Land of the Rising Buck: Sorting Out the Sinking Yen
Let's check the market as it inched along on Wednesday, the meaning behind the fall of the Japanese currency, bank tests and more.
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Inch by inch, by step by step. So it seemed for equity traders on Wednesday. The major U.S. equity indexes spiked with roughly five minutes left in the regular trading session, and then hung on under some last-minute pressure to close modestly higher for the day. This came after a rough six hours or so of back and forth see-saw style price discovery on trading volume that was pedestrian at times. It was quite easy to feel like equities at least were and are waiting for a new catalyst.
Last night's bank stress tests may have been a minor catalyst for that group. Overall, however, I think equity markets await not just Friday morning's personal consumption expenditures data for May, but as surprises in PCE are less frequent than are surprises in the consumer price index, markets are more likely looking forward to the "Russell Rebalance," and the absolutely enormous trading volume expected to come with it.
Perhaps, equity markets await ... this morning's durable goods orders for May? Nah.
Perhaps equity markets await ... this morning's revision to the first-quarter gross domestic product? Nah.
Perhaps equity markets await ... tonight's presidential debate? I will admit that this debate is starting to look like a spectacle and is almost sure to entertain, but ... nah.
Perhaps equity markets awaited ... last night's Micron MU earnings release? You may have something there. That release has placed some overnight pressure on the tech space.
What Mattered Most on Wednesday
The real action on Wednesday was in currency and Treasury debt markets. The Japanese yen fell on Wednesday to its weakest level against the U.S. dollar since 1986 (the Year of the Mets), trading at one point at 160.62 per greenback, which is beyond the level where the Bank of Japan intervened as recently as April. The yen also traded at its weakest level ever vs. the euro. Not sure if it was the low, but I have seen the yen trade overnight at 160.82 to the dollar. I have seen currency traders and strategists express their own expectations that the Bank of Japan that spent roughly $61 billion intervening on the yen's behalf earlier this spring, will intervene as anywhere from 161 to 165 yen to the dollar.
Global Impact of the Weak Yen
The overt weakness in the Japanese yen, and conversely the strength of the U.S. dollar is emblematic of U.S. financial dominance. The Federal Reserve's higher-for-longer policy on short-term interest rates, which I do not disagree with (so this is not a critique), forces the dollar to rise in value vs. currencies with sharply divergent short-end monetary policy. The U.S. Dollar Index topped 106 on and off all day on Wednesday. The euro, pound and Swiss franc have all weakened to some degree against the dollar this week.
What this does on the grand scale is pull capital out of Japan and pull capital into the U.S., though the direct relationship between Japanese accounts and U.S. Treasuries is more complex than that. While a strong dollar attracts global cross border investment, it obviously makes life more difficult for U.S. exporters. While a weak yen should improve conditions for Japanese exporters, this condition will also force some capital flight. In addition, Japan is where the largest portion of foreign investment in U.S. Treasury debt securities comes from and perhaps the lion's share of that investment has been made by the central bank.
This could force a liquidation of Treasury debt holdings by the Bank of Japan, as the attempt is made to reduce demand for U.S. dollars and increase demand for their home currency. That would allow the U.S. sovereign yield curve to perhaps, steepen. In short, a rate hike across the curve without the Federal Open Market Committee touching its target.
How to Ease This Condition?
Simple, really. Either the Federal Reserve would have to cut short-term rates in the U.S., or the Bank of Japan would have to increase short-term rates. Or both. Sans movement on interest rate target ranges by either central bank, Treasury securities did sell off a bit on Wednesday. The yield for the U.S. Ten Year Note gave up 7 basis points to go out at 4.32%, while the yield for the U.S. Two Year Note moved two basis points higher to 4.75%. Overnight, both of these yields have moved just a bit higher still.
Could that be a sign of Japanese selling in preparation for taking action to prop up the yen? Quite possibly. It's obvious that overall foreign demand for U.S. debt is still robust. On Wednesday, the U.S. Treasury Department went to auction with a whopping $70 billion worth of new Five-Year Notes. The high yield awarded, printed at 4.331%, which stopped through the "when issued" at the time by 0.4 basis points. Bid to cover was solid at 2.35, up from 2.3 for this series a month ago. Looking over the internals should put U.S. Treasury investors at ease somewhat, despite that the very large Japanese investment is now somewhat suspect. Indirect (foreign) bidders took down 68.9% of the issuance, which was their largest aggregate slice of the 5-year pie since March. Direct (domestic) bidders grabbed 17.7% of this auction, up from just 15.4% in May. This left dealers with just a 13.4% share, which I am sure they are very comfortable with. This was the second lowest share of any five year note auction that dealers in aggregate were "stuck with" since September 2023.
In short, no, the FOMC should not feel pressure, at least just yet, to reduce short-term rates as a means to relieve pressure elsewhere. The committee should reduce short-term rates when and only when it is clearly in the best interest of the U.S. economy, and in line with the Fed's dual mandate ... or when items cracking externally start to force internal cracks in U.S. financial markets.
U.S. Equities
Most U.S. equity indexes managed to stay fairly close on Wednesday to where they went out on Tuesday. The S&P 500 gained a mere 0.16%, as the Nasdaq Composite "roared" 0.49% higher. Interestingly, the Nasdaq 100 underperformed the Composite, adding just 0.25%. The banks, semiconductors, and small- to mid-cap indexes all closed slightly lower for the day. The runaway winner among the indexes, were the Dow Transports that gained 1.51% for the session, but even that is deceiving. More than two-thirds of the membership of the Dow Jones Transportation Average closed in the red on Wednesday, but FedEx FDX carried the index over the goal line with a post-earnings run of 15.53%.
Nine of the 11 S&P sector SPDR exchange-traded funds closed in the red on Wednesday, led lower by Energy XLE, which was down 0.98% thanks to that strong dollar. Consumer Discretionaries XLY were the runaway upside winner at 1.45% for the session, buoyed by Rivian's RIVN 23.24% pop and Whirlpool's WHR 17.1% run.
Losers beat winners by a rough 5-to-4 margin at the New York Stock Exchange and by about 7-to-6 at the Nasdaq. Interestingly, advancing volume took a 42.8% share of composite NYSE-listed trade on Wednesday, but somehow took a 63.5% share of composite Nasdaq-listed trade. Aggregate trade continued to ebb on a day-over-day basis for NYSE names, but sported a 9.2% increase for Nasdaq names. Is an "up" day for the Nasdaq meaning full on higher trading volume, when losers still beat winners? Kind of. Maybe? Can I pay you Tuesday for a hamburger today?
Boo, Hiss for New Home Sales
The Census Bureau released data for New Home Sales for May on Wednesday. The print crossed the tape at 619,000 in a seasonally adjusted annual rate, which was well below expectations for 636,000, and way, way below the beefy upward revision to 698,000 made for April. That looks kind of lousy, but there was some decent news for prospective buyers. Supply measured in months moved higher from 8.1 to 9.3, while the median price for a new home actually contracted by 0.9% year over year.
What, Me Worry?
Just as a word of caution. I was, in my baseball prime, a light hitting, very good defensive center-fielder, who got on base and then stole bases. Somehow, though, I always hit for good power in batting practice. On that note, the results of the Fed's stress tests for the nation's 31 largest banks were released on Wednesday evening. In aggregate, the group took a $685 billion hit in losses during a simulated severe recession. This was worse than last year's results, but within the range of results for recent years.
Across the 31 banks, the common equity tier one capital ratio printed at 9.9, which was well above the Fed's 4.5% minimum requirement. JP Morgan JPM outperformed the group at a Common Equity Tier 1 of 12.5%, which was down, by the way, from 15% a year ago. (Remember, this ratio compares a financial institution's capital against its assets.) Wells Fargo WFC saw its CET1 drop to 8.1% from 11.4%, which I believe put the bank in last among the handful of U.S. super-banks. Even this result was so far above the minimum that no one appears to be concerned. Guess marking "hold to maturity" securities held on bank portfolios was not part of the test.
This does, however, pave the way for the group to increase shareholder payouts. That said, the group may wait to see how the ongoing proposal for increased minimum capital reserves lays out.
Economics (All Times Eastern)
08:30 - Initial Jobless Claims (Weekly): Expecting 240K, Last 238K.
08:30 - Continuing Claims (Weekly): Last 1.828M.
08:30 - Durable Goods Orders (May): Expecting 0.2% m/m, Last 0.6% m/m.
08:30 - ex-Transportation (May): Expecting 0.1% m/m, Last 0.4% m/m.
08:30 - ex-Defense (May): Expecting -0.1% m/m, Last 0.0% m/m.
08:30 - Core Capital Goods (May): Expecting 0.1% m/m, Last 0.3% m/m.
10:00 - Pending Home Sales (May): Expecting 2.3%% m/m, Last -7.7% m/m.
11:00 - Kansas City Fed Manufacturing Index (Jun): Expecting 2, Last -1.
The Fed (All Times Eastern)
No public appearances scheduled.
Today's Earnings Highlights (Consensus EPS Expectations)
Before the Open: AYI (4.03), MKC (0.59), WBA (0.72)
After the Close: NKE (0.84)
At the time of publication, Guilfoyle was long WFC equity; short MU puts; long MU puts.
