Good morning,

Pray and delay

Janet Yellen’s semi-annual testimony to Congress has shown a central bank that is seeing strength within the US economy but with headwinds from abroad building. There is a lot to be said for what US President Harry Truman said about economists when looking at Janet Yellen’s testimony. Truman famously stated that economists should have only one hand, thus limiting their ability to say “On the one hand, this” and “On the other hand, that”.

Yellen noted in her written comments that “in particular, stronger growth or a more rapid increase in inflation than the Committee currently anticipates would suggest that the neutral federal funds rate was rising more quickly than expected, making it appropriate to raise the federal funds rate more quickly as well. Conversely, if the economy were to disappoint, a lower path of the federal funds rate would be appropriate.”

Negative on negative rates

Markets have become fixated on negative interest rates since the Bank of Japan voted to lower the rate on some deposits below zero a couple of weeks ago. At the moment, interest rate expectation markets are not predicting any chance of a cut by the Federal Reserve in the coming year and obviously we have seen a lessening of certainty around future rate hikes.

USD wobbled a fair amount through Yellen’s speech, especially around the subject of negative rates. The legal framework that created the Federal Reserve allows it to pay interest on excess deposits but there is no stipulation as to whether it could charge interest on them as would be the case with interest rates below zero. Yellen’s slight confusion and obfuscation around the issue sent the dollar lower.

She speaks to Senate lawmakers this afternoon once again at 3pm.

Dollar taken lower

Buying the USD was such a consensus position coming into 2016 that it’s not surprising that the recent slump in global sentiment has caused investors to pare their exposure to the greenback. Data from the US remains decent however and we maintain that the transfer of wealth from oil producing nations to oil consuming nations, such as the US, means that growth and consumption will remain solid.

As of this morning, traders are pricing in a 29.9% chance of a hike in rates by the end of the year; the last dot chart from policymakers in the United States saw four full rises this year. Yellen was never going to guide one way or the other yesterday and as such we must wait on March’s meeting for that. Sterling gets a bit of support

Global markets rebounded slightly with bank shares leading the way yesterday, and GBP was able to come along for some of the ride. This is despite a poor industrial production reading led by a 5.4% drop in electricity and gas production, courtesy of a warmer December than usual. Trade numbers were negative for growth on Tuesday and the combination is likely to have seen GDP through Q4 dip from its first reading of 0.4% to 0.5%. Consumers are still doing all the heavy lifting in the UK for now.

As a result of this and the general weakness in interest rate expectations, some market measures show that rates are not set to rise in the UK until August 2019 and there is a near 50% chance of a cut by November. I remain of the mindset that both of these are slightly ludicrous.

Yen on the run

Currency chiefs are watching the yen like a hawk this morning following another run higher overnight. It has now gained 6.6% against the USD this year despite the Bank of Japan’s recent policy moves.

We must be getting close to some form of interventionary level soon.

Have a great day.

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