Still Some Doubt

One vote from six hundred is all
That set apart sides in this brawl
So hard Brexit’s out
But there’s still some doubt
That hard Brexit they can forestall

Well, Parliament finally found a majority yesterday regarding Brexit. In a cross-party vote, by 313-312, Parliament voted to not leave the EU without a deal in hand. While they still hate the deal on the table, there are now discussions between PM May and opposition Labour leader Corbyn as to how they can proceed. There is lots of talk of a customs union solution, which would essentially prevent the UK from making trade deals on its own, one of the key benefits originally touted by the pro Brexit crowd. But time is still running out with PM may slated to speak to the EU next Wednesday and explain why the UK should be granted another delay. Remember, it requires a unanimous vote of the other 27 members to grant that delay.

Another interesting tidbit is that the UK government has 10,000 police on standby for potential riots this weekend as there is some talk that Parliament may simply cancel Brexit completely. You may recall that late last year, the European Court of Justice ruled that the UK could do that unilaterally, and so that remains one option. This follows from the train of thought that now that the law states they cannot leave the EU without a deal, if there is no deal to which they can agree, then not leaving is the only other choice. Arguably, the most interesting thing about this has been the market’s reaction. The pound is actually a touch softer this morning, by just 0.1%, but that was after a very modest 0.2% rally yesterday. It continues to trade just north of 1.30 and market participants are clearly not yet convinced that a solution is at hand. If that were the case, I would expect the pound to have rallied much more significantly. If Brexit is canceled, look for a move toward 1.38-1.40 initially. The thing is, it is not clear that it will maintain those levels given the ongoing economic malaise. Ultimately, if we remove Brexit from the calculations, the pound is simply another currency that needs to compare its economic fundamentals to those in the US and will be found wanting in that category as well. I expect a slow drift lower after an initial jump.

Turning to the US-China trade discussions, today Chinese vice-premier Liu He is scheduled to meet with President Trump, a sign many believe means that a deal is quite near. From the information available, it seems that the sticking points continue to be tariff related, with the US insisting that the current tariffs remain in place until the Chinese demonstrate they are complying with the deal and only then slowly rolled back. The US is also seeking the ability to unilaterally impose tariffs in the future, without retaliation, in the event that terms of the deal are not upheld by China. Naturally, China wants all tariffs removed immediately and doesn’t want to agree to unilateral action by the US. One side is going to have to back down, but I could see it being a split where tariffs remain for now, but unilateral action is not permitted. In the end, one of the key issues has always been the fact that the Chinese tend to ignore the laws they write when it is deemed to suit the national interest. Will this time be different? History shows that this time is never different, but we shall see.

Certainly, equity markets cannot get enough of the idea that this trade deal is coming as it continues to rally, especially in China, on the prospects of a successful conclusion. While markets today are generally little changed, Shanghai did manage another 1% jump last night. I guess the real question here is if a deal is agreed and President’s Trump and Xi meet and sign it sometime later this month, what will be the next catalyst for the equity market to rally? Will growth really rebound that quickly? Seems unlikely. Will the central banks add more stimulus? Also unlikely if they see these headwinds fade. In other words, can risk-on remain the market preference indefinitely?

Turning to the actual data, once again Germany showed that the slump there is real, and possibly worsening. Factory Orders fell 4.2% in February, much worse than the expected 0.2% gain and the steepest decline in two years. It is also the third decline in the past four months, hardly the sign of an economy rebounding. In fact, German growth forecasts were cut significantly today by its own Economy Ministry, taking expectations for 2019 down to 0.8% GDP growth for the year, less than half the previous forecast. But despite the lousy data, the euro is basically unchanged on the day and actually over the past week. Traders are looking for a more definitive catalyst, arguably something new from a central bank, before they make their next move. Ultimately, as the German data shows, I think it increasingly unlikely that the ECB can tighten policy in any way for a long time yet, and that bodes ill for the since currency.

There has been one noteworthy mover overnight, the Indian rupee has fallen a bit more than 1% after the RBI cut rates by 25bps at their monthly meeting last night. While this was widely anticipated, the RBI came out much more dovish than expected, indicating another cut was on the way and that they would ‘…use all tools available to it to ensure liquidity in the banking system…’ which basically means that easier money is on the way. I expect that the rupee will have a bit further to fall from here.

But otherwise, it was a pretty dull session overnight. The only data this morning is Initial Claims (exp 216K), but with payrolls tomorrow, that is unlikely to quicken any pulses. We also hear from both Loretta Mester and John Williams, but the Fed story is carved in stone for now, no policy changes this year. Yesterday’s softer than expected ISM Non-Manufacturing data will simply reconfirm that there is no reason for the Fed to start tightening again. All told, it doesn’t feel like much is going to happen today as the market starts to prepare for tomorrow’s NFP report. Unless Brexit is canceled, look for a quiet session ahead.

Good luck