Powell to the People – Jackson Hole-in-One

 by Gauravjit Singh and Shyam Devani

Gauravjit Singh:

Fed chairman Powell’s much awaited Jackson Hole speech provided a brief burst of volatility. The market reaction function, and the multitude of varying analyses across the street however is admittedly fairly confusing. Was this a game changer to monetary policy? Or is this just confirming the policy the Fed has implicitly been following for awhile now?

Let me try to unpack this. The initial reaction was read as decisively dovish as the USD sold off, rates dropped lower, equities and precious metals rallied. But this quickly more than reversed as the yield curve steepened aggressively with 30y up 11bps. Why?

– “Flexible” approach with no explicit time or target levels makes it all sound a bit vague

– No idea on how AIT translates into concrete policy action and when

– Perhaps there was some expectation of them announcing a shift in asset purchases to the longer end of the curve now

– Weight of positioning into the event

– Month end noise

I would argue that Powell in fact was as, if not more, dovish than could be expected. And this represents a key explicit change to monetary policy that should ensure rates remain near zero for years.

– Flexible approach allows them more of an excuse to keep policy loose, than an out for them to tighten eventually. Why? Because they have consistently failed to hit 2% inflation target for yrs, so why would you expect them to hit it any time soon for now.

– Further, they will make up for past misses. “Filling the gap” in a sense ensures a longer period of overshoot, if we ever get one.

– Asymmetric employment mandate.. Fed will be more aggressive in dealing with labour market weakness than strength

– Powell once again proves the Fed is serious and proactive by presenting the policy review

This makes two things fairly important. Firstly the Sept. 16th FOMC. Does Powell provide more concrete steps on how the policy goals are to be achieved? Does he put a lid on long end rates by pushing purchases out the curve. Or does he even go one step further and increase asset purchases in the face of increased treasury issuance?

Second will be the next few sets of core PCE prints, if one were to assume that the shortfalls that need to be made up start from today. That is on 28th Aug.

In the short term, yields will be key. 10y broke 0.74% range highs. Weekly close above 0.78% could see further gains towards June highs. The curve could steepen further and real rates can head a bit higher as well if yields outpace breakevens. This puts the USD in a bit of a range trade in the short term but it should resume its move lower soon enough. Equities should remain supported for now, allowing risk sensitive currencies to do well as seen by the break higher in AUDJPY. Eventually, I expect the Fed to put its money where its mouth is allowing  USD to weaken, yields to remain anchored, and equities and commodities to head higher.

Gauravjit Singh has worked in Foreign Exchange Hedge Fund sales for over 14 years covering the largest and most sophisticated clients across the globe

Shyam Devani:

The Fed has just solidified its position and it is as dovish as can be expected.

It is squarely focused on supporting the labour market and anyone who doubts that is asking for trouble. Historically they have done the same – reacted quickly when the economy is turning down but slowly when a recovery might be taking hold because jobs matter. Inflation is not the concern today but people and workers are, and in a pandemic it cannot be any other way.

As a consequence the Fed has got the market exactly where it wants it.

By being seen a deliberately allowing itself to be potentially behind the curve, it has achieved a steeper yield curve – an important ingredient or incentive to encourage lenders to push out credit.

The dovishness has enabled equity markets to hold up

In the short term the USD may be a little two-way but that’s ok. A stable currency after having fallen a decent amount over the past few months is fine for now. There is nothing that has derailed the overall USD downtrend which would also be welcomed so long as it is not disruptive. Let us not forget that this is a ‘Currency War’. A weaker USD is a form of monetary easing and is exactly what the United States wants and needs with such large deficits, whether it is explicitly communicated or otherwise. The effective monetary debasement is why Gold will also hold up.

Over the long term (few years) the rise in asset prices, particularly stocks and housing will eventually turn into a bubble but that is for a much later day.

For now watch the following:

• Gold: Watch for a break of $2,016 on XAUUSD. A breach of that will give way for the all time high at $2,075 to be tested and more.
• USD & China: Watch 6.8457 on USDCNH. It is the major double top neckline that is likely to give way and open the path for 6.67 and eventually 6.50
• Equities: There are many concerns of bubblish behaviour in stocks but without further acceleration the price action is not so worrying. Instead there is more steam here at least between now and the next Fed meeting, if not the election period.
• Other: Also resulting from the dovishness of the Fed, Housing should continue to rally in line with the long term charts that were presented earlier this week.

 

SKA