Gold, Wall Street wobbled on softer US retail sales and PPI

·         Fed usually goes by 6M rolling average of data rather than 1-3 months; Fed may show ‘confidence’ for rate cuts in Sep’24 and begin the same in Dec’24

On Tuesday Wall Street got some boost on softer than expected US retail sales and less hawkish Fed talks, but the overall impact was quite limited as it’s quite clear that the Fed is gradually preparing the market for the mega rate cut cycles from Dec’24 with an eye on bond yield management (backdoor YCC). Gold and oil also wobbled on hopes & hopes of an imminent Gaza war ceasefire and Israel’s plan/action of an all-out offensive on Hezbollah in Lebanon. Overall, Wall Street and Gold recovered to some extent from the brief slump after the Fed’s hawkish hold amid softer-than-expected US CPI and PPI data coupled with less hawkish Fed talks and the subsequent hopes & hypes of an early Fed pivot for the stimulus-addicted Wall Street.

The 6M rolling average of US core inflation (PCE+CPI) may be around +3.3% by May; the Fed may not start the rate cut cycle until this average of core inflation (PCE+CPI) goes at least below 3.0% on a sustainable basis. This may not be possible before Sep’24; i.e. Fed may not get the required confidence for indicating a definitive rate cut before Sep’24. In that scenario, the Fed may give a definitive signal for eleven rate cuts from Dec’24 QTR onwards in its Sep’24 dot-plots, just before the Nov’24 election to keep both Wall Street, Main Street as well as Capitol Hill Street happy; both Democrats and Republicans may not object Fed in that case; Powell will keep both sides of the political Street happy.

On Tuesday, some focus of the market was also on US retail sales as consumer spending is the backbone of the US economy and the Fed also watches this data closely for an assessment of overall economic activities. On Tuesday, the CB flash data (SA) showed U.S. retail sales for May’24 were around $703.09B against 702.46B sequentially (+0.09%) and 687.47B yearly (+2.27%); i.e. the U.S. retail sales increased around +0.1% in May’24 sequentially (m/m), lower than the market consensus +0.2%, while increased by +2.3%.annually (y/y). The US retail sales were adjusted for several past years in Apr’24 based on the annual retail trade survey. Before the revision, the 2023 and 2024 (MTD) average retail sales were around $695.251B and $704.024B, while after revision, they became around $692.280B and $701.596B respectively; i.e. revised downwards to some extent.

Overall, after the latest revisions the average/month retail sales are now around $701.09B in 2024 (MTD) against an earlier average of $701.60B and the 2023 average of $692.36B. The current 2024 (MTD) US retail sales nominal growth is now around +2.2% against the 2023 rate of +3.6%; although cooled, but remained strong,  despite higher borrowing costs and higher cost of living as the labor market is still robust, while the lagging effect of huge fiscal stimulus (COVID) is still there. Adjusted inflation (CPI), the underlying real retail sales has contracted around -0.5% in 2023 against +1.2% in 2022.

In 2024 (YTM), the real retail sales contracted by around -1.0%; i.e. real US retail; sales are still negative while continuing to hover around 30% of nominal GDP as overall, the goldilocks nature of the U.S. economy remains intact despite some volatility in underlying economic data due to various transient/seasonal factors.

The 3M rolling average of US retail sales is now around $703.10B vs 683.41B yearly; i.e. grew by around  +2.9%, while US core retail sales (w/o food and fuel) grew +3.3%.

In May’24, retail sales were boosted by sporting goods, hobbies, musical instruments, and books (+2.8%), followed by clothing (+0.9%), motor vehicle and part dealers (+0.8%) and non-store retailers (+0.8%). Other increases were also seen at electronics & appliance stores (+0.4%), miscellaneous store retailers (+0.4%), health & personal care stores (+0.1%) and general merchandise stores (+0.1%).

On the other side, May retail sales were dragged by gasoline stations (-2.2%) furniture stores (-1.1%), food services & drinking places (-0.4%), and food and beverage stores (-0.2%). Excluding gasoline, sales rose +0.3%; meanwhile, sales excluding food services, auto dealers, building materials stores and gasoline stations, which are used to calculate the PCE component of GDP, were up +0.4% in May, following a -0.5% drop in April.

Overall, although US retail sales are cooling to some extent, it’s still hot enough for the Fed to keep a restrictive rate (higher) for longer to produce more slack in the economy so that demand comes down to some extent and try to balance with the present constrained capacity of the economy, pulling inflation down to around +2.0% on a sustainable basis.

Conclusions: The Fed may start the long-awaited rate cut cycle from Dec’24 and may almost confirm the same by Sep’24

·         Fed has projected in the June’24 dot-plots -25 bps rate cut in 2024, -100 bps rate cuts each in 2025 & 2026, and -50 bps in 2027 for terminal neutral repo rate +2.75%

·         Fed may not cut rates in Sep’24. just before Nov’24 US election to avoid any political controversy

·         But the Fed may start the rate cut cycle from Dec’24 QTR (Q4CY24) and may cut cumulatively eight times in 2025-26 at each QTR end by -25 bps each; then Fed may cut twice in 2027 at June’27 (H1CY27) and Dec’27 (H2CY27) @-25 bps each

·         One month of data may not change the Fed’s narrative about higher for longer stance as the headline unemployment average is still below 4%, while average core CPI inflation is still around 4%; the Fed generally considers at least 6M rolling average of economic data to suit its narrative

·         The 6M rolling average of US core inflation (PCE+CPI) would be around +3.3% by May; the Fed may not start the rate cut cycle until this average of core inflation (PCE+CPI) goes at least below 3.0% on a sustainable basis. This may not be possible before Sep’24; i.e. Fed may not get the required confidence for indicating a definitive rate cut before Sep’24

·         In that scenario, the Fed may give a definitive signal for eleven rate cuts from Dec’24 QTR onwards in its Sep’24 dot-plots, just before the Nov’24 election to keep both Wall Street, Main Street as well as Capitol Hill Street happy; both Democrats and Republicans may not object Fed in that case; Powell will keep both sides of the political Street happy.

·         Ahead of the Nov’24 U.S. Presidential election, White House/Biden and also Fed/Powell are more concerned about elevated inflation rather than the healthy labor market; prices of essential goods & services are still significantly higher (around +20%) than pre-COVID levels, which is creating some anti-incumbency wave among the general public (voters) against Biden admin (Democrats) due to relatively higher cost of living. Thus Fed is now giving more priority to price stability than employment (which is still healthy- hovering below the 4% red line) and is not ready to cut rates early as it may again cause higher inflation just ahead of the November election

·         Overall, the Fed’s mandate is to ensure price stability (2% core inflation), and maximum employment (below 4% unemployment rate) along with financial/Wall Street stability as well as lower borrowing costs for the government. As the US is now paying almost 15% of its tax revenue as interest on debt, the Fed will now not allow the 10Y US bond yield above 4.75-5.00% at any cost (against present levels of average core CPI around +4.0%); i.e. Fed will not allow core real bond yield above +1.00%. Fed has to also ensure Wall Street stability by keeping SPX-500 TTM PE around 25 rather than lower/mean levels around 20.

·         Also, the reduction of Fed B/S from around $8.97T to around $6.60T by Dec’25 (projected); i.e. around $2.50T (~$2.37T) reduction over 2.5-3.00 years is equivalent to a rate hike of around +50 bps (higher 2Y bond yield)

·         Fed had boosted its B/S from around $3.86T in late September’2019 (after the QT tantrum) to around $8.97T in Apr’22; i.e. over $5T in a matter of 32 months (@0.16T/M) to fight previous QT and COVID induced financial crisis.; but in the process may have also caused huge inflationary pressure along with the deluge of COVID fiscal stimulus and direct fund transfer; all these may have caused the vicious cycle of higher deficits, higher debts, higher devaluation, higher borrowing costs, and still elevated inflation

·         Fed will continue the QT at a reduced rate of around 40B/M till Dec’25 for a B/S size of around $6.60-6.50T (around 22% of estimated US nominal GDP of around $30T by CY26)

·         Fed may continue the QT (even at an officially slower pace) and rate cuts at the same time despite being contradictory

·         Fed may say (like BOC) that as long as the policy rate is in the restrictive zone (say 1.50-2.00% above average core inflation), the Fed may continue both rate cuts and QT to reduce overall restrictiveness. When the policy rate moves into a neutral/stimulative zone, say 50 bps above average core inflation, then the Fed may go for more rate cuts and close the QT

·         Overall, Fed rate cuts along with QT (even at a slow pace) may be less dovish than pure/only rate cuts as QT is also equivalent to rate hikes to some extent

·         All other major G20 Central Banks including ECB, BOE, BOC, RBI, and even PBOC may be compelled to follow the Fed’s real rate action to keep present policy differential with the Fed

·         As USD, is the primary global reserve/trade currency, any meaningful negative divergence with the Fed will result in higher imported inflation, everything being equal; for example, if the ECB indeed goes for 50-75 bps rate cuts in H2CY24, while the Fed is still on hold, then EURUSD may slip further towards parity (1.0000), which will result in higher imported inflation as the EU is dependent quite heavily on imported goods, foods, and fuel/commodities

·         In this way, no major G20 Central Bank will take such rate action/cuts alone as there is a routine/regular coordination/consultation between all major central banks for a coordinated/synchronized policy action to avoid disorderly FX movement

·         The Fed also not seeking a very strong USD as it would eventually affect US export competitiveness. Thus all major central banks are now focusing on maintaining proper balance and coordination with the Fed, whatever may be the domestic political/election, inflation/economic narrative/jawboning; they can’t afford to diverge too much against the Fed, all being equal

·         Like in India, the US Presidential election in Nov’24 may be also acting as a big/moderate fiscal stimulus amid huge election spending, which may likely boost inflation again or prevent the disinflation process, making the Fed’s job harder to cut rates before Nov’24 election

·         Moreover, the Biden admin is spending huge for the US private defense industry in the name of aid to Ukraine and even Israel and will also actively participate in the reconstruction process of both Gaza and Ukraine when the war finally stops

·         Although the US Treasury may have some control of certain FX assets and also the Gold reserves of Russia, Ukraine, and even Israel, the deluge of deficit/fiscal spending, debt, and money printing is also boosting overall inflation

·         In H2CY24, the U.K., Canada, and also various other developed economies in the EU are going for general election, and economic issues such as elevated inflation/higher cost of living will be one of the major issues

·         For example, U.K. PM Sunak suddenly called for an early general election in July after a recent softening in inflation data. But all this election spending will also act as some fiscal spending and will not help the present disinflation pace. Thus Fed as well as ECB, BOE, BOC, and even RBI should feel less confident about going for any new/further rate cuts until Fed cuts in Dec’24

·         Thus almost all major G20 Central Banks including ECB, BOE, BOC, RBI, and even PBOC may not cut rates in H2CY24 if the Fed remains on hold; no central bank will go against the Fed irrespective of any narrative/rhetorics and make LCU weaker against USD, causing higher imported/total/core inflation in the process; all central banks led by Fed will continue the 24/7 jawboning to keep bond yields under control (indirect YCC like BOJ) and a vibrant financial/money/FX market

Weekly-Technical trading levels: DJ-30, NQ-100, SPX-500 and Gold

Whatever may be the narrative, technically Dow Future (39400) has to sustain over 39500 for any further rally to 39800/40200-40350*/40500 and may further rally to 40600-40700/41000 and even 42000-42700 in the coming days; otherwise, sustaining below 39450-39400 may again fall to 39200/39000-38900/38600 and further fall to 38400/38200-38100/37900* and 37600/37400 in the coming days.

Similarly, NQ-100 Future (20250) has to sustain over 20500 for a further rally to 20700-21050 in the coming days; otherwise, sustaining below 20450/2035020300/20250 may again fall to 20000/19850-19750/19650* and 19450/19100-18800/18500 and 18400/18100-18000/17700 and 17600/17500-17300/17150 in the coming days.

Technically, SPX-500 (5560), now has to sustain over 5650 for any further rally in the coming days; otherwise, sustaining below 5625/5600-5575/5550 may again fall to 5500/5450-6375/5350 and 5250/5200-5175/5100 and further 5000/4900*-4850/4825 and 4745/4670-4595/4400* in the coming days.

Also, technically Gold (XAU/USD: 2340) has to sustain over 2360 for a further rally to 2375/2385-2395/2400 and further to 2410/2425-2435/2455* and 2475-2500; otherwise sustaining below 2355/2350-2345/2325, may further fall to 2290/2275 and may further fall to 2245/2230-2220/2180 and 2155/2115-2085/2045 in the coming days.