The Federal Reserve (Fed) dealt no surprises last week with the FOMC’s latest decision to keep the effective federal funds rate unchanged between 5.25% and 5.50%, the press conference and Fed chair Powell’s comments did however serve some uncertainties. Before we dive into the market moves off the back of the FOMC decision let us first start with what the chair did and did not say. His remarks were overall quite balanced with some hawkish spice when he mentioned: “It would be premature to conclude with confidence that we have achieved a sufficiently restrictive stance, or to speculate on when the policy might ease. We are prepared to tighten policy further if it becomes appropriate to do so.”
The spice was however offset by some dovish sugar: “The strong actions we have taken have moved our policy rate well into restrictive territory, meaning that tight monetary policy is putting downward pressure on economic activity and inflation. Monetary policy is thought to affect economic conditions with a lag, and the full effects of our tightening have likely not yet been felt.” This comment confirmed that the hiking cycle is officially over which saw the odds for a rate cut in March spike to 80%. Additionally, it also sent stocks and bonds higher with the S&P 500 index touching a fresh all-time high above $4,960 and the US 02-year treasury yield falling below 4.30%.
In addition, the Fed chair was optimistic about bringing the US inflation back down to the target of 2% without large job losses, in other words, achieving the so-called “soft landing. The soft landing narrative was supported by strong data prints in January such as the higher-than-expected US 4Q2023 year-on-year GDP print of 3.3% and the resilience of the US labour market which was highlighted by the robust December and January non-farm payroll prints of 216 thousand and 353 thousand, respectively. If we add into the mix the current surge in US stock prices and the easing of the financial conditions, the question left to ask is, does the Fed even need to cut rates?
When in doubt zoom out. The chart below shows the US effective federal funds rate since the turn of the century. Notice the grey shaded areas, they indicate US recessions, do we want the Fed to start cutting rates? The Fed has never voluntarily cut rates, they cut rates to inject short-term liquidity into a distressed financial system. History does not repeat itself, but it often rhymes.
The rate cuts in this cycle will be no different, a distressing financial event is the only thing that will force the Fed to cut rates so buckle up, 2024 will be a bumpy ride. I like to refer to the period following the 2008 Great Financial Crises as the period of Casino Capitalism, the period when central banks started experimenting with Modern Monetary Theory (MMT), or more accurately, Magic Money Theory.
The next chart highlights the current yield curve inversion, the difference between the US 10-year yield and the US 02-year yield. The Fed can only control the short-end of the yield curve so the only way for them to normalize the curve is to pull down short-term interest rates. Notice that the curve un-inverts when the Fed cuts the effective federal funds rate, illustrated in the bottom pane
So how does this affect you as a South African consumer? Firstly don’t expect the rates in SA to fall until rates get cut in the developed economies since the SARB is essentially protecting the value of rand. In terms of the effects of another financial crisis, when the US sneezes the world catches a cold so expect things to get worse before they better in my honest opinion…
Let’s jump into the usual weekly outlook and chart pack. The week ahead is quiet in terms of data releases so markets will be able to digest the events from last week. The headlining events are the latest US ISM PMI figures, where strong prints are expected to be positive for the dollar and risk-off assets, and the China CPI and PPI figures. Starting this week’s chart pack is the dollar index. The DXY spiked aggressively on Friday after the stronger-than-expected US non-farm payroll print which allowed the index to break above the 200-day MA resistance rate of 103.55. The 220-day MA will now switch to a support level and move higher towards the red trend line and the 61.8% Fibo retracement level of 104.79 looks like the next move before the RSI indicator enters the overbought zone.
Similarly, the US 10-year yield spiked on Friday which strengthened the 61.8% Fibo retracement rate of 3.931%. The main resistance rates now sit at 4.057% and 4.115%, the 50- and 200-day MA’s. Given the lower high made last week, I suspect the next move will be higher towards the 38.2% Fibo rate of 4.347% so keep your eyes on this week’s US 10-year bond auction.
Oil however had a tough week at the office which saw the price of Brent crude oil fall by more than 6% after the 200-day and 50-day support levels failed to hold support. The US started retaliatory strikes targeting Iran-backed militants in Iraq and Syria late Friday following a drone attack in Jordan last weekend that killed three US troops so tensions are expected to escalate in the region. What the effect will be on oil prices remains to be seen but the bias remains towards the upside.
The rand folded on Friday after the broad-based rise in the dollar. The rand managed to pull the pair to a low of 18.53 but this support rate held its ground. The pair remains in the wedge pattern between the two blue trend lines and technically the higher low is not positive for the rand. I’m expecting a re-test of the 61.8% Fibo rate of 18.97 this week and a break above will allow the pair to inch back into the red resistance range between 19.15 and 19.28. For now, it’s too early to determine whether the pair is going to break to the top or bottom side of the current wedge but I’m leaning towards a break to the downside based on the expectations that the Fed will cut rates in around March.
