• Mario Draghi continues to talk down the Euro and Euro may be getting the message.
  • Inflationary pressures spike higher in Dallas Fed Manufacturing Index.
  • Japan PMI improves while German IFO Business Climate index takes a breather.


ECB President, Mario Draghi, said today that “the recent volatility in the exchange rate represents a source of uncertainty which requires monitoring.”  We remind you that there isn’t any “recent volatility” in the Euro, it simply has been going up (until recently)…




Generally speaking, when a currency goes up, it’s a good thing.  It means inflationary pressures are abating and households get more bang for their buck via improved purchasing power.   The ultimate goal for any society should be a strong currency.  A strong currency is a sign of wealth and an increased standard of living.

So you might wonder, why do so many central bankers want inflation and weaker currencies?  In part, it’s because it’s an accounting gimmick.  Instead of measuring economic success by household wealth and purchasing power, governments like to measure economic success via a flawed statistic called GDP.  GDP is essentially a measure of how much you’re spending.  GDP has little to do with wealth.  In fact, if you’re spending above and beyond your means, like nearly all governments do today, sovereign debt levels will rise as GDP goes up.

But why do central bankers care about GDP when their success is measured by “price stability”?  Well, it’s because some PhD-level research suggests that there tends to be inflation when economies grow and therefore there is correlation between inflation and growth and therefore inflation must be good, right?

Despite the collective PhD brainpower at the world’s central banks, none of the world’s central bankers ever question whether or not targeting inflation for inflation’s sake may truly lead to more growth.  Not a single central banker ever questions whether or not their 2% inflation targets are actually a good thing.   None have ever given speeches as to whether the perceived historical greater good of 2% inflation may simply be correlation without causation.   No central banker has ever asked the question: ‘maybe 2% inflation isn’t appropriate in a world of significant technological advances, global price discovery, and tremendous automation’.  No central banker ever questions whether or not we should have inflation at all.  Why shouldn’t we have mild deflation in such a scenario?

Here are some reasons why central bankers don’t bother to question their 2% inflation targets:

  • They’re not paid to question it. Rising inflation leads to rising tax revenues.  When asset prices rise, so do capital gains taxes.   When revenues rise, so do corporate taxes.   Therefore, politicians and central bankers prefer inflation, regardless of whether or not it hurts the masses.
  • When inflation grows faster than wages, consumers become more reliant on debt. Increased household debt levels mean banks are writing more loans.   The banks and the central bankers are friends.  Who else is going to give six-figure checks for one-hour speeches when central bankers retire?
  • Because weaker currencies give the short-term illusion of growth. When currencies weaken, exports increase given the relative competitive advantage.  Tourism increases as well.  In lieu of real structural reforms, currency manipulation makes it look as though politicians and central bankers are achieving their objectives.   Until, of course, another central bank decides to step into the currency war.

Our macro views today are very much centered on the fact that the ECB wants a weaker Euro, while the U.S. Fed wants to normalize rates (what exactly is ‘normal’ anyway?).  The central bankers have unlimited funds and we must do as they tell us.  In a world where capital and assets are becoming increasingly socialized (ECB buying corporate debt, while BOJ buys companies through ETF’s), we must follow their orders until they somehow blow themselves up.  We suspect that Japan will someday do just that, but until then, the masters of the universe want a lower EUR/USD exchange rate and it would be foolish to try and fight it.  


According to the Federal Reserve Bank of Chicago, the Chicago Fed National Activity Index (CFNAI) fell -0.34 points to -0.31 in August (lowest level since August 2016).  Moreover, the three-month average fell -0.04 points to -0.04.  In the month, Production & Income declined -0.39 points to -0.36 and Employment & Hours declined -0.04 points to +0.05; however, Sales & Inventories rebounded +0.10 points to +0.06 and PCE & Housing were unchanged M/M at -0.06.





Today, the Dallas Federal Reserve reported that the Current General Business Activity Index increased +4.3 points to +21.3 in the month of September.  Note that this month marks the 12th consecutive month of growth in the region and the highest level since February.  In the month, many of the current categories remain elevated and there were notable improvements in New Orders (+4.3 points to 18.6), Unfilled Orders (+7.9 points to 8.1), Shipments (+9.3 points to 27.4), Number of Employees (+6.4 points to 16.3), and Average Workweek (+3.9 points to 18.4)

As for the outlook, manufacturers had a more positive business outlook, as the Forecast rebounded +5.3 points to +34.5 (highest level since March).  However, the outlook for Prices Paid for Raw Materials surged another 9.9 points to 35.9, which is the highest level since March.






The Nikkei Flash Japan Manufacturing PMI Index increased +0.4 points to 52.6 in September.  This is the highest level since May.  Furthermore, the Manufacturing Output Index increased +1.0 points to 53.5.  In the month, there were increases in New Orders, New Exports, Employment, Output Prices, and Input Prices.   Things are great…let’s call a snap election!





The German IFO Institute Business Climate Index fell for the second consecutive month, down -0.7 points to 115.2 in September.  In the month, the Business Situations Index fell -1.1 points to 123.6 and the Business Expectations Index fell -0.4 points to 107.4.

In a somewhat related note, German Chancellor, Angela Merkel, won her reelection bid over the weekend.  However, her Christian Democrat party lost some seats as they had less than 33% of the total vote versus 41.5% previously (lowest share of the national vote since 1949).  Moreover, the Social Democrats (20.5% of total vote) also fell to the lowest share since 1949.  Conversely, the Free Democrats and Green Party won 10.7% and 8.9% of the total vote, respectively.





U.S. GDP:  Our GDP model points toward stronger growth in the quarters ahead (+2.8% Real GDP growth in 2H 2017, and 3% growth in 2018) given improvements in workforce population growth, workforce participation, and low interest rates and energy prices.  However, given that 1H 2017 GDP is currently estimated at just 2.0% growth, it will be difficult for GDP to achieve our official forecast of 3.0% for 2017.

U.S. Inflation:  U.S. inflation is set to rise again over the coming months as energy prices return to positive territory on a Y/Y basis.  Additionally, recent data show that shelter costs have been turning up again.  However, the Fed’s preferred inflation metric, the Core PCE Deflator was up just +1.4% Y/Y in July (away from the Fed’s 2% inflation target).

U.S. Federal Reserve:  With inflation set to turn back up again, the odds of another Fed hike will increase (note that December hike odds are currently 60%).   Not to mention, increased inflation (as well as increasing inflation expectations), give the Fed reason to begin balance sheet tapering at their meeting this week (September 20th).

U.S. Treasuries:  With headline CPI having hit a near-term peak of 2.7% Y/Y, we believe the 10-year U.S. Treasury is now range-bound through the end of the year.  We would be inclined to be buyers of Treasuries if the 10-year yield were to approach its recent high of 2.63%.

U.S. Equities and Earnings:  S&P 500 operating earnings will rise materially in 2017, but our yearend S&P 500 target of 2400 has already been attained.  In fact, we believe the S&P is now fully valued.  We continue to favor the homebuilders, given the demographic tailwind and lack of inventory and are encouraged by the improvement in pending home sales.

Argentina:  In short, the economic data out of Argentina remains bad (but less bad than it was a year ago).   Industrial Production increased +5.9% Y/Y in July (+6.6% Y/Y prior), CPI is up +22.9% Y/Y in July (+23.4% Y/Y prior), Consumer Confidence remains depressed but ticked higher in August, and GDP is up just +0.3% Y/Y.

Brazil:  The macro data in Brazil continue to improve.  Retail sales are now up +3.0% Y/Y, unemployment has fallen for four straight months to 12.8%, PMI’s continue to trend higher, tax receipts are growing, inflation is falling – which allows the central bank to cut rates further, and GDP finally turned positive on a Y/Y basis (+0.3% Y/Y).  Of all the major global bond markets, Brazilian 10-year bond yields are the richest in the world at 10%.  As the economy improves, and inflation cools, we would expect to see investors reach for yield in Brazil.   As such, we recently initiated a Long Brazil 10-Year Sovereign Bond view.

Canada: Given concerns about Canada’s housing market (Existing home sales fell again in July and Building Permits are slowing) and potential fallout from lower oil prices, we added Canada to our downside risk watch; however, so far Canada’s economic data remain healthy.  Consumer Confidence remains at high levels, manufacturing PMI’s remain strong, unemployment has been in a declining trend, retail sales are accelerating, and Canada’s monthly GDP continues to increase (+4.3% Y/Y in June).

Mexico: Recent economic data in Mexico have been worsening. GDP slowed to +1.8% Y/Y in Q2, Unemployment increased to 3.4% in July, Industrial Production declined -1.6% Y/Y in July, and Retail Sales slowed significantly in June (+0.4% Y/Y vs. +4.1 Y/Y prior).

Venezuela: We will leave this as a placeholder in the event that Venezuela ever becomes an investible market again.  We are hopeful …


United KingdomThe U.K. economy remains resilient.  Consumer Confidence has deteriorated and Q2 GDP slowed to 1.7% Y/Y (+2.0% prior); however, Unemployment continues to decline, Retail Sales accelerated in August, home price gains are steady, inflation is in an uptrend, and PMI’s improved in August.  In fact, the Bank of England stands ready to raise rates if inflation continues to climb.

European Union:  Economic data has recently improved in Europe.  Unemployment continues to decline, PMIs indicate strong growth, Industrial Production accelerated in July, but Consumer Confidence remains negative.  However, we are seeing improvement in Southern EU nations as well (including Greece). As such, we remain bullish on the Euro STOXX 50 Index.

European Central Banks:  The ECB is doing exactly what we thought they would do by favoring asset purchases over furthering lowering rates into negative territory and now the ECB is facing rising inflation.  The ECB has now begun to taper its asset purchases and certainly a discussion will begin on the process of how/when to raise rates.  We will watch to see if ECB tapering has any meaningful impact on zero (or near-zero) interest rates throughout the continent.

Eastern Europe: We continue to believe risks remain for Eastern Europe given high Debt/GDP levels, most notably Cyprus (104%), Croatia (88%, up from 66% at the end of 2013), and Slovenia (81%).   Yet, economic data have been robust this year across most of Eastern Europe.

South Africa:  Political chaos and debt downgrade risk aside, South African data improved in Q2 (higher PMI’s, higher retail sales, lower inflation, and improving business confidence), however, Unemployment remains persistently high at 27.7%.

Turkey:  Despite the political situation, the macro backdrop has been strong.   Consumer confidence has been rising for months, business confidence increased in June, Unemployment is turning lower again, and inflation has reversed its recent rising trend.  One area to watch for signs of weakness is housing as Home Prices slowed slightly in May (still up +12.6% versus +13.1% prior) followed by a sharp decline in home sales thereafter (-8.1% Y/Y in June).   Furthermore, industrial production declined -3.6% Y/Y in June. Note that July manufacturing PMI slowed slightly as well.


Australia: The RBA has cut rates twice in the past year and Australian data is holding up.  So far, business and consumer confidence have been strong, the job market has been steady, and PMI’s have held up, despite weakness in commodities prices.    That being said, we are starting to see weakness in the housing market (private sales down -3.7% and building approvals down -13.9% Y/Y).  We remain neutral on Australia at this time, on concerns about China exposure but so far China is still posting strong data.

China:   Recent data suggest some modest improvement in China’s manufacturing sector.  Note that China PMIs indicated steady growth in August, Industrial profits were up a solid +16.5% Y/Y in July, and China’s consumer and services sectors remain resilient.  However, Retail Sales, Fixed Investment, and Industrial Production all slowed on Y/Y basis in August.  We continue to believe China has the levers necessary to stimulate ahead of the National Communist Party Congress later this year, but we are watching for further signs of stress within China’s credit and housing markets.

India:  Indian economic activity took a nosedive in July following the new Goods and Services Tax (GST) as PMI’s fell into contractionary territory.  This downturn in activity follows months of weakening durable goods sales and slowing industrial production.  With the SENSEX index just off its all-time high and up 21% this year, we are monitoring India for further deterioration, but a de-escalation on the border with China should help markets.  Given declines in inflation, the central bank cut rates this month.

Indonesia:  Indonesia’s GDP and Private Consumption Expenditures have been stable at 5% Y/Y, but Consumer Confidence and inflation appear to be turning higher.  As a result, it is reasonable to assume that the central bank’s dovish policy stance (six rate cuts in 2016) may revert to a more neutral stance this year.

Japan:  We have a bullish view on Japan’s Nikkei 225 given improvement in Japan economic activity, employment, and small business confidence, although the weakness in PMI’s over the past two months raises concern.  Bank lending is improving on a Y/Y basis in Japan, unemployment continues to improve, industrial production remains elevated, and consumer confidence remains in a slow up-trend.

Russia: Russian economic data continue to suggest economic growth as GDP accelerated in Q2.  Furthermore, PMI’s accelerated in August, Retail Sales continue to rebound, Real Disposable Income and Wages have turned up, and Unemployment rate improved to 4.9% in August.  Meanwhile, inflation is moderating, which allowed the Bank of Russia to cut rates once again.  Russian equities remain the cheapest in the industrialized world and we remain bullish.







































This publication is for Institutional Investor use only and not for distribution to the general public. The comments herein are based on the author’s opinion at a particular point in time and may change at any time without notice. Merion Capital Group does not guarantee the accuracy or completeness of the information contained herein. Merion Capital Group is a FINRA-registered broker-dealer. Merion Capital Group shares in the commissions for trades that are executed through Tourmaline Partners, LLC, a FINRA-registered broker-dealer. This report is distributed for informational purposes only and should not be construed as investment advice or a recommendation to sell or buy any security or other investment, or undertake any investment strategy. It does not constitute a general or personal recommendation or take into account the particular investment objectives, financial situations, or needs of individual investors. Past performance is not a guarantee of future performance. All investments involve risk, including the loss of all of the original capital invested.


Sign Up for Bluestone's
FREE Weekly
Market Research E-mail

You have Successfully Subscribed!