June 12 – It’s Fed week on Wall Street. Stocks have a positive bias to them to start the week, while the commodities have a bit of a negative bias. That’s generally been the theme in recent months, with stock traders choosing an optimistic view of the economy, while the fundamentals tend to be viewed in a more bearish light in the commodities. The VIX is trading below 15 this morning, elevated slightly ahead of this week’s Federal Reserve meeting, even with higher stock futures. The dollar index is a bit weaker near 103.4. Yields on 10-year Treasuries are trading near 3.73%, while yields on 2-year Treasuries are trading near 4.58%, which is just below three-month highs. Crude oil prices are down 3% in early trade to start the week, whereas the grain and oilseed sector is mixed to mostly higher this morning.
The Federal Open Market Committee will start two days of meetings tomorrow. Wall Street is largely anticipating a hawkish pause tomorrow, but that may hinge on two key inflation data points scheduled to come out over the next two mornings. We are scheduled to get updated consumer price data on Tuesday morning, and producer price data on Wednesday morning. The general thinking is that the headline month-on-month consumer price index change will drop to roughly 0.2%, while the core number stays higher near 0.45%. That would put the year-on-year CPI near 4.1%, while the core CPI number remains near 5.3%. Wall Street will see that as progress, despite the fact that much of the improvement in the headline number is tied to weakness in the commodities – particularly energy prices. Core inflation remains a problem, with signs that it is heating up a bit again. Wage inflation is still a problem, and recent data suggests that it may be intensifying again as job openings increase.
The Federal Reserve stated repeatedly this spring that it is committed to the 2% inflation mandate. My contention is that it cannot reach the 2% mandate without taming wage inflation. The Fed has also worked hard to communicate that it would rather error on the side of “too high too long” with its rate policy, to avoid making the same mistake that it made in 1980 when it pivoted too soon. Taking that into consideration, along with recent data showing job openings increasing again and job creations rising, it is difficult to see a pathway to the Fed’s 2% mandate without the central bank inflicting more pain on the economy. Maybe it will end up changing the 2% mandate, but thus far it is committed to it. It could hit it if it had the tools to bring the 5.5 million people identified in the last monthly jobs report who said they wanted a job, but had not looked for a job, back into the job market. But the Fed has limited tools for doing that. The tools that it does have in its toolbox for balancing workers with job openings is to reduce the number of job openings by inflicting pain on the economy.
The big shift in China’s economic and military strategic plan during President Xi Jinping’s reign has in part been driven by its rapidly shifting demographics of a declining population that is aging with fewer young people to support the economy. That means that it must expand the reaches of its economy, which it has done through its Belt and Road initiative and by taking control of Hong Kong. In fact, its Belt and Road initiative is the primary thing keeping its economy from collapsing currently. But it also sees a strong economy and a strong military as necessarily intertwined. More data recently emerged to the seriousness of its population problem. The data shows that 6.83 million couples were married last year, which is nearly half the rate of 13.46 million couples married in 2013. Marriages have been in decline for nine consecutive years in China, producing the lowest number of marriages on record since the data started being reported in 1986. China’s population went into decline last year a decade before projected by U.N. analysts. A low marriage rate also translates into a low birth rate, dimming economic recovery hopes short of another big change in dynamics.
The anticipated shift in the Midwest weather pattern tied to the onset of El Nino happened on schedule this weekend. Rains generally fell in the areas projected by last Monday’s forecast. Cooler temperatures arrived on schedule as well, to reduce evapotranspiration rates. Yet, there was widespread disappointment in rainfall totals, which is not a surprise. It takes a progression of systems to put moisture back int the atmosphere following an extended drought when soil evaporation is limited. That is still expected to take place in the days and weeks ahead. There will be periodic warmups, but the overall pattern this summer is expected to be mild across the Midwest, keeping evapotranspiration rates lower. There is a legitimate debate to be had whether moisture relief did/will come in time to avoid notable loss in yield potential. It will be many weeks before we have that question fully answered, but I remain optimistic, with exceptions in the driest areas. I remain concerned that the northwest 25 – 30% of the nation’s corn acres may be left wanting for moisture this summer, which we will continue to monitor. But my greater concern is the eroding demand side of the ledger, which could offset as much as a 10-bushel decline in yield, should it happen. Yes, U.S. corn is more than $35 cheaper than cash corn in China currently, but Brazilian corn for delivery in August and September is another $28 cheaper than U.S. corn. As for soybeans, time remains on their side yet to avoid yield losses from the current weather pattern. While I still see soybean stocks rising in the year ahead, it’s easier to see a scenario unfold that could turn those fundamentals more favorable.
