China
Foreign exchange reserves continue to decline in China. The two bigger stories out of China were the balance of trade and inflation. Their balance of trade came in lower than expected: exports dropped by 14% (2% more than expected) and imports dropped by 12% (7% more than expected). During COVID and immediately after, China ramped up their export of goods, strengthening their trade balance. This has reversed since 2022 and now China’s trade balance is dropping off.
China’s CPI seems to be in deflation, but it’s dropping off more than expected, which is problematic. China’s CPI was forecasted to drop by 0.4% year-over-year (YoY), but it only dropped by 0.3%. Month-over-month (MoM), the forecast was for a drop of 0.1%, but it came in at -0.2%. And PPI reported at -4.4% YoY. Looking at solely the YoY data can be misleading, because many economists see this as a clear indication that China is in deflation. But the MoM data shows a consistent rising-and-falling of the inflation rate in the last year.
US CPI
CPI is going in the right direction and the Fed is more than likely pleased. For all items minus food and energy, there was a 0.2% increase MoM and a 4.7% increase YoY. Below is a copy of Table 1 from the CPI report:
There are notable drops reported for categories such as:
- Energy Services
- Electricity
- Commodities less food and energy
- New vehicles
- Used cars and trucks
- Medical care services
- Hospital services
- Airline fares
Airline fares show the steepest drop MoM with a staggering 8.1% drop on the heels of an 8.1% drop the previous month as well; YoY, airline fares have decreased by 18.6%! If you’re interested in viewing the graph tracking prices of specific categories over time, click on the following link to the US Bureau of Labor Statistics; you can click on a good or service category to see how it measures up compared to the overall trajectory of CPI.
CPI is one of the chief economic indicators that the Fed monitors to determine if rate hikes, pauses, or cuts are necessary. The Fed will likely interpret the above data as a positive indicator that our economy is moving in the right direction and maybe more rate hikes are no longer necessary. The data still doesn’t support an argument for rate cuts in the near term, but more consistent reports in this direction might yield a rate cut in early-to-mid 2024. According to the FedWatch tool, the highest likelihood (87.5%) rests on a rate pause, so it’s likely rates will remain where they are.
Nominal Rates and Money Market
Money market rates all show minimal movement, which is crucial to stabilizing our economy, and the 1-month to the 1-year all reflect around 5.5%, which is the Fed’s targeted rate. If you’re the Fed, this is great! You’d probably think “Things are working! Whoo!”
Capital market rates increased, which has a bearish effect: rates are up, so prices are down. These bonds with longer duration are likely trading at a discount now in a high-interest rate environment.
Total money market asset funds increased by $14.37 billion: retail is up $9.15 billion and institutional increased by $5.22 billion. Money continues to flow into money market, and why wouldn’t it? At 5.5%, investors can earn more with money market assets than their highest yield savings account and take far less risk than playing the stock market.
The next FOMC Meeting is over a month away (September 20) and, as previously mentioned, a rate pause will likely be the Fed’s course of action. However, if we look ahead to the December projections, there seems to be some likelihood of one more rate hike. Keep in mind that these projections are all in consideration of current data; as new data arises and economic events occur, the direction of these projections can shift.
Real Rates, Federal Funds Rate, and TLT
Real rates are increasing, and John Williams of the FOMC referenced real rates while concluding that it may be appropriate to cut rates early next year.
Federal Fund Futures (FFF) show minimal movement. We can see rate cuts being priced in by June 2024, but again, these projections are premised on consistent positive economic data.
TLT, our major long-term bond ETF, is down 1.2% week-over-week (WoW); it experienced a slight boost early in the week, most likely from the positive Fed speak, but took a dive upon the release of CPI later in the week.
Housing & OAS
The Primary Mortgage Market Survey shows 30-yr. Fixed Rate Mortgages (FRM) are up to 6.96% (up 6 bps from last week) and 15-yr. FRM are at 6.34% (up 9 bps from last week). And mortgage applications are down 3.1% after a 3% drop last week.
Homebuilders are now reporting mixed results this week; in terms of stabilizing, this is a powerful indicator that the direction of the housing market, specifically the new homes sector, is likely changing direction. For new home buyers, that’s a great signal; it means we may be at the beginning of a new stage in the housing cycle.
Japanese Yen and Canadian Dollar
The Yen is gaining strength, but has been susceptible to some vulnerabilities in recent months. If the value of the Yen drops too low, the Bank of Japan may consider intervening and taking action to increase its liquidity and strengthen the Yen. The Bank of Japan holds about $1 trillion in US Treasuries, and this makes them the single largest holder of US Treasuries. If the Bank of Japan decides to intervene, they’ll likely liquidate some of their Treasury holdings which could put some pressure on Treasury yields, so it’s important to keep an eye on the Yen in the coming weeks and months.
The Canadian dollar is weakening as expected, especially after Canada’s negative GDP report. As we’ve mentioned before, Canadian households are more interest rate sensitive than US households; this is due to the nature of their mortgage structure and the fact that Canadian households possess higher rates of debt. With reports of inflation coming down, this might constitute the end of Canada’s FOMC rate hike campaign. Furthermore, Canada will likely begin cutting rates sooner than the US because of this inherently high sensitivity to interest rates.
This newsletter is a synopsis of a continual series of updates by a market analyst Mark Meldrum. Mark Meldrum is a CFA that provides weekly updates on the market, but they tend to be an hour long. Here is a synopsis of his video found here.
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