Macro Trader: Policy Support Remains Strong

As the week draws to a close, on a quiet(ish) Friday, with the sun shining on the City of London, ‘summer market’ vibes are already beginning to pop into the minds of many market participants.

This provides a good opportunity, then, to take something of a step back, and consider what we have learnt over the last week or so, as markets have moved through a bonanza of central bank decisions.

In short, we haven’t learnt especially much new information, with the aforementioned decisions instead having served to reinforce what we already knew – that the central bank ‘put’ is here, in a flexible and forceful form.

The FOMC, clearly, appear desperate to kick-off their easing cycle, either upon obtaining sufficient “confidence” that inflation is returning towards the 2% target, or due to an “unexpected” weakening of the labour market. This week’s 8-month high initial jobless claims print, despite the data being incredibly noisy, will naturally raise concern of the latter occurring, particularly after the marginally softer than expected April NFP print. Cuts are coming in DC, probably in September, though perhaps as soon as July if the data turns more rapidly than expected.

On this side of the pond, the ECB have already pre-committed to cutting the depo rate in June, having telegraphed such a move all the way back in March. Elsewhere, the SNB have already delivered the first G10 cut of the cycle, reducing rates by 25bp in March, with a further such cut likely to be delivered next month. Sweden’s Riksbank begun their own easing cycle this week, with a 25bp reduction, while the BoE – after a dovish statement, and press conference, plus Deputy Governor Ramsden’s surprising dissent – have pushed the door to a June cut of their own wide open, providing that incoming data behaves itself, with the 2% CPI target set to have been achieved in April.

Of course, it is not only rates that are of concern. One must also consider the balance sheet.

Here, the FOMC have already begun to taper the pace of quantitative tightening (QT), more than halving the cap on the run-off of Treasury securities to a monthly $25bln from the start of June. Similar moves are likely elsewhere through the summer, with the BoE particularly likely to end active gilt sales at the annual review in September, especially with increasing signs of funding stress beginning to emerge, as repo demand surges.

We have, therefore, a combination of central banks either already easing, or gearing themselves up to do so – both lowering overnight rates, and slowing the pace of balance sheet run-off, or even halting such a process entirely. In turn, this should result in liquidity conditions continuing to improve as the year, with the policy stance among G10 central banks providing increasing support to risk assets.

Once again, it is not worth getting hung up around whether the Fed, or anyone else, will cut once, twice, thrice, or more this year. Instead, what matters is that the policymakers in question can cut rates, with inflation now back towards target, want to cut rates, and almost certainly will do so over the next quarter or so.

Unless this stance pivots to a more hawkish one once more, which seems unlikely at the current juncture, the path of least resistance should continue to lead higher for risk assets over the short- and medium-term, as the policy ‘put’ continues to provide reassurance to participants that policymakers ‘have their backs’ once more, giving confidence to move further out the risk curve.

The old adage ‘don’t fight the Fed’ – or any other DM central bank – seems an apt one for longstanding equity bears.