Markets Commentator Geoff Dennis On US Inflation

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Independent Emerging Markets Commentator Geoff Dennis talks about US inflation data that came in at 3.2%

Transcript

00:00 Good morning and thanks so much for joining in.

00:01 You're watching BQ Prime.

00:02 My name is Alex Mathew.

00:04 And we're here to talk about possibly the biggest headline of the week so far and certainly

00:08 the biggest headline heading into trade today.

00:11 And that is the fact that US CPI has cooled more than expected.

00:15 CPI stood at 3.2% in the month gone by.

00:19 And that was lower than consensus estimates of 3.3%.

00:24 Has inflation peaked?

00:26 What does this mean for US monetary policy?

00:29 And therefore, what does it mean for global equity markets and our markets here in India?

00:34 To talk about some of that, I'm joined by Geoffrey Dennis, independent emerging markets

00:38 commentator.

00:39 Geoff, thanks so much for taking the time.

00:41 Really appreciate your taking the time.

00:43 Let me start with a question.

00:45 Has inflation peaked?

00:47 And if it has, what are the implications for markets globally?

00:50 Oh, inflation has definitely peaked.

00:53 And I think what was important about the report today was the fact that obviously, as you

00:59 said, it was better than expectations, lower than expectations.

01:03 But also, the year on year rate came crashing down from 3.7 to 3.2, which is almost back

01:09 to the low that it got to in June.

01:12 And so that was a positive surprise.

01:14 And if I can just make this comment about the number, I think today's report was always

01:20 it was it was kind of easy, I think, to predict that it would be a good surprise because energy

01:27 played a huge role.

01:29 But when energy jumps a lot or falls a lot, the inflation rate tends to overshoot.

01:35 We got the benefit of a dramatic fall in energy prices in today's CPI.

01:41 And therefore, I think that's what created, if you like, the backdrop for this big rally.

01:47 Now, I'm sure we're going to talk about this.

01:51 Basically, it gave real additional evidence that the Fed is finished hiking, which is

01:58 now my view for sure.

02:01 I think we're quite a way away, however, from the first rate cut from the Fed.

02:05 But it's the markets that the Fed has done despite Powell's, Fed Chair Powell's comments

02:11 last week, which were quite hawkish.

02:13 And you got a classic risk on reaction equities up, bond yields sharply lower, down below

02:20 four and a half percent and also a weaker dollar, which, as I argue, continuously is

02:27 particularly good for the emerging markets.

02:32 I want to come to two aspects of that.

02:34 Now, ordinarily in any given year, Jeff, 19 basis points fall in a bond yield on the 10

02:43 dollar would be headline, big news.

02:46 But over the last couple of weeks or the last five weeks or so, the kind of volatility that

02:51 we've seen in treasuries has been unprecedented.

02:53 And so therefore, this is par for the course.

02:57 Are we done with some of that, though?

03:00 Does it settle?

03:01 Because as you say, I think a lot of market participants are now pricing in.

03:05 We're done with the rate hike.

03:06 So therefore, we shouldn't see too much of a spike from this point.

03:10 And the second point is the dollar index.

03:13 We saw it come off overnight.

03:14 One hundred and four thereabouts is where it is right now.

03:18 Does it come off more according to you?

03:20 And what are the implications?

03:21 Spell that out for us.

03:22 Well, I'm too old.

03:23 And I remember days, weeks, months of much, much bigger moves than the even the big move

03:31 we had in bonds today.

03:33 But certainly you've had tremendous volatility in bond yields in 2023.

03:38 And that's been unusual compared to the last several years.

03:42 We had a big rally.

03:43 Then it yields from five to four and a half.

03:47 It bounced back a little bit.

03:48 Now they had a big move down.

03:50 I again today, I don't think they're going to go a lot lower in the near term.

03:57 I think they will go lower.

04:00 My own model is telling me that inflation in the US probably hit somewhere near the

04:06 two percent in the second half of next year.

04:09 So that'll bring yields down a little bit more.

04:12 But I'm not sure we're going to see another any more than another 30, 40 basis points

04:17 over the next several months to the downside.

04:20 We've seen a good move already.

04:22 I think that's point number one.

04:24 The other point that I think supports that view is the fact that on a day like today,

04:31 nobody cares about the supply side.

04:32 But the supply side of the US bond market is what really troubled the markets as the

04:38 yields pushed up to five percent recently because the US is running an enormous budget

04:44 deficit.

04:45 And with that, you're getting a big supply of bonds coming onto the market.

04:49 And of course, the Fed is reducing the size of its balance sheet.

04:53 So I think you're still going to worry about the supply side here.

04:56 But for now, today, with this downside surprise in inflation, lower than expected inflation,

05:03 the demand for the bonds was very, very high.

05:06 That's what pushed the yields down very sharply.

05:08 They go lower still.

05:10 I'm not sure they go that much lower, maybe, as I say, 30, 40 basis points over the next

05:15 few weeks and months.

05:16 On the dollar, I've been bearish dollar for a long time and it's not really worked out.

05:22 I think the dollar does go lower.

05:25 As it becomes clear, the Fed is finished tightening and bond yields will go lower and eventually

05:30 the Fed will start to cut rates as well.

05:33 The backdrop here is although growth is good in the US compared to European growth, which

05:37 is not good, which is certainly weakening the euro to a certain extent, the issue with

05:43 the US continues to be, as I said a few moments ago, a very big budget deficit and a very

05:48 big trade deficit.

05:49 And I think that will be the dominant driver of the lower dollar.

05:53 So either the dollar continues to fall, it'll fall erratically, it's had a good move down

05:57 in the last few days, maybe it pauses, but I think dollar euro, which is between 108

06:03 and 109 today, is going to head towards 115 over the next six to 12 months.

06:08 OK, all right.

06:10 So that's important to watch.

06:12 The last leg of this conversation, I'd like to focus on the rate cut scenario.

06:17 I guess the attention starts shifting towards and the bets start pooling about when that

06:23 rate cut takes place.

06:24 Some have said it could be as early as June next year.

06:27 Is that optimistic?

06:29 And obviously, this depends on the US economy, which has stayed quite resilient, Jeff.

06:34 And the wages data, which I was looking at as well, the real wage growth seems to exist.

06:40 It's there.

06:41 Yes, I think the wages are still something you have to watch.

06:45 And that could, they could lead to, you know, some, if you like, slowdown again in the pace

06:51 in which inflation comes down.

06:53 And as your viewers will know very well, we've seen a lot of high profile wage settlements,

06:58 particularly in the auto industry, but also with the Hollywood actors and producers, etc.

07:05 But also earlier in the year with UPS, for example, the parcel delivery service.

07:13 But at the end of the day, I do think that sufficient downside is happening here on inflation

07:20 going forward.

07:21 And wages will stay under control that you can talk about rate cuts down the road.

07:26 Now, there are two reasons why the Fed will cut rates, in my view, probably in the second

07:32 half of 2024.

07:33 Are there two possibilities as to why they cut rates?

07:36 One is we actually go into recession, which I think is now a diminished possibility.

07:41 It is possible, but it's much less likely, I think, than it was a few months ago.

07:47 But if that were to happen, for example, in the first half of next year, they'd cut rates

07:50 then.

07:51 So you've got to watch the economy, see if it doesn't slow down too much.

07:54 And then, of course, in the second half of next year, if inflation is pushing towards

07:58 2 percent and interest rates are still 5.25 to 5.38, I'm sorry, 5.25 to 5.5, forgive me,

08:08 you're going to be in a situation where basically real rates are getting too high.

08:14 And so with the economy doing well, there is no need for the Fed to rush.

08:18 And I think the earliest they're going to move on my numbers would be the second half

08:23 of next year.

08:25 And I think the market could be disappointed because the market, I think, is pricing in

08:30 for rate cuts next year.

08:31 And I just think that's too many.

08:33 OK.

08:34 The last question, and this relates, of course, to the Indian equity markets in the context

08:37 of emerging markets.

08:38 We've seen considerable selling from the equity markets here by foreign institutions.

08:44 Now that this major change in expectation, there was, until this point, I think, until

08:50 yesterday, a question mark about whether or not the Fed had one more hike left.

08:56 Now that that's seemingly out of the way, what happens to flows?

09:00 And how does India stand in the context of emerging markets, Jeff?

09:05 India has outperformed this year.

09:07 It's up about 1.5% in dollars.

09:09 The EM index as of now, as of a very nice move early on on the 15th today, in Asia is

09:17 up about 1.5% on the year.

09:19 A disappointing year, frankly.

09:21 So India is up.

09:22 So although the FII data has not been good lately, India has nevertheless outperformed.

09:30 My sense is that you have had a perfect cocktail here for emerging markets.

09:36 I wrote a piece about three weeks ago saying, what do you need for emerging markets to do

09:41 well?

09:42 Well, you need to, first of all, you need China to turn around.

09:46 And there's some hint that China may be turning.

09:48 I don't so much mean the economy, although that could be turning too, in terms of stronger

09:53 growth, but also the market.

09:55 You need confidence the Fed is at the peak and the 10-year yields are at the peak.

10:01 Thirdly, you need, above all, a weaker dollar.

10:04 And finally, you need some sort of sense that geopolitics is settling down.

10:07 Now, I don't think geopolitics is settling down for sure, especially in the Middle East.

10:12 But the typical way in which geopolitics impacts markets is through something like the price

10:18 of oil, which has been extraordinarily benign.

10:21 So you've got a very, very good mix of events here for the emerging markets.

10:27 The EM does very well into year end and into 2024.

10:31 The FII money comes back.

10:33 And I think India does well as well.

10:35 I'd be overwhelmed.

10:36 India, of course, is expensive.

10:37 But then India is always expensive.

10:39 And I think the growth story is great.

10:42 There's potential down the road, perhaps, for interest rates to be brought down as inflation

10:46 drops.

10:47 But at the end of the day, this is a good environment for EM.

10:51 And that's going to bring the FII money, I think, back to a market like India.

10:54 Fantastic.

10:55 Thank you so much, Jeff, for taking the time.

10:57 Pleasure speaking with you.

10:58 Thank you.

10:59 All right, viewers, there you have it.

11:02 A comprehensive view on everything that you heard overnight on monetary policy, on inflation

11:07 in the US, and of course, the most important factor from our perspective here in India,

11:13 which is flows which could turn back to emerging markets and, of course, to India.

11:18 Do stay tuned.

11:19 Lots more coming up over the course of the day.

11:21 This is BQ Prime.

11:30 [BLANK_AUDIO]

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