WallerISMs

By Benjamin Picton, Senior Macro Strategist at Rabobank

WallerISMs

Political instability in France again takes center stage today as markets continue to price in the seemingly inevitable collapse of Michel Barnier’s government. Marine Le Pen’s RN party vowed to side with left-wing parties to pass a vote of no confidence in Barnier’s administration this week after the Prime Minister used constitutional powers to push through unpopular social security savings measures without a vote. The Euro fell 0.75% against the Dollar and French 10-year yields rose 2.1bps in defiance of a broad downward shift for European sovereign curves.

The CAC40 closed mostly unchanged while the German DAX gained more than 1.5%. US stocks were mixed with the Dow losing 0.29% while the S&P500 rose by 0.29% and the more duration-sensitive NASDAQ put on almost 1%. US stocks may have been encouraged by a ‘Goldilocks’ manufacturing ISM report, which showed the ‘prices paid’ index falling from 54.8 to 50.3 while ‘new orders’ rose to 50.4 and ‘employment’ rose from 44.4 to 48.1.

The release of the ISM manufacturing report coincides with an article published in the FT today suggesting that Joe Biden’s embrace of industrial policy via the Inflation Reduction Act and the Chips Act is beginning to pay dividends for the American manufacturing sector as foreign investment and construction activity on new manufacturing projects surges (even if actual manufacturing employment is yet to show much upside). Figures on construction spending in October release yesterday confirmed showed stronger growth than expected.

The overall encouraging tone for the US economy paired with a fresh threat from President Trump over the weekend to impose 100% tariffs on BRICS economies seeking to de-dollarize to put a bid under the USD. Trump might contend that the rising construction activity for new manufacturing projects in the United States is due at least in part to his carrot and stick approach of offering generous tax cuts to domestic producers while imposing stiff tariffs on firms that instead produce outside of the US and seek to import finished goods. It is likely that at least some manufacturers saw which way the political winds were blowing and decided to de-risk by locating new projects inside US borders rather than gambling on a more free-trading status quo.

The Bloomberg Dollar spot index reached as high as 106.73 before retracing slightly in late trade, but the stronger Dollar wasn’t enough to send crude oil or gold prices much lower. The support in those commodity prices, along with the long wick on the DXY graph might suggest that the retracement in the USD that has been in place since the Friday before last might have a little further to run before the Dollar resumes its overall upward trend.

US OIS futures are this morning implying a 75% chance of a 25bp rate cut at the Fed’s December meeting following comments from Federal Reserve Governor Christopher Waller that at present he “lean[s] toward” supporting a further cut to the Fed Funds rate this month, but that his vote will depend on the flow of data between now and the December 18th FOMC meeting. Despite flagging support for a cut this month, Waller also sounded a note of caution by saying that recent data had raised some concerns that progress on disinflation may be stalling above the Fed’s 2% target.

The good result in the ‘prices paid’ component of the ISM manufacturing report might have helped to reassure traders listening to Waller, because the implied path of the Fed Funds rate according to the futures market is little changed since markets reopened after the Thanksgiving holiday late last week. Pricing on the December meeting implies ~1 extra basis point worth of cuts, while pricing for end of Q2 and Q4 next year suggests a Fed Funds rate ~2bps higher than was the case on Friday.

It may be the case that traders are simply waiting for this week’s dump of US labour market data and Jerome Powell’s comments tomorrow before adjusting their views on policy rates. Today brings the October JOLTS job openings figures, tomorrow we get the results of the ADP employment survey and Friday we will see the November non-farm payrolls report where further signs that the jobs market is no longer softening might be the sort of indicator that Waller is looking for to vote for a pause in December.

RaboResearch forecasts a cut from the FOMC in December and another in January to bring the top of the Fed Funds range down to 4.25%. After that, we think the Fed will be on hold as the new administration sets about implementing the Trump program of substantial tax cuts, deportations and universal tariffs.