Decidedly Slowed

In China they’ve reached a crossroad
As growth has decidedly slowed
The knock-on effects
Are not too complex
Watch markets, emerging, erode

Once again, the overnight data has disappointed with signs of further slowing in the global economy rampant. The headline was in China, where their big three data points; Fixed Asset Investment (5.2%), Industrial Production (4.7%) and Retail Sales (7.2%) all missed expectations badly. In fact, all of these are at or near historic low levels. But it was not just the Chinese who exposed economic malaise. Japanese GDP printed at just 0.2% in Q3, well below the expected 0.9% outcome. And how about Unemployment in Australia, which ticked higher to 5.3%, adding to concern over the economy Down Under and driving an increase in bets that the RBA will cut rates again next month. In fact, throughout Asia, all the data was worse than expected and that has had a negative impact on equity markets as well as most commodity markets.

Of course, adding to the economic concern are the ongoing protests in Hong Kong, which seemed to take a giant step forward (backward?) with more injuries, more disruption and the resulting closure of schools and work districts. Rumors of a curfew, or even intervention by China’s armed forces are just adding to the worries. It should be no surprise that we have seen a risk off attitude in these markets as equity prices fell (Nikkei -0.75%, Hang Seng -0.95%) while bonds rallied (Treasuries -5bps, JGB’s -3bps, Australian Treasuries -10bps), and currencies performed as expected with AUD -0.75% and JPY +0.3%. Classic risk-off.

Turning to Europe, Germany managed to avoid a technical recession, surprising one and all by releasing Q3 GDP at +0.1% although they did revise Q2 lower to -0.2%. While that is arguably good news, 0.4% annual growth in Germany is not nearly enough to support the Eurozone economy overall. And the bigger concern is that the ongoing manufacturing slump, which shows, at best, slight signs of stabilizing, but no signs of rebounding, will start to ooze into the rest of the data picture, weakening domestic activity throughout Germany and by extension throughout the entire continent.

The UK did nothing to help the situation with Retail Sales falling 0.3%, well below the expected 0.2% rise. It seems that the ongoing Brexit saga and upcoming election continue to weigh on the UK economy at this point. While none of this has helped the pound much, it is lower by 0.1% as I type, it has not had much impact overall. At this point, the election outcome remains the dominant story there. Along those lines, Nigel Farage has disappointed Boris by saying his Brexit party candidates will stand in all constituencies that are currently held by Labour. The problem for Boris is that this could well split the Tory vote and allow Labour to retain those seats even if a majority of voters are looking for Brexit to be completed. We are still four weeks away from the election, and the polls still give Boris a solid lead, 40% to 29% over Labour, but a great deal can happen between now and then. In other words, while I still expect a Tory victory and Parliament to pass the renegotiated Brexit deal, it is not a slam dunk.

Finally, it would not be appropriate to ignore Chairman Powell, who yesterday testified to a joint committee of Congress about the economy and the current Fed stance. It cannot be a surprise that he repeated the recent Fed mantra of; the economy is in a good place, monetary policy is appropriate, and if things change the Fed will do everything in its power to support the ongoing expansion. He paid lip service to the worries over the trade talks and Brexit and global unrest, but basically, he spent a lot of time patting himself on the back. At this point, the market has completely removed any expectations for a rate cut in December, and, in fact, based on the Fed funds futures market, there isn’t even a 50% probability of a cut priced in before next June.

The interesting thing about the fact that the Fed is clearly on hold for the time being is the coincident fact that the equity markets in the US continue to trade at or near record highs. Given the fact that earnings data has been flattish at best, there seems to be a disconnect between pricing in equity markets and in interest rate markets. While I am not forecasting an equity correction imminently, at some point those two markets need to resolve their differences. Beware.

Yesterday’s CPI data was interesting as core was softer than expected at 2.3% on the back of reduced rent rises, while headline responded to higher oil prices last month and was higher than expected at 1.8%. As to this morning, PPI (exp 0.3%, 0.2% core) and Initial Claims (215K) is all we get, neither of which should move the needle. Meanwhile, Chairman Powell testifies to the House Budget Committee and seven more Fed speakers will be at a microphone as well. But given all we have heard, it beggar’s belief any of them will change from the current tune of everything is good and policy is in the right place.

As to the dollar, it is marginally higher overall this morning, and has been trading that way for the past several sessions but shows no signs of breaking out. Instead, I expect that we will continue to push toward the top end of its recent trading range, and stall lacking impetus for the next leg in its movement. For that, we will need either a breakthrough or breakdown in the trade situation, or a sudden change in the data story. As long as things continue to show decent US economic activity, the dollar seems likely to continue its slow grind higher.

Good luck
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Pledges Bestowed

In China, the pace of growth slowed
Which highlighted how hard the road
Is going to be
For President Xi
To live up to pledges bestowed

With the Brexit situation now up to Boris Johnson’s domestic political machinations, finding the required 326 votes to pass his agreed deal with the EU, the market’s attention has turned elsewhere. It should be no surprise that China is the topic, this time based on the data released last night. While the trajectory of growth in China has been slowing quite consistently for the past ten years, last night’s 6.0% GDP result was weaker than expected and indicates that perhaps, that slowdown is accelerating. Alongside the GDP data, the other three key monthly data points; IP (5.6% YTD), Fixed Asset Investment (5.4% YTD), and Retail Sales (8.2% YTD) showed a mixed bag versus expectations, although generally all point to continuing slower growth. The trend in China is downward. On the one hand, this should not be surprising. After all, the larger the base size of an economy, the harder it is to grow rapidly. On the other hand, despite significant government control over the entire economy, it is becoming clear that the combined fiscal and monetary stimulus measures China is using are, so far, not up to the job of upholding President Xi’s targets.

Regarding the trade talks, this simply adds to pressure on Xi to find a deal. Despite his title as President for Life, there are clearly still many domestic political issues with which he must deal, and failure to bring about promised growth will be quite problematic. As many pundits have already described, the reality is that both sides need a deal given the fact that the eighteen month long trade spat has started to drag down both the US and China in terms of GDP growth. Interestingly, the PBOC fixed the renminbi stronger last night, although both the onshore and offshore yuan are trading weaker by about 0.1% this morning. Overall, though, the trend for the renminbi has been for modest weakening over time. Regardless of promises to manage the currency, the reality remains that China needs their currency to weaken as a relief valve for internal pressures. An interesting aside is that there is some evidence based on the errors and omissions portion of the Chinese accounts, that capital continues to flow out of China pretty aggressively, despite the capital controls imposed in the summer of 2015. Eventually, if that is true, USDCNY is going to go higher. I continue to look for an eventual move toward 7.40, but it may take longer than the end of this year as I previously thought.

However, beyond the Chinese data story, FX has been a pretty uneventful place to be overnight. G10 currencies are generally slightly firmer vs. the dollar, but we are only looking at the biggest mover, SEK, having rallied 0.3% this morning after a more substantive 1.3% rally yesterday. It seems that despite higher than expected unemployment data, there is concern that data may be faulty and the Riksbank may still have room to raise interest rates at their next meeting, or by the end of the year at the very least. But away from that story, there is nothing of real note in the G10 space.

And in truth, that is pretty much the situation in the EMG space as well. TRY is the leading gainer, higher by 0.85% after the cease-fire on the Syrian border went into effect. Elsewhere, both ZAR and KRW are firmer by 0.5% with the won benefitting from comments by Treasury Secretary Mnuchin that he may request an auto tariff exemption for South Korea. Meanwhile, the rand is the beneficiary of profit-taking after recent weakness in the currency, as traders and investors await the latest information on the Eskom situation in a government briefing later today.

For the rest of the day, while we wait to hear any tidbits from the UK, there is only one data point, Leading Indicators (exp 0.0%), and then we hear from three more Fed speakers, the uber-hawk, Esther George, as well as Richard Clarida and Robert Kaplan. So far this week we have heard the consistent message that the FOMC is watching the data closely but has not yet made up their mind if another cut is necessary right away.

In truth, it is shaping up to be an uneventful day to finish the week. The dollar is a bit soft, equity futures are little changed, as are equity markets throughout Europe, and Treasury yields are within 1bp of yesterday’s levels. Unless there is a tape bomb, it is hard to see a reason for a big more from current levels.

Good luck and good weekend
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Lost Their Zeal

While yesterday Brexit seemed real
As both sides looked close to a deal
This morning we hear
A deal’s not so near
As Ireland’s North lost their zeal

Meanwhile from the Far East, the news
Is that China just might refuse
To buy pork and grain
Unless we refrain
From publicly airing our views

While the same two stories remain atop the leaderboard, the score has clearly changed. This morning, much of yesterday’s Brexit optimism has dissipated as the DUP, Boris Johnson’s key Northern Irish ally in Parliament, explained they could not support the deal that Johnson has been furiously negotiating over the past few days. Remember, DUP stands for Democratic Unionist Party, and the Union of which they speak is that of Northern Ireland and the rest of the UK. As such, they cannot countenance the idea of a soft border in the Irish Sea between Northern Ireland and the rest of the UK. They want to be treated exactly the same. At the same time, they don’t want a hard border between themselves and the Republic of Ireland, so it seems that they are the ones that need to make up their collective mind. As time is very clearly running out, the conversation has reached a very delicate phase. Remember, the Benn Act requires PM Johnson to request an extension by this Saturday if there is no deal agreed, and of course, Boris has said he “would rather be dead in a ditch” than request such an extension.

From what I have read, it appears that the soft border would be time limited, and so in the end, I think the pressure on the DUP will be too great to bear and they will cave in. After all, they also don’t want to be the ones responsible for the failure of reaching a deal. The pound, after having traded as high as 1.2800 yesterday, has been extremely volatile this morning, trading in a more than 1.0% range and having touched both the highs at 1.2790 and the lows near 1.2660 twice each. As I write, the pound is lower by 0.3% on the day, but at this point, it is entirely headline driven. The one thing that is clear is that many of the short positions that had been built up over the past year have been reduced or eliminated completely.

Turning to China, the story is about Beijing’s anger over two bills passed by the House of Representatives in support of the pro-democracy protests in Hong Kong. The Chinese are adamant that anything that happens in Hong Kong is a domestic affair and that everybody else, especially the US, should keep their noses out of the discussion. In fairness, it is a Chinese territory legally, unlike the situation in Taiwan where they claim ‘ownership’ with less of a legal claim. Nonetheless, they are quite serious and are threatening retaliation if any law addressing Hong Kong is passed by the US. Now a bill passing the House is a far cry from enacting a law, but this does seem to be something where there is bipartisan support. Remember, too, that the standoff with China is one of the few things where the Democrats and President Trump see eye to eye.

At the same time, somewhat behind the scenes, the PBOC injected CNY 200 billion into its money markets last night, surprising everyone, as a measure of further policy ease. Thursday night the Chinese will release their Q2 GDP data and while the median forecast is for a 6.1% annualized outcome, there are a number of forecasts with a 5 handle. That would be the slowest GDP growth since at least 1992 when records started to be kept there. At any rate, the cash injection helped weaken the renminbi with CNY falling 0.3% in the overnight session. One thing to remember here is that part of the ostensible trade deal is the currency pact, but if that deal falls apart because of the Hong Kong issue, it opens the door for CNY to weaken a bit more.

It ought not be surprising that the change in tone on those two stories has dampened overall market enthusiasm and this morning can clearly be described as a risk-off session. In the G10, the dollar is stronger against everything except the yen and Swiss franc (both higher by 0.1%). In fact, both NOK (-0.9%) and NZD (-0.7%) lead the way lower with the former responding to oil’s ongoing weakness as well as the potential negative impact of a hard Brexit. Meanwhile, the kiwi has suffered after the RBNZ reiterated that lower rates were likely still in store despite CPI printing a tick higher than expected last night at 1.5%.

In the EMG space, things have been less dramatic with ZAR today’s weakest component, falling 0.5% after news that the troubled utility, Eskom, will be forced to create rolling blackouts, further highlighting its tenuous financial position and putting more pressure on the government to do something (read spend money they don’t have) to fix things. Without a solution to this issue, which has been hanging over the economy for several years, look for the rand to continue its broad move lower. While at 14.97, it is well off the lows seen in August, the trend remains for the rand to continue falling. Otherwise, this space has been far less interesting with KRW dipping just 0.25% overnight after the BOK cut rates by 25bps. The thing is, comments from BOK members indicated a reluctance to cut rates much further, thus limiting the downward movement.

This morning brings us Retail Sales (exp 0.3%; -ex autos 0.2%) and Business Inventories (0.2%). Then, at 2:00 the Fed’s Beige Book is released with analysts set to look for clues about economic activity to drive the Fed’s next activity. We also hear from three Fed speakers, Evans, Kaplan and Brainard, who all lean to the dovish side of the spectrum. With European equities under pressure and US futures pointing lower, it seems that risk will remain out of favor, unless there is a change of heart in the UK. But for now, think risk-off as a guide to today’s activity.

Good luck
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Calm’s Been Restored

Remarkably, though oil soared
Responding to Yemen, who roared
Most markets of note
Have taken a vote
And seen to it calm’s been restored

Of course the big news over the weekend was the attack on Saudi oil production by a number of unmanned drones on Saturday. It was quite successful, at least in terms of the attackers (Yemen’s Houthi rebels claimed responsibility) seeming goals, as it shut down half of Saudi production for an unspecified period. That means that 5% of the world’s oil production is off-line, although between reserves stored around the globe and the ability of US producers to ramp up production, the impact seems to be less substantial on world markets. Naturally oil prices are higher, with WTI currently +8.25%, although that is well off the initial highs which showed a 15% jump. And Treasury prices are higher as well, with the 10-year higher by half a point and yields falling 6.5bps. Gold is up 1.0%, and equity markets are softer, but not that much with only Italy’s market down even 1.0% and the rest of Europe lower by somewhere on the order of 0.6%. APAC stocks were also modestly softer, and US futures are pointing to a softer opening, but none of this speaks to any panic.

Finally, the dollar can only be described as mixed, at least at this point in the session. Granted, APAC currencies were mostly softer, led by INR’s 0.85% decline, which is directly attributed to the jump in oil prices (India imports virtually all their oil.) But that is actually the largest move on the day. Remember, in the wake of the ECB meeting last week, the euro rallied more than 1.0%! The point is, the FX market is not hugely concerned about this situation and seems unlikely to become so unless there are more attacks and the supply situation changes far more dramatically and permanently.

The only conclusion I can draw from this price action is that the market is still entirely focused on central bank activity with this week the culmination of a series of meetings. By Thursday, we will have heard from the Fed, the BOJ, the BOE, Bank Indonesia and the Norgesbank regarding any new policy actions. Expectations are as follows:

Wednesday FOMC Cut 0.25%
Thursday BOJ No rate change
  Bank Indonesia Cut 0.25%
  Norgesbank No rate change
  BOE No rate change

But in reality, the only one that matters is the Fed, which is driving the entire global conversation. If you recall, it was only a few weeks ago when expectations were rampant that they would cut 50bps. Treasury yields had fallen to 1.45% and there was a growing belief that recession was on its way. But then the US employment data was decent, Retail Sales were strong and CPI came in higher than expected for the third consecutive month. It became much harder with that economic backdrop for the doves to be squawking about adding stimulus aggressively. And remember, in July, there were already two dissensions, so the concept of unanimity has long been missing. At this point, the question is more about Chairman Powell’s press conference and whether or not he puts forth a dovish message. (Arguably, anything that is not outright dovish will be seen as hawkish by the market.)

While the Fed and ECB are clearly in different places, it is also important to remember that as much as the market is focused on the Fed, the same was true of the ECB right up until last week, when it became clear the ECB had run out of ammunition. It is every central banker’s greatest fear to find themselves with no ability to impact the market and push it in the direction they choose. My sense is that day is coming soon for many major central banks. Other than the ECB, it has not yet arrived, but trust me; it is coming sooner than you might think.

With all that in mind, the narrative has quickly moved beyond oil and is now back to discussing the FOMC meeting. Other than that, we have a bit of data, and after the meeting a number of Fed speakers.

Today Empire Manufacturing 4.0
Tuesday IP 0.2%
  Capacity Utilization 77.6%
Wednesday Housing Starts 1250K
  Building Permits 1300K
  FOMC Rate Decision 2.00% (-0.25%)
Thursday Initial Claims 213K
  Philly Fed 10.0
  Leading Indicators 0.1%
  Existing Home Sales 5.37M

So all in all, not too exciting. I would be remiss if I didn’t highlight that Chinese data overnight was uniformly awful, with the big three indicators; Retail Sales (7.5%), IP (4.4%), and Fixed Asset Investment (5.5%) all falling short of estimates and all reaching levels not seen since records began to be kept. And this was data from August, before the latest round of tariffs kicked in. Growth in China is slowing rapidly and the PBOC has not been able to adjust policy sufficiently to offset it. The renminbi weakened a bit, but in line with today’s general lack of movement, the 0.25% decline is hardly significant.

And that’s really all there is. The modest risk-off scenario seems likely to remain in place, but it is hard to see a significant extension of the overnight moves absent another catalyst. And right now, there is none on the horizon. Look for a dull day, with limited movement from the opening levels.

Good luck
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Another False Dawn

Will Mario cut rates again?
And if so, by twenty or ten
Plus when will he start
To fill up his cart
With more bonds to piss off Wiedmann

Today is all about the ECB which will release its policy statement at 7:45 this morning. Then at 8:30, Signor Draghi will hold his press conference where reporters will attempt to dig deeper. At this stage, markets have priced in a 0.10% cut in the base rate, to -0.50%, with a 32% chance of a 0.20% cut. Just last week markets had priced in a 50% chance of that larger cut, so clearly the commentary from the hawks had an impact. At the same time, 80% of analysts surveyed are expecting a restart to QE with estimates of €30B – €35B per month as the jumping off point. This remains the case despite the vocal opposition by German, Dutch and French central bankers. Clearly, Draghi will have a lot of convincing to do in order to get his way. As I mentioned yesterday, bond prices have retreated driving yields higher which in the case of Bunds and other European paper implies a somewhat lower expectation of more QE.

It is also important to see what type of forward guidance we get as this has become one of the most powerful tools in central bank toolkits. Promises of a continuation in this policy until a specific inflation target is met would be quite powerful. Similarly, any indication that the ECB’s self-imposed limits on QE are under review would also be seen as quite bond bullish with both of these messages sure to undermine the euro. And perhaps that is the interim goal, weakening the euro such that the Eurozone can import a little inflation. Of course with Chinese prices declining and the huge trade uncertainty restricting business investment thus keeping a lid on growth, even a weak euro doesn’t seem that likely to drive inflation higher. At least not the time being. But central bankers remain convinced that they must do something, even if they know it will be ineffective. Finally, you can be sure there will be further pleas for fiscal stimulus to help address the current economic malaise. (Of course, Brussels will still seek to prevent the Italians from adding stimulus, of that you can be sure.)

The US-Chinese rapprochement
Has bolstered the Chinese yuan
Thus equities rose
Although I suppose
This could be another false dawn

It wouldn’t be a complete day without some new trade story and today’s is clearly on the positive side. President Trump delayed the imposition of the additional 5% tariffs on Chinese goods by two weeks, so they will now not go into effect until October 15. This gesture of good will is allegedly to allow the Chinese to celebrate their founding day without new clouds. The Chinese were appreciative and indicated they were now looking at imports of agricultural items, something they have purposely shunned in an attempt to pressure President Trump politically. Of course, given the swine fever that has decimated more than half the Chinese hog population, it seems likely that they are pretty keen to import US pork. At any rate, look for the next round of trade talks to occur during the first half of October while the détente is ongoing. The market response was immediately positive with the Nikkei and Shanghai indices both closing higher by 0.75%, although Eurozone equity markets are little changed, clearly waiting the ECB decision. Perhaps even more impressively, the renminbi has rallied 0.4% to its strongest level since August 23 and closing the gap on the charts that opened up when China last raised tariffs on US goods. At this point, market technicians may get involved as there is an island top in place on the charts. Don’t be surprised if USDCNY falls back to at least 7.00 before this move is over, and perhaps below if the trade situation seems to be easing.

Finally, the last of our big 3 stories, Brexit, has seen more political machinations and an uproar in the UK as the government was forced to release its planning document for a no-deal Brexit. Despite the fact that there were several potential scenarios, all the focus was on the worst-case which described massive potential shortages of food, fuel and medicine along with potential rioting. I have not seen the probability estimates for that scenario, and I’m pretty sure that no news source that favors Remain (all of them?) will publish one. However, despite the uproar in the papers, the pound is unchanged on the day. Remember, parliament is not in session, nor will it be until October 14. It will be fascinating to watch how this plays out. As to the pound, it remains a binary play; hard Brexit leads to 1.10 or below; any deal agreed leads to 1.30-1.35. Place your bets!

This morning we see the most important data of the week, CPI (exp 1.8%, 2.3% ex food & energy) as well as the weekly Initial Claims number (215K). If we see the recent trend continue, where CPI edges higher (was as low as 1.5% in February), that could well give pause to the FOMC. After all, cutting rates when inflation is rising and growth is stable at trend is much tougher to justify. That said, if the FOMC doesn’t cut I would expect a market bloodbath and a cacophony from the White House that would be unbearable, especially if Mario somehow manages to be extremely dovish.

Finally, a short time ago the Central Bank of Turkey cut rates more than expected to 16.5%, with new Central Bank head, Murat Cetinkaya, clearly accepting President Erdogan’s view that high rates cause inflation. At any rate, the lira has been the best performer of the day, rallying 1.1% as I type. Broadly, the dollar is softer ahead of the ECB, but that is simply position squaring before the decision. All the action will come after that.

Good luck
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Much Dissension

The market has turned its attention
To Draghi to see if he’ll mention
More buying of bonds
Or if he responds
To those who expect much dissension

While there were fireworks galore yesterday in London, where the UK Parliament had their last meeting before prorogation, this morning sees a much calmer market attitude overall. In brief, Boris did not fare well yesterday as he was unable to achieve his goal of a snap election while Parliament passed a law requiring him to ask for an extension on Brexit if there is no deal at the deadline. (I wonder what will happen if he simply chooses not to do so as that seems entirely feasible given the situation there). The market has absorbed the past several days’ activities with increasing amazement, but ultimately, FX traders have started to price out the probability of a hard Brexit. This is clear from the pound’s nearly 3.0% rally in the past week. While much will certainly take place during the next five weeks of prorogation, notably the party conferences, it would seem the only true surprise can be that a deal has been agreed, at which point the pound will be much higher. I don’t foresee that outcome, but it cannot be ruled out.

With Brexit on the back burner, the market is moving on to the trio of central bank meetings over the next nine days. This Thursday we hear from Signor Draghi while next week brings Chairman Powell on Wednesday and then Governor Carney on Thursday. What makes the ECB meeting so interesting is the amount of pushback that Draghi and his fellow doves have received lately from the northern European hawks. While it is never a surprise that the Germans or Austrians remain monetary hawks, it is much more surprising that Franҫois Villeroy de Galhau, the French ECB member and Governor of the Bank of France, has also been vocal in his rejection of the need for further QE at this time. The issue breaks down to whether the ECB should use its very limited arsenal early in an effort to prevent a broader economic downturn, or whether they should wait until they see the whites of recession’s eyes before acting. The tacit admission from this argument is that there is only a very limited amount of ammunition left for the ECB, despite Draghi’s continuous comments that they have many things they can do if necessary.

Unlike the FOMC or most other central banks, the ECB tries not to actually vote on policy, but rather come to a consensus. However, in this case, it may come to a vote, which would likely be unprecedented in and of itself. It would also highlight just how great the split between views remains, and implies that Madame Lagarde, when she takes the reins on November 1st, will have quite a lot of work ahead if she wants to continue along the dovish path.

In the doves’ favor is this morning’s data releases which showed French IP rebounding less than expected from last month’s disastrous reading (0.3%, -0.2% Y/Y) and Italian IP falling more sharply than expected (-0.7%). Meanwhile, after better than expected GDP data yesterday, the UK employment situation also showed a solid outcome with the Unemployment Rate falling back to 3.8% while earnings rose 4.0%, their highest rate since 2008.

And what did this do for currencies? Well, in that respect neither of these data points had much impact. The euro is lower by a scant 0.1% while the pound is essentially unchanged on the day. In fact, that is a pretty good description of the day overall, with the bulk of the G10 trading +/-0.20% from yesterday’s closing levels although the Skandies have seen more substantial weakness (SEK -0.8%, NOK -0.6%). In both cases, CPI was released at softer than expected levels (SEK 1.4%, 1.6% core; NOK 1.6%, 2.1% core) for August, which puts a crimp in the both central banks’ goal to push interest rates higher by the end of the year.

Turning to emerging markets, the largest movers have been ZAR which gained 0.5% after Factory Output fell a less than expected 1.1% and hope springs eternal for further stimulus driving bond investment. In second place was the renminbi, which has gained 0.25% overnight after the government there, in the guise of SAFE, removed barriers for investment in stocks and bonds. Clearly China has been trying to increase the importance of the renminbi within global financial markets, and allowing freer capital flow is one way to address that concern. However, this process has been ongoing for more than 20 years which begs the question, why now? It is quite reasonable to estimate that the continued pressure being applied by the US via the tariffs and trade war are forcing China to change many things that they would have preferred to keep under their own control. And while it is certainly possible they would have done this anyway, history suggests that the Chinese do not willingly reduce their control over any aspect of the economy. Just a thought. At any rate, initially this freedom is likely to see an inflow of assets as most investors and fund managers are underweight Chinese assets. The newfound ability to move funds in and out is likely to see an inflow to start, with corresponding CNY strength.

Beyond those stories though, it has been pretty dull. Treasury yields are lower by just 1bp, hardly the stuff of a risk assessment, while equity markets are slightly softer after a mixed, but basically flat, day yesterday. At this point, the market is looking toward Signor Draghi, who given futures markets are pricing a 100% chance of a 10bp cut and a 50% chance of a 20bp cut, along with a strong probability of the restarting of QE, has the chance to significantly disappoint. If that is the case, look for the euro to rally quickly, although a move of more than 1.0%-1.5% seems unlikely.

As for today, the NFIB Small Business Optimism Index was released at a bit worse than expected 103.1, perhaps indicating the peak is behind us (certainly my view) and at 10:00 we see the JOLTS Job Opening report (exp 7.331M). But it is really shaping up to be a quiet one with everyone thinking about the ECB until Thursday morning.

Good luck
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Not Making Hay

In China, despite what they say
The ‘conomy’s not making hay
Their exports are lagging
With industry gagging
On stuff manufactured each day

The upshot’s the PBOC
Released billions of renminbi
Reserve rates are shrinking
And everyone’s thinking
They’ll shrink further ere ought twenty

Long before trading started last evening, Chinese trade data set the tone for the markets as exports there shrank by 1.0% in USD terms, a clear indication that the trade war is starting to bite. Imports fell further (5.6%), but overall, the trade surplus was significantly smaller than expected. In the current market environment, it cannot be a surprise that the response was for a rally in Asian equity markets as the weak data presages further policy ease by the Chinese. In fact, there are numerous articles discussing just what options they have. Friday afternoon they cut the reserve ratio by a full percentage point, and analysts all over are expecting at least one more cut before the end of the year. As to direct interest rate cuts, that is far less clear given the still problematic bubble tendencies in the Chinese real estate market. The PBOC is quite concerned over allowing that bubble to blow up further, so any reductions in the benchmark rate are likely to be modest…at least until the renminbi starts to strengthen again.

Speaking of the currency, while it has remained quite stable overall, -0.2% this morning, +0.65% in the past week, it remains one of the easiest tools for the PBOC to utilize. The government there has also sought to stimulate via fiscal policy, with significant tax cuts proposed and some implemented, but thus far, those have not been effective in supporting economic growth. While I am confident that when the next GDP number prints in mid-October it will be above 6.0%, there are an increasing number of independent reports showing that growth there is much slower than that, with some estimates more in line with the US at 3.0%. At any rate, equity markets continue to believe that a trade deal will happen sooner rather than later, and as long as talks continue, look for a more positive risk attitude across markets.

The other big news this morning is from the UK, where British PM Boris Johnson met with his Irish counterpart, Taoiseach Leo Varadkar, to discuss how to overcome the Irish backstop conundrum. It is interesting to see the two attitudes; Boris quite positive, Leo just the opposite, but in the end, nothing was agreed. In this instance, Ireland is at far more risk than the UK as its much smaller economy is far more dependent on free access to the UK than vice versa. But thus far, Varadkar is holding his ground. Another Tory cabinet member, Amber Rudd, quit Saturday night, but Boris is unmoved. There was an interesting article over the weekend describing a possible way for Boris to get his election; he can call for a no-confidence vote in his government, arguably losing, and paving the way for the election before the Brexit deadline. Certainly it seems this would put parliament in an untenable position, support him to prevent the election, but that would imply they support his program, or defeat him and have the election he wants.

Of course, while all this is ongoing, the currency market is looking at the pound and trying to decide the ultimate outcome. For the past two weeks, it is clear that a belief is growing there will be no Brexit at all as the pound continues to rally. This morning it is higher by 0.6% and back to its highest level in over a month. Part of that, no doubt, was the UK GDP data, which surprised one and all by showing a 0.3% gain in July, which virtually insures there will be no technical recession yet. But the pound is a solid 3.5% from its lows seen earlier this month. I continue to believe that the EU will blink and a deal will be cobbled together with the pound rebounding much further.

Elsewhere, the dollar is softer in most cases. The continuation of last week’s risk rally has reduced the desire to hold dollars and we continue to see yields edge higher as well. Beyond the pound’s rally, which is the largest in the G10 space, AUD and NZD have pushed back up by about 0.3% on the China stimulus story, but the rest of G10 is quite dull. In the EMG bloc, ZAR is today’s big winner, +0.8%, as hopes for more global stimulus increase the relative attractiveness of high yielding ZAR denominated bonds. But otherwise, here too, things are uninteresting.

Looking to the data this week, it is an Inflation and Retail Sales week with no Fed speak as they are now in their quiet period ahead of next week’s meeting.

Today Consumer Credit $16.0B
Tuesday NFIB Small Biz Optimism 103.5
  JOLT’s Job Openings 7.311M
Wednesday PPI 0.0% (1.7% Y/Y)
  -ex food & energy 0.2% (2.2% Y/Y)
Thursday Initial claims 215K
  CPI 0.1% (1.8% Y/Y)
  -ex food & energy 0.2% (2.3% Y/Y)
Friday Retail Sales 0.2%
  -ex autos 0.1%
  Michigan Sentiment 90.5

Aside from this, we hear from both the ECB and BOJ this Thursday with expectations for a rate cut and potentially more QE by Signor Draghi, while there are some thoughts that Kuroda-san will be cutting rates in Japan as well. Ultimately, nothing has changed the broad sweep of central bank policy ease. As long as everybody is easing, the relative impact of monetary policy on the currency market will be diminished. And that means that funds will continue to flow to the best performing economies with the best prospects. Despite everything ongoing, the US remains the choice, and the dollar should remain supported overall.

Good luck
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