High Five, Five Low, Too Slow

By Teeuwe Mevissen, Senior Macro Strategist at Rabobank

Most of us probably remember the silly joke that was often performed at the school yard when someone would shout ‘high five’ and put his/her hand up high, inviting the other to give a high five. It was then proceeded with saying ‘five low’ and extending your hand to invite the other to give a five low but then the hand is quickly pulled back so that the other slaps in thin air while getting the message that this person was too slow. It makes today’s author of the Global Daily think of current interest rate markets, which have shown large swings recently. The main reason for those swings is that market participants seem to wonder whether the current Fed funds rate – which hoovers around the level of 5.3% – is seen as too high or actually too low. And, following this question, whether the Fed might be too slow with either raising or lowering interest rates going forward.

Since the last meeting in which the Fed kept the target range for the Federal funds rate unchanged, longer yields have been taking a nose dive bringing the 10-year yield on US government bonds from a level of nearly 5% towards the level of 4.53% which we see on our screens right now. However, markets yesterday seemed less sure about the Fed’s future path. Miraculously, sentiment today seems to be more in line with the conclusion that, indeed, the Fed might actually have reached its peak. The regular reader of the Global Daily knows that this is also our expectation. Therefore, stocks rose in the US while treasuries remained steady. Stocks are also rising in Europe this morning. China’s picture was more mixed with mild gains for mainland indices but some losses in Hong Kong.

One of the likely reasons is that yesterday the news came in that (net) flows of FDI towards China turned negative for the first time since 1998. This seems to be one of the clearest signs yet that Western companies are implementing the ‘China plus one’ strategy, which stands for a policy that looks for investments in other countries than China to set up production facilities. This in order to mitigate potential risks that might arise from increasing geopolitical tensions and as such, protecting their supply chains. Indeed this is a continuation of a trend we flagged earlier during the spring this year in a publication which one can find here. As such the impact and process of de-risking seems to become more and more entrenched. All in all net FDI came in at minus $11.8 billion meaning that FDI entering China was $11.8 billion lower then what China invested outside of its borders.

Meanwhile, looking at the global economy as a whole, risks continue to be on the downside. With ongoing geopolitical tensions and two major conflicts, risks that energy or food prices might rise again are significant. The recent attack by the US on a weapons depot in Syria that is controlled by Iran’s Islamic Revolutionary Guard Corps is just one of the examples that there are still ample of possibilities that could escalate the current conflict into a broader regional conflict. On a more positive note, Saudi Arabia said that while peace talks with Israel are on hold, they are “contingent on a pathway to peaceful resolution of the Palestinian question that was on the table and remains on the table”.

Regarding geopolitics we will have to wait until next week to see if there is reason to believe that things can be improved significantly. On the November 14 Biden will visit San Francisco for Asia-Pacific Economic Cooperation Leaders’ meeting and will meet with Xi Jinping on the 15th on the sidelines of the summit to discuss a wide range of topics. This is the first meeting between both leaders since November 22 last year during the G20 summit in Bali. While expectations remain low, there is a chance that communication lines between both militaries could be re-established. That would reduce the chance of unexpected incidents turning into a crisis. Previously this was impossible since former minister of Defence general Li Shangfu was on the US sanctions list and as such refused to engage with his US counterpart Lloyd Austin.