economic growth, and this caused bond yields to tumble and equities to head “to the moon” during the Thursday and Friday sessions. I have trouble buying into this with conviction because it seems to make little sense to me that risk assets should rally this hard just as the economic clouds are darkening.
The table below contains a summary of markets for the week, with more detail provided in the final section which contains the detailed data tables.
Looking deeper at the markets and ignoring for a moment the momentum-driven bounce in equities and US Treasuries, the most interesting trends this week included:
The US Dollar came sharply off its recent highs, as investors associate lower inflation with easier monetary policy ahead. Lower interest rates means that the US Dollar becomes less attractive from a yield perspective. Although the USD cratered (down 4.2% WoW), a weaker dollar provides a boost for multinational US companies, and this was also a factor in equity market moves this week. As an aside, both Sterling ($1.183/£1.00) and the Euro ($1.035/€1.00) rallied, too, as the greenback weakened.
High yield spreads widened, although Friday was a holiday and I did not get data for Thursday (because FRED is slow). However, through Wednesday, high yield spreads were 22bps wider WoW, potentially indicating investor concerns about a slowing US economy.
Gold rallied hard, something I can’t remember writing for many months. Could this be a sign of investor concerns? It certainly doesn’t go hand-in-hand with declining inflation (although a weaker US Dollar could be a factor, too).
Not surprisingly, Bitcoin and its brethren got crushed this week, as the FTX saga weighed heavy on the cryptocurrency market.
WHAT MATTERED THIS WEEK
US inflation slows
The BLS released CPI for October on Thursday morning before the open, which fuelled a sharp rally in both US equities and US Treasuries. Headline CPI increased 0.4% MoM (Oct vs Sept), the same as the month before, but annual inflation fell to 7.7% (vs consensus expectations of 7.9%-8.0%). Perhaps more importantly, core CPI (excluding food and energy) was 0.3% MoM for October (6.3% YoY), a sharp decrease from the prior month’s MoM read of 0.6%. As markets rallied hard post-release, investors and economists viewed the data as compelling evidence that the Fed’s committed focus to tighter monetary policy was having the desired effect on prices. You can find the BLS release for October CPI here.
FTX files bankruptcy, cryptos hammered
The collapse of crypto exchange FTX under selling pressure that seem to have been initiated by rival Binance demonstrates just how much the crypto market might be a house of cards at the end of the day. The collateral damage into the broader cryptocurrency market was severe, demonstrating the systemic risk that is present in this fragile and inter-connected market. There is gobs of press on this situation, but one of the best reads is from the founder and (now former) CEO of the company, Sam Bankman-Fried, who posted a thread on Twitter on Thursday that you can find here (before the company filed bankruptcy and he resigned). As usual, Matt Levine in #BloombergOpinion has covered this story exceptionally well in his column “Money Stuff”, and you can read his articles from the week here (Tues), here (Weds) and here (Thurs). (You might need to be a Bloomberg subscriber.)
UK 3Q22 GDP
UK GDP is projected to have decreased 0.6% in September (MoM), meaning that 3Q22 GDP is expected to have decreased 0.2%, according to Friday’s release (here) from the ONS. This confirms what has already been articulated by the Bank of England, which is the UK economy is entering a recession. How severe and how long remain to be seen, as well as how the government of PM Rishi Sunak plans to navigate this very challenging environment. UK stocks managed to avoid losing much ground this week, whilst Sterling gained ground, much more a reflection of a weaker US Dollar than confidence in the UK economy.
Below are some of the key data releases and other financial events that matter for the weeks ahead.
As far as economic data, the focus this week will be on PPI, retail sales and housing data in the US for October. In the UK, retail sales, jobs data and CPI for October will be released. CPI for October and 3Q GDP will be released for the Eurozone and Japan, too.
Upcoming central bank meetings:
Federal Reserve – Dec 13th-14th
Bank of England – Dec 15th
ECB – Dec 15th
Bank of Japan – Dec 19th-20th
Week ended Nov 411, 202222
Corporate bonds (credit)
Safe haven and other assets