Taking Subdued for Granted


  • FX takes a step back with light calendar
  • Stock market recovery at risk for reversal
  • Fed liftoff bets improve as US data rebounds
  • Investors ignoring possibility for inflation rise

BORING FX - I'm sorry to keep getting away from FX, but FX has mostly been boring over the past few days. The economic calendar has been a non-factor and markets have been comfortable consolidating. And so, I'm left thinking about the state of US equities and the incredible ability for stocks to continue to remain elevated despite all that has gone on. The major driver of the recovery off the August lows has come on the back of scaled back Fed liftoff bets in response to concerning US economic data and deterioration abroad. But we have since seen improvement in US economic data, a higher US CPI print, and recovery in the emerging markets.

GREATER THAN 32% - All of these things would have me thinking there is a much greater chance for a rate hike in December than the 32% or so chance the market is currently pricing. And yet, the market isn't in agreement, which is perplexing. I would say, at the moment, the biggest factor that is not seriously being considered by the market is inflation. With inflation at historically low, subdued levels, market participants have grown comfortable with the idea that lower for longer policy is here to stay. But inflation has a funny way of creeping up fast, and if this starts to play out, the Fed will no longer have the luxury of holding off with a rate increase or multiple rate increases for that matter.

FINITE TOLERANCE - Stocks are ignoring this fact and I have no doubt it will come back to bite investors. I am reminded of a quote from Steven Einhorn back in 1987. Einhorn said 'there's a tolerance the market has for inadvisable economic policies but that tolerance is not indefinite." This is how I view the current state of affairs. The market has bought into a monetary policy that has incentivized excessive risk taking. While there have been strong merits to this policy, the fact that it has incentivized such reckless investment surely classifies as what could be construed as an inadvisable monetary policy. So I continue to be of the opinion that there is a bigger pullback ahead that has yet to play out. The US Dollar should benefit from this price action both on the flight to safety appeal and on the yield differential flow. For now, it's more sit back and wait.

A faster rise in inflation will be a major game changer. Via @joelkruger

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