The Chinese, now, have it in mind
That they have been badly maligned
So tariffs they hiked
Which markets disliked
Though they have not yet been enshrined
Then Powell explained pretty well
That interest rates hadn’t yet fell
As far as they might
But if we sit tight
Most things ought to turn out just swell
And after the markets had closed
The President quickly imposed
More tariffs to thwart
The Chinese report
While showing he’s just as hard-nosed
It is truly difficult to keep abreast of the pace of change in market information these days. Like so many, I yearn for the good old days when a surprising data release would change trader views and result in a market move but comments and headlines typically had limited impact. These days, by far the most important newsfeed to watch is Twitter, given President Trump’s penchant for tweeting new policy initiatives. This weekend was a perfect example of just how uncertainty has grown in markets.
A quick recap of Friday shows that the Chinese decided to respond to numerous trade provocations and announced they would be raising tariffs further on $75 billion of US imports. Not surprisingly, risk assets responded negatively and we saw equity markets around the world decline while bonds, gold and the yen all rallied. Then we heard Chairman Powell’s long-awaited speech, where he explained that while the economy is in a pretty good place, given the ongoing global weakness and uncertainties engendered by the current trade war, the Fed stood ready to ease policy further. That was enough to encourage the risk-takers and we saw equity markets rebound and bonds give up most of their gains. But just as the market was getting set to close, the President tweeted that he would be raising tariffs further in response to the Chinese action, lamenting that he hadn’t acted more aggressively initially. This, of course, turned things back around and risk was quickly jettisoned into the close, resulting in equity markets ending down more than 2.4% in the US while bonds rebounded and the dollar fell. Whew!!
But that is all old news now as the weekend’s G7 meeting in Biarritz, France, resulted in more surprises all around. The first surprise was that the US and Japan have announced they have reached a trade deal “in principal” which should open Japanese markets to US agricultural imports and prevent the imposition of further tariffs on Japanese autos. Clearly a positive. But that was not enough to turn markets around and Asian sessions started off quite negatively, following the US close and understanding that the US-China trade war was getting hotter. However, an early morning Trump tweet announced that China had called the US and asked to get back to the negotiating table, something that was neither confirmed nor denied by the Chinese, but enough information to reverse markets again. So while Asian equity markets all suffered badly (Nikkei -2.2%, Hang Seng -1.9%) Europe went from down 1% to up 0.5% pretty much across the board (UK markets are closed for a holiday, the late-August banking holiday). We also saw US futures reverse course, from -1.4% to +0.5%, and Treasuries, which had traded to new low yields for the move at 1.44%, reversed course and are now back up (prices lower) to 1.52%. However, that is still lower than Friday’s close. As well, while early on there was a brief 1bp 2yr-10-yr inversion; that has now reversed to a 1bp positive slope.
And what about the dollar through all this? Well, G10 currencies are broadly softer vs. the dollar this morning, with losses ranging from -0.2% for EUR, GBP and CAD all the way to -0.8% for SEK. Even the yen is weaker, -0.45% on the day having reversed some early session (pre-tweet) gains to levels not seen since November 2016.
Of more interest, though, is the fact that CNH has fallen to new historic lows since its creation in August 2010, touching 7.1925 before bouncing slightly, and still down nearly 1% on the day. The Chinese are potentially playing with fire as stories of capital flight increase amid the renminbi’s recent declines. Obviously, 7.00 is no longer an issue, but the key unknown is at what level will money start to leak more fiercely, something nobody knows. I must admit, I did not expect to see this type of movement so quickly, but at this point, one cannot rule out even more aggressive weakness here. Certainly the options markets are telling us that is the case with implied vols rising sharply overnight (1mo +0.6 vol) and heading back toward levels seen after the 2015 ‘mini devaluation’. In fact, not surprisingly, implied volatility is higher pretty much across the board this morning as late summer illiquidity adds to the remarkable uncertainty in markets. There’s probably a bit more boost available in implied vols, at least until the next tweet changes the situation again.
Turning to this week’s calendar, there is a fair amount of data to absorb as follows:
|Tuesday||Case Shiller Home Prices||2.30%|
|Q2 GDP||2.0% (2.1% prior)|
|PCE||0.2% (1.4% Y/Y)|
|Core PCE||0.2% (1.6% Y/Y)|
Clearly, all eyes will be on Friday’s PCE data as that is the number the Fed watches most carefully. Remember, we have seen two successive surprising upticks in CPI inflation, so a high surprise here could have consequences regarding the future path of interest rates. At least that’s the way things used to be, these days I’m not so sure. Wednesday we hear from two Fed speakers, Barkin and Daly, but it seems unlikely either of them will swerve far from Powell’s comments as neither is particularly hawkish. Speaking of data, we did see one piece this morning, Germany’s IFO Indices with all three pieces falling much further than expected, underscoring just how weak the economy is there. My money is on a stimulus package before Brexit, but also on a hard Brexit being averted.
Recapping, barring any further twitter activity, markets are set to open optimistically, but unless we hear confirmation from the Chinese that talks are, indeed, back on, I would not be surprised to see risk ebb lower as the day progresses. This means a stronger yen, and right now, a softer dollar, at least against the G10. Versus the EMG bloc, the dollar has further room to run.