The PMI data revealed
The Continent’s yet to be healed
The second wave’s crest
Must still be addressed
And Christine has naught left to wield
It appears as though the market reaction function has returned to ‘bad news is good.’ This observation is based on the market response this morning, to what can only be described as disappointing PMI data from Europe and Japan, while we have seen equity markets higher around the world, bond yields generally declining and the dollar under pressure. The working assumption amongst the investment community seems to be that as economic weakness, fostered by the much discussed second wave of Covid infections, spreads, it will be met with additional rounds of both fiscal and monetary stimulus. And, this stimulus, while it may have only a marginal impact on economies, is almost certainly going to find its way into investment portfolios driving asset prices higher.
Unpacking the data shows that France is suffering the most, with Manufacturing PMI declining to 51.0 and Services PMI declining to 46.5, with both of those falling short of market expectations. Germany, on the other hand, saw Manufacturing PMI rise sharply, to 58.0, on the back of increased exports to China, but saw its Services data decline more than expected to 48.9. And finally, the Eurozone as a whole saw Manufacturing rise to 54.4 on the back of German strength, but Services fall to 46.2, as tourism numbers remain constrained, especially throughout southern Europe.
This disappointment has analysts reconfirming their views that the ECB is going to increase the PEPP by €500 billion come December, with many expecting Madame Lagarde to basically promise this at the ECB meeting next week. The question is, will that really help very much? The ECB has been hoovering up huge amounts of outstanding debt and there is no indication that interest rates on the Continent are going to rise one basis point for years to come. In fact, Euribor rates fell even further, indicating literally negative concern about rates increasing. And yet, none of that has helped the economy recover. While the ECB will offer counterfactuals that things would be worse if they didn’t act as they have been, there is no proof that is the case. Except for one thing, stock prices would be lower if they hadn’t acted, that much is true. However, in their counterfactual world, they are focused on the economy, not risk assets.
The message to take away from this information is that the second wave of infections is clearly on the rise in Europe, (>217K new cases reported yesterday), and correspondingly as governments react by imposing tighter restrictions on activities, specifically social ones like dining and drinking, economic activity is going to slow. At this point, estimates for Q4 GDP are already sliding back toward 0.0% for the Eurozone as a whole.
One last thing, the weakening growth and inflation impulses in Europe is a clear signal to…buy euros, which is arguably why the single currency is higher by 0.25% this morning. Don’t even ask.
A quick look at the UK story shows PMI releases were also slightly worse than expected, but all well above the critical 50.0 level (Mfg 53.3, Services 52.3, Composite 52.9). While these were softer than September’s numbers, they do still point to an economy that is ticking over on the right side of flat. Retail Sales data from the UK was also better than expected in September, rising 1.6% in the month and are now up 6.4% Y/Y. Despite all the angst over Brexit and the mishandling of the pandemic by Boris, the economy is still in better shape than on the Continent. One other positive here is that the UK and Japan signed a trade deal last night, the UK’s first with a major country since Brexit. So, it can be done. Ironically, in keeping with the theme that bad news is good, the pound is the one G10 currency that has ceded ground to the dollar this morning, falling a modest 0.15%, despite what appear to be some pretty good headlines.
And that is pretty much the story this morning. Last night’s debate, while more civil than the first one, likely did nothing to change any opinions. Trump supporters thought he won. Biden supporters thought he won. Of more importance is the fact that the stimulus discussions between Pelosi and Mnuchin seem to be failing, which means there will be nothing coming before the election, and quite frankly, my guess is nothing coming until 2021 at the earliest. If this is the case, the stock market will need to refocus on hopes for a vaccine, as hopes for stimulus will have faded. But not to worry, there is always hope for something (trade deal anyone?) to foster buying.
So, let’s quickly tour markets. Asian equities were generally on the plus side (Nikkei +0.2%, Hang Seng +0.5%), but Shanghai didn’t get the memo and fell 1.0%. European indices have been climbing steadily all morning, with the DAX (+1.2%), CAC (+1.55%) and FTSE 100 (+1.7%) all now at session highs. Meanwhile, US futures, which had basically been unchanged earlier in the session, are now higher by 0.3% to 0.5%.
Bond markets are actually mixed at this time, with Treasury yields edging ever so slightly higher, less than 1bp, with similar increases in France and Germany. The PIGS, however, are seeing demand with yields there lower by between 1bp and 3bps. As an aside, S&P is due to release their latest ratings on Italian debt, which currently sits at the lowest investment grade of BBB-. If they were to cut the rating, there could be significant forced selling as many funds that hold the debt are mandated to hold only IG rated paper. But it seems that the market, in its constant hunt for yield, is likely to moderate any impact of the bad news.
As to the dollar, it is broadly, but not steeply, weaker this morning. AUD (+0.35%) is the leading gainer in the G10 bloc as copper prices have been rising on the back of increased Chinese demand for the metal. Otherwise, movement in the bloc remains modest, at best, although clearly, this week’s direction has been for a weaker dollar.
In the emerging markets, most currencies are stronger, but, here too, the gains are not substantial. HUF and CZK (+0.35% each) are the leaders, following the euro, although there is no compelling story behind either move. The rest of the bloc is generally higher although we have seen some weakness in TRY (-0.35%) and MYR (-0.3%). The lira is still suffering the aftereffects of the central bank’s surprise policy hold as many expected them to raise rates. Rationale for the ringgit’s decline is far harder to determine. One last thing, there was a comment from the PBOC last night indicating they were quite comfortable with the renminbi’s recent strength. This helped support further small gains in CNY (+0.2%) and seems to give free reign for investors to enter the carry trade here, with Chinese rates substantially higher than most others around the world.
On the data front here, yesterday saw the highest Existing Home Sales print since 2005, as record low mortgage rates encourage those who can afford it, to buy their homes. This morning brings the US PMI data (exp 53.5 Mfg, 54.6 Services), but recall, that gets far less traction than the ISM data which is not released until Monday, November 2nd. As to Fed speakers, we are mercifully entering the quiet period ahead of the next FOMC meeting. But the message has been consistent, more fiscal stimulus is desperately needed.
As the weekend approaches, I would not be surprised to see the dollar’s recent losses moderated as short-term traders take risk off the table ahead of the weekend. At this point, having broken through a key technical level in EURUSD, I expect an eventual test of 1.20, but once again, I see no reason for a break there, nor expect that if the dollar does fall to that level, it will be the first steps toward the end of its status as a reserve currency.
Good luck, good weekend and stay safe