Are The Conditions In Place For A Fed Pause?

The Fed wants to pause soon since there is significant policy tightening still “in the pipeline”.

Economic conditions are only partly in place for the Fed to pause its interest rate hikes, based on past cycles. Nonetheless, policymakers are fearful of going too far. The BCA chart opposite shows why. Even if the Fed stops now and bond yields stabilise, the interest burden for U.S. consumers will continue to rise sharply as short term loans are rolled over at higher interest rates (shown inverted in the chart). The total rise in the interest burden will be much larger than occurred during the 1990s soft landing and could approach levels that preceded the 1990 recession. This does not mean there will be a recession, but the chart highlights the growing headwind for U.S. consumers. Bottom line: There is a good chance that the tightening cycle is over.

UK...some thoughts for the MPC

Last week’s CBI survey carried good news for the UK export sector. Q3 data showed export orders reach the highest level in eleven quarters. Firms are also seeing domestic orders perk up. Output growth is set to be above-trend in coming quarters. Survey data also show that firms are increasingly finding current plant capacity a significant constraint.

The Bank of England's household borrowing figures for June showed a continued contrast between strong mortgage demand and a weaker appetite for unsecured borrowing. The number of new mortgages for house purchase rose from 117,000 in May to 120,000 to June. This was above the consensus forecast of 115,000 and left approvals even further above their average over the last 10 years of 102,000. Note, though, that this strong activity is still having a limited effect on house prices, with the Nationwide index having posted three weak monthly rises in a row now. And consumers remain much more cautious about taking on non-mortgage debt. Total consumer credit rose by GBP0.9bn in June, just half the average of GBP1.9bn seen back in 2004. Credit card borrowing barely rose at all, by just GBP43m. Of course, we already know that retail sales still rose strongly by 0.9% m/m in June. Nonetheless, the weakness of credit card growth suggests that consumers have not thrown all caution to the wind. And if continued, it could act as a check on any further recovery in consumer spending growth.

The strong tone of the recent economic data has raised expectations of an early interest rate hike. But the economy has only been moving in line with the forecasts made by the Monetary Policy Committee (MPC) in May’s Inflation Report. And while these forecasts were based on a rate rise, this did not come through fully until next year.

Although the MPC may want to act pre-emptively, it still seems relaxed about second round effects. Bottom line: While clearly a close call, we think that rates should stay on hold Thursday.

Global Earnings Are Getting Revised Down

The path of least resistance for global earnings estimates is down until economic growth prospects turn up anew.

Analysts continue to rein in earnings expectations after an impressive three year run of positive revisions. The derating will continue until signs emerge that global economic momentum is set improve. On this note, BCA’s excellent proprietary Global Leading Economic indicator is still falling, and further weakness is likely as a cooling U.S. economy weighs on global growth. The offset for global stocks is that fund managers are already very bearish on both U.S. economic growth and earnings prospects over the next 12-months, as gauged by the latest Merrill Lynch fund manager survey. Accordingly, a weaker growth environment appears to have already been partially discounted. Bottom line: Expect directional uncertainty in equities until the year end based on Q3 earnings results before prospects improve next year.

Ozzy alarm bells? 

Australian inflation rose to 4% in the year to Q2 – well above the Royal Bank of Australia’s 2-3% target range. When added to signs of corporate overheating, it clearly signals an interest rate hike. But not all of Australia’s inflation problems are of its own making. Is Australia the first country to become a victim of the drawbacks of globalisation? 

Technically speaking..

The FTSE100 gained an extraordinary 255.2 points last week, boosted by a strong showing from US markets and decent corporate results at home. The 4.5% gain over the week was the best showing since March 2003 (when this bull market got started) and this has important technical repercussions.

Since the market broke lower in May and entered its corrective phase it has oscillated within a range, with support forming at around 5500 and resistance

at 5900; so it is pretty clear that there has been a break to the upside and that this break has been decisive. At the same time there has been a move higher on the 14-day RSI - this is important since it indicates that there is strong upside momentum in place, although it is worth noting that, despite the FTSE’s recent move, the oscillator has yet to reach levels where it could be described as particularly overbought. In other words, there is still room for further upside.

At this stage the next level of meaningful resistance is the 52-week high at 6132.7 and, as unlikely as it might have seemed a couple of weeks ago, a test of those highs could take place in the near term.

And finally…………  

Len was in trouble. He had forgotten his wedding anniversary. His wife was really angry.

She told him "Tomorrow morning, I expect to find a gift in the drive that goes from 0 to 200 in 6 seconds AND IT BETTER BE THERE !!"

The next morning Ed got up early and left for work.  

When his wife woke up, she looked out the window and sure enough there was a box gift-wrapped in the middle of the driveway.

Confused, the wife put on her dressing gown, ran out to the driveway and brought the box back in the house.

She opened it and found a brand new bathroom scale.

Len has been missing since Friday.

Prometheus from sources: ADM, Barclays Capital, Cazenove, Charles Stanley, HSBC, ING, SocGen, UBS.