Lack of US market & macro volatility both reassuring and troubling

US market and macro metrics stable…with the exception of flying equities

The metronomic rise in US equity indices to new record highs, spurred in part by the recent detent in US-China trade relations, is understandably making the headlines. The S&P 500, which yesterday breached the 3,300 level, has hit new record highs in five of the past seven trading sessions and is now up nearly 4% in the past month.

However, just as notable, is the fact that other US financial market indicators – including the Dollar and government bond yields – and macro data, including GDP growth and inflation, have on the whole been extremely stable.

• The Dollar Nominal Effective Exchange Rate (NEER) in the past five weeks has oscillated in a very narrow range of less than 0.9%, according to our estimates (see Figure 1). Over the past decade the Dollar NEER has rarely been stuck in such a narrow range (see Figure 2).

• US government bond yields have been range-bound since early October, with 2-year yields (1.56%) currently trading in the middle of their 25bp-wide range (see Figure 3). Five and 10-year yields are currently trading in the upper halves of ranges about 40bp wide.

• The quarter-on-quarter seasonally-adjusted annualised rate of US GDP growth was broadly unchanged in Q3 from Q2 at 2.1% and according to the Atlanta Fed GDPNow tracker only slowed marginally in Q4 to 1.8% (see Figure 4). The relative stability of US growth has gone hand-in-hand with the stabilisation in global (ex US) GDP growth at around 3.1% yoy since Q2 2019 (see Figure 5 and Early Christmas for (still weak) global growth, 11 December 2019). The US Bureau of Economic Analysis is due to release the advance estimate of Q4 2019 GDP data on 30^th

• Measures of US core CPI-inflation have been range-bound for at least the past 12 months (see Figure 6), despite the imposition of US tariffs on Chinese imports. In year-on-terms, core CPI-inflation and market-based core PCE inflation (one of the Federal Reserve’s preferred measures of inflation) have oscillated between, respectively, 2.0% and 2.4% and 1.4% and 1.8% since March 2018. Core PCE-inflation has been stuck in a 1.5-1.8% range since January 2019.

The relative stability in these US financial market and macro indicators, at least in the past 4-6 months, has arguably been self-reinforcing.

Range-bound US (and as noted global) economic growth and US core inflation measures at levels acceptable to the Federal Reserve has contributed to its decision to keep its policy rate unchanged since its last 25bp rate cut on 30^th October. It has also been a factor behind FOMC members’ near-unanimous view in recent months that the US economy is currently in a good place and that the Federal Reserve’s policy rate is appropriate and unlikely to be cut or hiked near-term.

This has in turn helped stabilise US government bond-yields, with markets now pricing in only 20bp of rate cuts for the full-year 2020, as well as the US Dollar. Finally, negligible moves in yields and the Dollar have played a part in keeping GDP growth and inflation within narrow confines. While market participants may not welcome this lack of volatility in US financial markets or the paucity of US macro data surprises, the Federal Reserve would argue that boring and predicable markets and stable US economic growth and inflation are a sign that its monetary policy is working and appropriate.

Notably, domestic US political events and geopolitical developments in recent weeks have so far had little discernible impact on the Dollar or US government yields.

• The escalation in tensions between the US and Iran since the killing of General Qassem Soleimani 12 days ago only had a passing impact on financial markets. The S&P 500, US Dollar NEER and US government bond yields barely flinched while the price of Brent Crude oil only temporarily spiked above $70/barrel before falling to $65/barrel – below the level which prevailed before Soleimani’s killing (about $66/barrel).

• The impeachment of US President Trump, which was officially initiated one month ago, has seemingly even had less of an impact on US financial markets.

• Finally, the well-telegraphed signing of a US-China Phase One trade deal on 15^th January has arguably contributed to the soaring rally in US equities and may in time contribute to a pick-up in US and global trade and economic growth. However, it has so far seemingly had little or no impact on either the Dollar or US government bond yields.

The question therefore is what, if anything, could disrupt this stable “equilibrium” and/or the metronomic rise in US equities. A re-escalation in tensions between the US and Iran, and in particular an attack on US soil, and a reversal in trade negotiations between the US and China are perhaps the more obvious “know unknowns”. The run-up to US presidential elections in ten months time also has the potential to throw a spanner in the works. However, the market’s willingness to look through domestic political and geopolitical events suggests that only a significant exogenous or endogenous shock currently beyond markets’ radar screens (an “unknown unknown”) is likely to really move the needle, in our view.