Fed is Coming for Inflation

The FOMC minutes gave the clarity that every investor was looking for: the Federal Reserve (Fed) will be scaling back its near $9 trillion balance sheet by $95 billion per month, more than a trillion dollars per year.

On top, many Fed officials noted that ‘one or more 50-bps increases in the target range could be appropriate at future meetings, particularly if inflation measures remained elevated or intensified’.

Stock and bond markets didn’t react well to the cruel hawkishness of the latest FOMC minutes. Three major US indices fell, but value names lost less than the growth stocks. As such, we saw the Dow Jones retreat 0.42% to its 50-DMA, the S&P500 fall close to 1% below its 200-DMA, and Nasdaq slip more than 2% to an important Fibonacci support.

The US 2-10 year spread is back in the positive after having slipped below zero, but the recession threat is real, keeping the investor mood sour as the Fed pulls back support.

The equity and bond prices must go lower if the Fed wants to counter the supply-side inflation by a demand-side cool down.

In the FX

The US dollar remains well bid, and the dollar index consolidates just below the 100 level. It is probably just a matter of time before we see the index surpass the 100 mark, but in the very short run, we shall see a minor downside correction in the greenback following the Fed-minutes boost. The EURUSD slipped shortly below the 1.09 as the divergence between the hawkish Fed and the undecided and unresponsive European Central Bank (ECB) plays in favor of a softer euro, combined with the rising popularity of right-wing Marine Le Pen in French election polls, which is also seen as a threat for the European integrity.

Good news?

Good news is, China announced it will step up monetary stimulus to give support to counter the negative impacts of the latest Covid restriction measures which sent the Caixin services PMI to the scary level of 42 in March.

And US crude prices are back to the levels before the war. The barrel of US crude slides below the critical 50-DMA support, and the negative move appears to be more sustainable than the ones we saw over the past weeks. The loss of bullish momentum hints at a deeper downside correction which could pull the price of a barrel down toward the $88/90 barrel zone where it could meet the 100-DMA and the major 61.8% retracement on the December to March rally. If the fall is sustainable, we could start seeing some easing on the inflationary pressures, but it’s unsure how sustainable the oil pullback will be, and how low the prices could go considering the widening gap between supply and demand.

Anyway, it’s better to see the price of a barrel below the $100 mark, then above it!

Ruble back to the pre-war levels

One of the major drivers of the pullback in oil prices is European reluctance to ban the Russian oil. The West sticks however to new measures to pressure Putin to end the war in Ukraine, it sanctions his daughters, the family of Lavrov, the Russian banks. The UK froze Sberbank assets, as the US imposed full blocking sanctions on Sberbank and Alfa bank. More importantly, the US doesn’t allow Russia to process payments in US dollars, which obliged the country to service its $650 million worth of interest payment in rubles instead. But contractually, they are not allowed to pay in rubles, so the bonds could actually default. We are now within the 30-day grace period.

But interestingly, the Russian ruble is doing fine. The USD-RUB fell to the levels pre-war, as the generous income for its oil and gas keeps the currency well valued despite sanctions. The European Council President Michel Charles told the European Parliament yesterday that ‘measures on oil and even gas will be needed sooner or later’. In market language, that means that risks to oil prices remain tilted to the upside.

Gold, on the other hand, remains little changed near the $1920 per ounce. The rising yields hint that the medium-term direction should be the south, and we could see the price of an ounce sink sustainably to $1800/1820 area, which includes the 200-DMA. What keeps gold prices sustained right now is the fact that Russia is one of the largest gold miners, and that the safe haven demand remains tight, as the geopolitical tensions remain relatively high.

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