The Whaley Report: The aftermath

the whaley report

There has been no shortage of ripple effects from the Fed’s announcement that it would not be raising rates at the September meeting. From the ECB, to Taiwan and Ukraine, central banks around the world have weighed in on the Fed’s decision. Even Janet Yellen did an after action review of the Fed’s decision. In addition, we are now six trading days removed from the announcement, and the price action of global markets is revealing.

ECB officials commented this week, including president Mario Draghi, who pointed out that while downside global risks are evident, it’s too early to tell if the weakness is transitory or not. Draghi acknowledged that while the asset purchase program can be adjusted in terms of magnitude and duration, more information is needed before the ECB would be willing to adjust their current plan of action. This is essentially what Draghi said at his press conference earlier this month when the ECB did not alter its QE. It should be pointed out that the ECB has lowered its forecast for both growth and inflation and the latest loan and money supply data is also supportive of the need for further easing.

Despite not committing to further action right now, ECB policy makers expressed concern about the impact of the Fed’s decision to wait before making its first post-Crisis interest-rate hike. Benoit Coeure, the ECB’s markets chief, said that there has been “a significant appreciation” of the Euro against the currencies of the Eurozone’s major trading partners. He went on to say that he believes the Fed confirmed the ECB’s diagnosis that there are significant risks to the global economy.

Yellen herself, speaking on Thursday, downplayed the Fed’s commentary surrounding the fact that global growth concerns weighed in heavily on the Fed’s decision to wait. She put the concerns about the global environment in a larger perspective, suggesting that, based on current information, it does not look like developments abroad will have a material impact on policy. “We do not currently anticipate that the effects of these recent developments on the US economy will prove to be large enough to have a significant effect on the path for policy,” she said. Yellen went on to outline the argument for pressing ahead with a rate hike in the near future and reiterated that the Fed is still on the path to hike rates before the end of the year, barring a significant US economic surprise.

A number of central bank members have spoken out about the fact that everyone is waiting on the Fed. Central bankers have been vocal about the number of challenges with continuing in a low interest- rate world that have spillover effects on smaller economies.

Norway’s central bank cut interest rates to an all-time low and said it may ease policy further as it attempts to rally an economy whose GDP growth rate peaked more than two years ago and has been decelerating ever since. Ukraine cut rates and promised to do more as exceptionally high rates impaired lending because no one can borrow money at 30%. Keep in mind that Ukraine raised rates back in March from 19.5% up to 30% in order to get inflation under control and to prop up its currency. Now they are reversing course, in large part because of the Fed.

Taiwan lowered its policy rate for the first time since the Financial Crisis, sending its currency to a six-year low. Taiwan’s economy is slowing as its technology exports are weighed by increased competition from China. Taiwan’s central bank Governor said third-quarter growth will be lower and inflation remains subdued. This is troubling because Taiwan’s GDP growth rate fell off a cliff in Q2 down to +0.52% from Q1’s +3.8%.

There is also an increasing probability of more easing policy by the Bank of Canada, even while the Loonie is already trading at an 11-year low against the USD.

In addition to easing policies, there were several central banks who needed to step in and intervene in the FX market in order to stabilize their currencies, most notably Mexico and Brazil. The Brazilian Real hit an all-time low versus the USD on Thursday, before the intervention.

Mexico’s intervention wasn’t quite as successful, the Peso closed the week just 1.5% off its all-time low versus the USD. Brazil and Mexico aren’t the only countries who are watching their currencies bleed lower as the USD regained its bullish trajectory, closing last week at the highest price since the middle of August.

Since bottoming at $94.36 during the Fed’s statement release, the USD has now gained 2%, which means that emerging market currencies have had no relief from the Fed’s inaction. Malaysia, South Africa, Colombia, Turkey and Russia have all seen their currencies fall more than 2% since the Fed’s announcement.

The price action across global markets since the Fed’s announcement is clearly signaling slower growth. Since the Fed’s announcement, the S&P 500 has declined 3%, led by financials, technology and consumer discretionary. The bearish reaction towards financials isn’t surprising given that the Fed’s inaction means there is no relief in sight for the post-crisis squeeze on the profit margins of banks. Obviously, technology and consumer discretionary perform best in accelerating growth environments. My own proprietary indices are signaling the same viewpoint on US growth.

My US High-Growth Index has declined over 3% since the Fed’s meeting, while my US Slow Growth Index is up 1.7%. The delay in tightening monetary policy revived demand for interest-rate sensitive assets, such as utilities and REITs. Utilities have gained 2% and REITs have gained 62 basis points over the last week. US yields are also signaling slower US growth and the possibility of no rate hike this year. The entire yield complex has declined since the delay and long-dated US Treasuries are up 2% since September 17.

From a US equity perspective, you want to be LONG utilities and REITs versus SHORT or NEUTRAL sectors like financials, technology, discretionary, basic materials and energy. I would also stay LONG the USD against every other currency except for maybe the Yen. And despite the massive decline in the equity and currency markets of most emerging economies, I would stay SHORT or NEUTRAL there as well. If you are inclined to SHORT those markets, be careful of dead cat bounces and short squeezes.

Make sure you’re initiating trades at prices where the reward-risk is skewed in your favor.  Obviously, financial markets are dynamic and catalysts for asset prices can change in an instant. This is even truer given the centrally planned world in which we now live. That said, it’s pretty clear the slow growth playbook is to way to trade the markets until further notice.

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