A lot of information to unpick

So much information has been thrown at financial markets over the last 24 hours, it is quite a challenge to unpick it all and draw conclusions. Sitting here in front of my computer digesting it all has left me feeling like I have had a solid hour (or two), of “communicating with Mrs Halley. The inevitable one-way flow of information left me at once enlightened, and on the other, no clearer than where we started in the first place, but slightly fatigued mentally.

Probably, it is best to break it down into chunks. We will start with China, then Eastern Europe and finally, this morning’s FOMC meeting outcome.

There were wild scenes in China stock markets yesterday as the government finally acknowledged the scale of the meltdown in Chinese equities and decided to verbally intervene to stop the rot. Vice-Premier Liu He, outlined a number of equity positive measures last night. China would take concrete measures to boost the economy in Q1 via monetary policy and maintaining loan growth. They would accelerate the “rectification” workaround large China tech platforms (read Alibaba and Tencent etc) on real estate, Vice-Premier Liu said timely and effective risk prevention and mitigation solutions were required and they would put forward supportive measures (read were going to accelerate sorting out the debt mess).

He also said that progress had been made with US authorities over access to information for dual-listed China companies, reducing the risks of delisting their ADRs by US authorities. He also said they would support and encourage enterprises to list in overseas markets.

The effects were immediate, with tech giants such as Alibaba and Tencent rallying over 30% in Hong Kong and repeating the same feat via their ADRs in New York. Mainland markets finished around 4.0% higher yesterday, and the Hang Seng leapt 9.10% higher, breath-taking. Needless to say, a similar feat is being achieved in trading today.

I have said many times over the past couple of quarters that trying to bottom pick Chinese equities is like catching a falling knife, mostly because when China’s government says it’s going to do something, it does. Yesterday’s comments were high on headline impact, and light on detail, but it doesn’t matter. When a senior official makes announcements like yesterday’s, things have changed. That’s not to say we should all strap on for the ride; the macro environment will be challenging for equities this year. What we can say, though, is that the Chinese government is drawing a line in the sand on the China equity rout over the medium-longer-term, and we should all respect that. But I have no doubt that a few days of algo and retail investor FOMO exuberance lie ahead.

Hopes for Ukraine peace rise

Moving to the Ukraine situation, both Russian and Ukrainian officials said that the details of a peace agreement had made strong progress. That was enough for beleaguered European equities to trace out powerful gains, and it also lifted EUR/USD well above 1.1000. While I hope that this is the case, it would all still need to be signed off by President Putin, and the risks there are well known. To highlight this, France’s foreign minister stated this morning that President Putin is only pretending to negotiate with Ukraine to gain more time. I’m not sure I agree with this. The snow will soon turn to spring mud in Ukraine, increasing logistical difficulties and bogging down tanks while Russia’s treasury bleeds. If China declines to assist Russia, the pressure for a negotiated solution will increase.

Markets have spent the past few sessions building in a Ukraine solution, and the price action in some asset classes overnight even overshadowed the FOMC. The potential for an ugly reversal on a Putin spoof is now very high. It won’t matter in the short-term, but even if a Ukraine solution is agreed upon and enacted, much will be unchanged in the world. Ukrainian grain will not be planted this year in much of the country, and Russia will be an economic and political pariah. The stagflationary wave will not abate as Russia and much of its exports will remain locked out of international markets. Still, in the short-term, an exuberance similar to China’s equity rally could well continue.

Finally, the US FOMC has hiked rates by 0.25% early this morning. The hike was as expected, and the committee’s dot plot has indicated another 6 hikes taking the Fed Funds to around 2.0% by year’s end. Again, this was as expected, although the dot plot revised the terminal rate for 2023 up to near 3.0%, a huge jump from December’s 1.60%. The FOMC, significantly, indicated a start to tapering the balance sheet will also commence soon, with markets looking for a July start. That is, in effect, a simultaneous twin tightening.

Front end yields rose in response and the 2/10 year curve is very close to being flat. Markets have stubbornly refused to price in entrenched inflation past the next couple of years, and it will be interesting now to see if the whole yield curve moves to inverted, or rachets higher in lockstep, particularly in the 10/30 tenor. The bond market has been too crazy for me of late, so I can only hazard a guess which is option 2 as the US economy continues to perform well, despite inflationary pressures. The US dollar fell overnight on a buy-the-rumour, sell-the-fact reaction, assisted by easing Ukraine fears reducing haven demand. However, with the Federal Reserve clearly on a hawkish path, and large tracts of Europe and Asia holding monetary policy steady, it is hard to see the US dollar staying on the back foot for long. Oil and commodity prices have probably seen the best of their retracement now, and if you are a country holding rates steady and a huge energy importer, paid for with US dollars, the greenback is coming for you. I invite readers to view a USD/JPY chart to demonstrate my point.

So overall, my conclusions are that the US dollar will remain resplendent in 2022, even if a settlement is reached over Ukraine. China has drawn a line under local equities, but it doesn’t mean a fixed line in the sand if the rest of the world goes south. Think of it as ibuprofen instead of Panadol. A Ukraine settlement would be welcomed but won’t materially change the underlying macro environment.

The transition from the central-bank derived “buy everything” rally to reality will at times be a painful one. Inflation isn’t going anywhere in a hurry, and baseline effects later this year only hide the damage in economic gobbledygook, not their true impact in real life. But the dips in equities for a two-week ride if you wish, but don’t get married to the position in 2022.

This morning has seen two interesting data points from the Asia-Pacific. Australian Employment blew expectations out of the water as full-time employment rose by 122,000 jobs, with the Unemployment Rate falling to 4.0%. It will be another nail in the coffin of the RBA’s ultra-dovish monetary outlook and rate hikes should start in H2. The Australian dollar is higher this morning as a result.

Singapore’s Non-Oil Exports (NODX), delivered unhappy news though, rising just 9.50% in February versus 15.70% expected. A notable slowdown in exports to China stands out, reflecting supply chain issues in the city-state, and a weakening China economy. Still, with the announcements made by Vice-Premier Liu yesterday, it is clear that China is moving towards loosening monetary policy and hitting the stimulus button. That should bode well for the future outlook and with the data still in positive territory, the fallout will be limited.

The Bank of England will deliver a 0.25% rate hike later today, in sync with the Federal Reserve. Like the FOMC, the devil will be in the detail, most particularly, how hawkish will the outlook be, Ukraine concerns aside. A hawkish BOE should be sterling supportive. Similarly, Bank Indonesia will face the same decision today, but like the BOJ that is announcing tomorrow, it will leave policy unchanged, while acknowledging that rate hikes are a possibility. I expect all of Asia to follow the same path, and it is the main reason why I believe Asian currencies face a sustained period of weakness in 2022.

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