Not So Benign

The worries in China have spread
From stocks to renminbi instead
Its recent decline
Seems not so benign
And could drive more market bloodshed

Well, if President Xi’s goal is to make China the most talked about nation in financial markets, he is clearly on the right track. Of course, he may not like the tone of the conversation!

Once again, Chinese markets are dominating the global discussion with continued declines overnight in equity markets there (Shanghai -1.1%, Shenzhen -1.3%) alongside the recent weakness in the renminbi. This morning, CNY has fallen a further 0.4%, with the dollar now trading above 6.60 for the first time since last December. It is becoming abundantly clear that the PBOC is quite willing to allow further weakness in what appears to be a reaction to the ongoing trade dispute with the US. In the past two weeks, USDCNY has risen every day with the total movement clocking in at more than 3%, and quite frankly, there doesn’t seem to be any reason for it to stop. Last night the PBOC was seen intervening heavily in the market in an effort to moderate the decline, but it seems highly unlikely that the government there wants to stop it completely. As I mentioned yesterday, their key concern is that a more rapid decline in the yuan will result in significant capital outflows, or at the very least a sharp drop in capital inflows, and that has the potential to destabilize markets in China, and eventually, elsewhere in the world. And for a country that has been trying to burnish its image as a responsible global financial citizen, causing global market destabilization is clearly not the desired outcome. At any rate, given the ongoing standoff regarding the US-China trade situation, it seems highly unlikely that CNY will stop falling soon. Look for a gradual decline with a year-end target of 7.00 still quite viable in my mind.

Away from China, however, FX market activity has been less exciting. While the dollar continues its broad trend higher, the pace remains muted. For example, this morning, amongst the G10 currencies only NZD has moved more than 0.2%, with kiwi falling 0.6% as the market prepares for the RBNZ meeting this afternoon. Expectations are for no change in policy, but the suspicion is that the bank is becoming more dovish due to escalating trade rhetoric between the US and China.

Important economic data from the G10 is more notable by its absence than by what it is telling us about the economy. Last night brought us UK Home Price data, showing the slowest rate of price increases in five years, with prices in London actually falling by 1.9%. Combining this with testimony by Jonathan Haskel, who will take his seat on the MPC come September 1st, which showed him to be somewhat more dovish than Ian McCafferty, the member he is replacing, has clearly weighed on the pound. Otherwise, we saw a bit of mixed confidence data from Italy, soft confidence data from France and weak Irish Retail sales. None of this was very inspiring as evidenced by the euro’s 0.2% decline.

Meanwhile, the emerging market space remains under pressure as concerns over trade weigh heavily on the sector. It is important to remember that virtually every EMG country is dependent on its export sector for economic growth, and as the global free-trade framework that has existed for the past 70 years starts to come undone, these economies are going to suffer. The only potential exception right now is for the oil producers as President Trump’s recent call for a complete boycott of Iranian crude products has helped drive oil prices up by nearly 4% this week. So RUB, MXN and MYR have been able to outperform their EMG peers, although this morning all three are down vs. the dollar. In fact, the dollar has demonstrated strength throughout the market today, just as it has been doing for the past several months.

As to this morning, we see Durable Goods data (exp -1.0%, +0.5% ex transport) and we hear from two Fed speakers, Randy Quarles and Eric Rosengren. However, it seems unlikely that any of this will have a major market impact. Rather, I expect that the broad equity weakness that has been evident of late will continue (currently futures are pointing to a -0.5% opening in the US) and the risk-off tone that has engendered will help the dollar to remain underpinned. And of course, there is the ever present risk of some new commentary from President Trump that has the chance to upset markets. So volatility remains a good bet, as does modest continued dollar strength. This story is not even close to ending.

Good luck