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It was a busy week for central banks, with three heavy weights setting policy decisions. Up first, the Federal Reserve left interest rates unchanged as widely expected, but the committee’s rate projections were the ones traders paid attention to at this meeting. The Fed continued to signal that they saw at least one further rate increase this year, and that policy would run more restrictive than the market had priced in at the end of next year (i.e. higher for longer).
The Fed’s Dot Plot showed that only 50 bps of cuts were expected going into Dec next year, one less than markets had priced in. Furthermore, Chair Powell mentioned during his press conference that the neutral rate (the assumed rate of interest which balances the economic growth and inflation) might have risen, which does hint that more restrictive policy might be needed, for longer.
The actual decision and statement release had been taken in stride by markets till then, but selling in risk assets started to gain momentum after that. Longer end treasury yields rose, with the 10y yield spiking to a high of 4.51 on Friday. The bear steepening of the yield curve deeply affected US stock indices, which had been green going into the Fed decision. SPX 500 futures dropped 1.6% over the event.
The next day, the Bank of England surprised markets by holding their policy rate unchanged at 5.25%. This was in contrast to a widely expected hike by most economists. The forward guidance from Governor Andrew Bailey remained hawkish, which was probably what saved the British Pound from falling too far over the decision.
Meanwhile, the Bank of Japan left policy unchanged on Friday, while pledging to continue its ultra-easy stance to support the economy. This was in stark contrast to the expectations that traders had last week, when Governor Ueda’s interview with Yomiuri hinted that policy changes might be coming. However, given that traders had already started to reprice their expectations before this week’s meeting, the impacts were felt less keenly. As expected, the USDJPY price rose post meeting by some half a percent to close the day. Meanwhile, despite the easy stance, JGB yields continue to march higher, in part following the rise in treasury yields, but also on continued bets that the BOJ must tweak their policy sooner or later.
Inflation in Malaysia, as indicated by the Consumer Price Index staying at +2.0% YoY in August, appears to be successfully tamed. However, scratching beyond the headline number reveals an uneven basket with food-related inflation generally double the headline figure and other categories (e.g. transport, health) turning positive for the first time. When coupled with some recent rises in key commodities i.e. rice and oil, we see risk of inflation rising should some of these undercurrent continue.
Malaysian exports experienced a slowdown which was largely exacerbated by a large base effect (i.e. strong export numbers in Aug’22 related to a global post-pandemic recovery). The details seem to support the narrative presented from the Malaysian inflation story: rises in commodity prices. Petro and palm oil saw export recoveries which may be in large part due to price increases rather than demand, while declines in the export of electrical and electronic products does seem to reinforce that global demand is waning.
Despite the turmoil in traditional markets post-FOMC, the crypto market held up relatively well. After a very brief selloff, Bitcoin stayed afloat above the 27000 price level on Thursday morning, when most traditional risk assets were deep in the red. However, further capitulation got underway later as London traders walked in, and crypto majors finally took a turn lower.
In terms of beta, crypto majors escaped relatively unscathed from the fallout though, with SPX500 and NQ100 both accelerating lower into Friday’s NY close while Bitcoin and Ethereum held their day’s ranges. Week on week, Bitcoin is actually little changed on price, with fairly steady buying taking place in the earlier half.
The news cycle focused mostly on regulatory developments this week, highlighting further attempts by traditional financial institutions to enter the digital asset space. Of course, front and centre in all things regulatory here is the ongoing confrontation between Binance.US and the SEC, the latest of which is Binance attempting to get the SEC’s lawsuit thrown out.
Last week was a pretty major one for markets, and this note has a lot to cover. Traders are finally starting to wake up to the Fed’s forward guidance of higher rates for longer. For most of the year, traders have been calling the Fed’s bluff, by continuously trying to price in rate cuts further out into the curve. And it’s hard to blame them, when Fed messaging has generally been inconsistent throughout this inflationary cycle.
Without going into the weeds, we acknowledge that there’s a good chance that markets might finally transition into a higher for longer regime. Yields in the 10y and above brackets are more sensitive to economic expectations than the front end, which is anchored by policy rates. The spate of stronger than expected US economic data and the Fed’s more upbeat projections now serve to steepen that part of the curve, which ironically is bad for risk assets in this current environment.
Comparing real yields (via TIPS) also tells us that, on a relative basis, long end bonds still do not offer sufficient annual risk-adjusted returns compared to that of US equities over the long term, owing mainly to the volatility in long term bonds. This sets up an interesting conundrum where equity valuations remain stretched, while long term treasuries do not offer sufficient premium to be worth owning at current levels.
September seasonality has played out largely as we have expected - albeit with help from the Fed. We mentioned before that it should never be taken on its own, but it’s been a great additional filter for helping us navigate this month. Going into the last week of the month though, we highlight another structural effect of the US financial economy: passive portfolio rebalancing. The quarter ends tend to see the intersection of both monthly and quarterly rebalancing flows, which can be assumed to affect the large majority of US passive portfolios. And most of this flow takes place in the last week of the month. We wrote a bit about this at the end of last month, and it could be a factor again this coming week. As of last Friday, the SPX500 is down 4.45% MoM, and down 2.92% QoQ. The rebalancing flows should skew towards buying.
In short, we think that US equity majors might see some support from this phenomenon over the week. On balance though, we would like to be a bit more cautious in terms of being bullish on traditional assets, as we navigate a potential regime shift in the US yield curve. For now, the 10y yield at 4.50% seems like a pivotal level.
On the local front, Malaysian risk assets were mainly taking direction from the external environment. While the FBMKLCI has held up well, local rates continue to stay pressured. Interest rate swaps have been inching higher all week, and benchmark MGS yields have risen in a correlated move with US treasuries (10y benchmark is 8 bp higher WoW).
We see both push and pull factors for the Malaysian bond market with the threat of inflation (based on the CPI data) being a negative, but weaker growth prospects (based on decelerating exports) being a positive. One way to shield from potential unwanted volatility in this space is to stay invested in short dated fixed income, and a great way to express that view is our own Halogen Shariah Ringgit Income Fund which features a short portfolio average duration of only around 6 months, while rates look to remain intact.
Our assessment is that the Bank Negara Malaysia’s Overnight Policy Rate should remain at 3.00% at least until the end of the year while we remain on the lookout for developments that could keep it there in 2024.
USDMYR attempted to break the 4.70 level post FOMC but was subsequently rebuffed, mainly thanks to our friendly neighbourhood agent banks. We’ve heard from market sources that local corporates have been busy buying dollars over the week, but their flow wasn’t sufficient to overcome the supply. The external environment continues to pressure local fixed income and our Ringgit, but the latter will likely see some support via currency intervention. The detailed foreign reserves reports from BNM in the coming months should prove interesting to go over.
We continue to anticipate that Bitcoin trades within the established range of $25,500 to $27,500 over the coming week, despite what looks like a more challenging macro environment. The price volume action in spot BTC was constructive, while in perpetual swaps we saw growing attempts to tactically short the pair, but they did not prove too fruitful.
In terms of onchain metrics, the percentage of Bitcoin held by small and medium wallet holders (less than 100 BTC) has hit an all time high of over 41%. BTC supply held on exchanges also continued to decline. Stablecoin supply has also started to expand once more. While perhaps this also has defensive connotations, it’s also a sign that investors are preparing once more to dip back into crypto beta exposure.
An interesting observation in the earlier half of the week was that the price of BTC had a tendency to rise starting between 3.30 to 4.30 pm on local exchanges each day, and the momentum did last for at least a couple of hours. This actually allowed for semi-consistent intraday seasonal trades, which we did make sure to stay ahead of when rebalancing our Halogen Shariah Bitcoin Fund.
Besides Bitcoin though, other crypto majors like ETH, XRP, and BNB were relatively lacklustre. While still keeping to their recent ranges, the major altcoins trade with less support and don’t have as much of a narrative to keep them going (in BNB’s case, the ongoing Binance lawsuit should keep the price ceiling low).
As a final note of interest, we’ll also be keeping an eye on some DeFi related tokens like Chainlink and Maker DAO. The former has embarked on an ambitious project to bridge digital assets and traditional finance in a major way, while the latter is the largest successful attempt to tokenise real world assets to date.
Thank you for reading and we’ll see you next week!
Team Halogen
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