Two things rule the wave: The ceasefire and the Fed

Outlook

The three central banks meeting this week are all expected to stay on hold, with the economic forecasts and the Warsh press conference getting the attention.

A big question: what is the intersection of tech overspending/overborrowing and central bank policy? Central banks tend not to focus on a single sector.  The BIS annual report a month ago had a section on the tech sector that all the news outlets picked up and chewed on for the past few weeks—the $1 trillion spending surge, mostly on AI by tech giants, risks triggering a severe economic bust. “Stretched financing, high debt, and policy inaction could amplify market shocks if productivity payoffs fall short.” 

The BIS report is back in the spotlight now that stock markets are responding to the issues. We have been following the data center protests in the US. Now they are having them in Scotland. This isn’t over by a long shot.

Forecast

Two things rule the waves—the ceasefire and the Fed.

The Fed is increasingly being seen as hawkish tomorrow, without a scrap of evidence. This is dollar supportive, while the rise in inflation is seen as inevitable and holding up the yields. Meanwhile, the high yields mean higher costs for the US government going forward and stressing out the world’s patience with US debt levels nobody else could get away with.

Unless Mr. Warsh speaks of QT or some other reform he has in mind—and it’s far too early for that, so unlikely—the meeting will be as usual. Some members will fret about inflation but be content to defer a hike until we know more. The meeting and the press conference will likely be a no-news non-event. Every word will be passed, of course, but it would be a surprise if Warsh says anything to change the outlook.

This guess runs contrary to the CME betting. Any tiny hint of hawkishness by Warsh has the potential to raise the odds of a Sept hike and that is dollar-favorable. Markets may even translate his already voiced firm intention to fight inflation as a signal he will seek to raise rates for sure. This has a whiff of wishful thinking.

The CME Fed funds betting already has the probability of a hike in Sept at 56.9% (with an additional 23.9% seeing 50 bp). These bettors are right more often than not. 

As for the Trump impromptu ceasefire, nobody knows whether it will turn into anything real. In fact, nobody knows the real reason he called for the ceasefire in the first place. It wasn’t Iran asking for new talks. Maybe he expects Oman to do the heavy lifting. We have strong words from Iran that it doesn’t seek a deal, doesn’t trust Trump and has no plans to surrender or stop doing whatever the hell it wants to do.

So, something’s up and while we expect governments and politicians to keep decisions a secret for the standard reasons (like national security), it would be far better to have less lying and misrepresentation.

For what it’s worth, a review of Roosevelt’s machinations about Lend-Lease and other behind-the-scenes acts in the early 1940’s is a lesson in how a government should lie to Congress and the people.

We continue to think in the end, the solution will be to allow Iran to charge a toll but on the condition the Strait is re-opened and the Houthis neutralized in the Red Sea. This gives Trump the transactional win of a happier stock market, lower yields, and a softer dollar. (As an incompetent blunderer, he will probably forget the Red Sea, though.)

His pride will get a little bruised because net-net, it’s a big fat loss. He started a war he couldn’t win. He signed a Memorandum of Understanding that was incoherent and gave away the shop. But gas prices will fall and that’s a must-get for the midterm elections, now less than 100 days off.

Trump hopes the voting public will forget the Iran war in 100 days, and to make sure of it, he will start some other distraction. Invade Cuba, maybe. Just as the Venezuela leader Machado (who gave her Nobel Peace Prize to Trump) praise him for the US invasion and points out the people are glad to be rid of Maduro, the Cubans would probably welcome the US, especially if it brings oil and food.

We await some new shock from Trump to distract from the war.