Fed roulette

Welcome to the latest edition of FOMC Roulette, where the committee spins the wheel and determines why standing pat remains the optimal policy choice:



In fairness, the economic data has turned south recently, at least relative to market expectations.   Somewhat ironically, the Citi economic surprise index peaked the day after the March FOMC meeting; whether this represents incredible forecasting acumen, the deleterious impact of the Fed's "Debbie Downer" attitude, or mere happenstance is up for debate.

The irony, of course, is that markets have generally performed ideally (from the Fed's perspective, at least) since the March meeting, as we saw yesterday with the financial conditions index.   Today's announcement will therefore be a useful gauge as to the relative weights that the Fed gives to short term economic developments vs. financial developments.  As Macro Man observed yesterday, it seems likely that the committee will wish to keep the door open for June, even if they do not currently intend to walk through it.  After all, the meeting is just a week before the Brexit vote.

Speaking of Brexit, the market appears to be in something less than panic mode at the moment.  Polls generally seem to show that undecideds are gently swaying towards the "Remain" camp, as the "Leavers" have experienced no real erosion of support.  The polling dynamics are really quite interesting; telephone polls, which "pull" someone's response with no predisposed bias towards their voting preference, favour the Remain camp.   Internet polls, meanwhile, extract "push" responses; in other words, participants have to be proactive in sharing their viewpoints.   The Leave camp fares much better in these forums, indicating the strength of opinion (or at least the volume at which it is expressed.)

In any event, yesterday the two month vol date captured the referendum.   We can approximate the amount of event risk priced by comparing the spread of 1m vs 2m cable vol  with that of 2m vs 3m.   In doing so, an interesting picture appears.  As you can see, when the 3m date first captured the referendum, its vol premium to 2m comfortably exceeded the current 2m premium to 1m, even though you'd expect the opposite given the lower vega of short dated options.  The contrast versus last year's election can clearly be observed, where the shorter-dated spread exceed the peak of the  longer-dated one as soon as it captured the election.  That this hasn't happened this time would suggest complacency, a growing conviction that the outcome will clearly favor the Remain camp even before the vote, or fatigue at the cost of insurance.  Quite possibly, all three are playing a role.

As for markets, today is shaping as a three way Battle Royale between the Fed, the BOJ, and lousy corporate earnings.  Apple was the latest company to disappoint after the close yesterday, with shares dropping a quick 8% as a result.  As noted a few months ago, it can sometimes be difficult to disentangle general weakness in global demand from a specific disenchantment with Apple's particular suite of offerings.   Samsung's announcement (due tonight) will hopefully shed some light on the issue- Macro Man is far from an expert on consumer electronics, but some combination of the two factors seems a likely explanation.

More generally, tech stocks continue to struggle to regain their luster.   While FANG has generally enjoyed the upswing over the past couple of months, it has yest to recapture its previous giddy heights.  While it's generally dangerous to forecast technical chart formations before they actually materialize, it's hard not to see the potential head and shoulders formation shaping up for FANG.

 
When Macro Man looked at the FANG/GDX spread in early February, he observed that after a precipitous decline in the ratio, price symmetry might suggest a bit of a breather.   Sure enough, that's more or less what ensued...but recently it looks as if the spread is breaking down again.

As for the BOJ...it's a tough one to call.   What will they do?   How will the market react?  There are too many permutations to have a strong view without putting some quality thought into it.   Macro Man intends to do a bit more of that today, and if he comes up with anything he'll scribble down some thoughts ahead of the announcement.