Tag Archives: #china

Pundits Maligned

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Phase one of the trade deal’s been signed
And though many pundits maligned
The outcome, it’s clear
That in the, term, near
Its impact on trading’s been kind

Amid a great deal of hoopla yesterday morning, President Trump signed the long-awaited phase one trade deal with China. The upshot is that the US has promised to roll back the tariffs imposed last September by 50%, as well as delay the mooted December tariffs indefinitely while the Chinese have promised to purchase upwards of $95 billion in US agricultural products over the next two years as well as agreeing to crack down on IP theft. In addition, the Chinese have committed to preventing excess weakness in the renminbi, and in fact CNY has been strengthening steadily for the past month as the negotiations came to an end. For example, this morning CNY is firmer by 0.15% and since mid-December it has rallied nearly 2.0%. Clearly there are larger trade issues outstanding between the two nations, notably forced technology transfer as well as numerous non-tariff barriers, but something is better than nothing.

Taking a step back, though, the bilateral nature of the deal is what has many pundits and economists unhappy. Certainly the economic theories I was taught, and that have been prevalent since David Ricardo first developed the theory of comparative advantage in 1817, indicate that multilateral trade is a better outcome for all concerned. Alas, the current political backdrop, where populism has exploded in response to the unequal outcomes from the globalization phenomenon of the past sixty years, has tarred multilateralism with a very bad reputation. And while it is far outside the purview of this commentary to dissect the issues, it is important to understand they exist and how they may impact markets. Given that the relative value of a nation’s currency is an important driver of trade outcomes, we cannot ignore it completely. Ultimately, as things currently stand, the market has seen this deal as a positive outcome, and risk appetite remains strong. As such, haven assets like the yen, dollar and Swiss franc are likely to remain on the back foot for the time being.

Beside the trade story, there has been scant new information on which to base trading decisions. Important data remains limited with the only notable print being German CPI at 1.5%, exactly as expected, although EU Car registrations bucked the trend and rose sharply, 21.7%, perhaps indicating we have seen a bottom on the Continent. But in reality, the market is now looking for the next big thing, and quite frankly, nobody really knows what that is. After all, the Fed has promised it is on hold, as are the ECB and BOJ, at least for the time being. Perhaps it is the BOE’s meeting in two weeks’ time, where the market continues to price in a growing probability of a rate cut. Of course, if the market is pricing it in, it is not likely to be that big a surprise, is it?

So in an uninspiring market, let’s look at what is coming up in today’s session. On the data front we see Initial Claims (exp 218K) and then Retail Sales (0.3%, 0.5% ex autos) as well as Philly Fed (3.8). Arguably, of just as much importance for the global economic outlook is tonight’s Chinese data where we will see; GDP (6.0%), Fixed Asset Investment (5.2%), Retail Sales (7.9%) and IP (5.9%). Remember, 6.0% growth has been President Xi’s target, and given the recent trajectory lower, any weaker than expected data is likely to be a risk-off sign, although it is likely to see a PBOC response in short order as well. Meanwhile, the US consumer continues to play its supporting role in the global economy, so any downside in this morning’s data is also likely to be a stock market negative.

On the speaker front, there are no Fed speakers today, although Philly’s Patrick Harker will regale us tomorrow. Later this afternoon ECB President Lagarde will be on the tape, and given she is still learning how much impact her words have on markets, there is always a chance of some unintentional excitement. Finally, yesterday, for the first time, we heard a Fed speaker explain that even though not-QE is not QE, the market may still consider it to be QE and the resulting rise in the price of risk assets may well be excessive. Dallas Fed President Kaplan is the first Fed member to publically admit that they may need to address this issue going forward. Certainly, the fact that the short-term repo program continues to be extended, and is now expected to run through April, rather than the original February completion, is an indication that the Fed still does not have control over the money markets. It is this last point which holds the potential to drive more significant market moves in the event of a communication or policy error. Just not today.

The dollar is mildly softer overall this morning, while we are seeing a very modest bias higher in equity markets around the world. Treasury yields are unchanged, just below 1.78%, and the previous narratives regarding recession probabilities and curve inversions as well as ongoing QE activities have just faded into the background. It all adds up to what is likely to be another quiet day in the FX markets, with no compelling story to drive movement.

Good luck
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A Dangerous Game

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In ‘Nineteen the story was trade
As Presidents Trump and Xi played
A dangerous game
While seeking to blame
The other for why growth decayed

But ‘Twenty has seen both adjust
Their attitudes and learn to trust
That working together,
Like birds of a feather,
Results in an outcome, robust

In a very quiet market, the bulk of the discussion overnight has been about the upcoming signing ceremony in the East Room of the White House tomorrow, where the US and China will agree the phase one piece of a trade deal. Despite the fact that this has been widely expected for a while, it seems to be having a further positive impact on risk assets. Today’s wrinkle in the saga has been the US’ removal of China from the Treasury list of currency manipulators. Back in August, in a bit of a surprise, the US added China to that list formally, rather than merely indicating the Chinese were on notice, as President Trump sought to apply maximum pressure during the trade negotiations. Now that the deal is set to be signed, apparently the Chinese have made “enforceable commitments” not to devalue the yuan going forward, which satisfied the President and led to the change in status. The upshot is that the ongoing positive risk framework remains in place thus supporting equity markets while undermining haven assets. In other words, just another day where the politicians seek to anesthetize market behavior, and have been successful doing so.

Chinese trade data released last night was quite interesting on two fronts; first that the Chinese trade surplus with the US shrank 11%, exactly what the President was seeking, and second, that the Chinese found many substitute markets in which to sell their wares as their overall trade surplus rose to $425 billion from 2018’s $351 billion. And another positive for the global growth watch was that both exports (+7.6%) and imports (+17.7%) grew nicely, implying that economic growth in the Middle Kingdom seems to be stabilizing. As to the yuan, it has been on a tear lately, rising 1.4% this year and nearly 4.5% since early September right after the US labeled China a currency manipulator. So, here too, President Trump seems to have gotten his way with the Chinese currency having regained almost all its losses since the November 2016 election. Quite frankly, it seems likely that the yuan has further to climb as prospects for Chinese growth brightened modestly and investors continue to hunt for yield and growth opportunities.

But away from the trade story there is precious little else to discuss. The pound remains under pressure (and under 1.30) as the idea of a BOE rate cut at the end of the month gains credence. Currently the market is pricing in a 47% probability of a rate cut, which is up from 23% on Friday. After yesterday’s weak GDP data, all eyes are focused on tomorrow’s UK CPI data as well as Friday’s Retail Sales where any weakness in either one is likely to see the market push those probabilities up even further.

As haven assets are shed, the Japanese yen has finally breached the 110 level for the first time since May and quite frankly there doesn’t appear to be any reason for the yen to stop declining, albeit slowly. Barring some type of major risk-off event, which is always possible, the near term portents are for further weakness. However, as the year progresses, ongoing Fed QE should serve to reverse this movement.

Even the Emerging markets have been dull overnight, with no currency moving more than 0.3%, which in some cases is nearly the bid-ask spread. For now, most market participants have become quite comfortable that no disasters are looming and that, with the US-China trade deal about to be completed, there is less likelihood of any near-term angst on that front. While a phase two deal has been mooted, given the issues that the US has indicated are important (forced technology transfer, state subsidies), and the fact that they are essentially non-starters in China, it seems highly improbable that there will be any progress on that issue this year.

On the data front, this morning brings the first US data of the week, where NFIB Small Business Optimism actually disappointed at 102.7 and the market is now awaiting December CPI data (exp 2.4%, 2.3% ex food & energy) at 8:30. The headline forecast represents a pretty big uptick from November, but that is directly related to oil’s price rally last month. The core, however, remains unchanged and well above the 2.0% Fed target. Of course that target is based on PCE, something that is designed to print lower, and there has been abundant evidence that the Fed’s idea of the target is to miss it convincingly on the high side. In other words, don’t look for the Fed to even consider a tighter policy stance unless CPI has a 3 handle.

And that’s really it for the session. Equity futures are pointing slightly higher as European equity indices are edging in that direction as well. Treasury yields are hovering just above 1.80%, little changed on the day and showing no directional bias for the past several weeks. If anything, the dollar is slightly higher this morning, but I would be surprised if this move extends much further at all.

Good luck
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Wind At His Sails

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In England and Scotland and Wales
Young Boris has wind at his sails
A thumping great win
To Labour’s chagrin
Has put Brexit back on the rails

As well, from the US, the news
Is bears need start singing the blues
The trade deal is done
At least for phase one
Thus more risk, investors did choose

An historic victory for PM Boris Johnson yesterday has heralded a new beginning for the UK. Historic in the sense that it is the largest majority in Parliament for either party since Margret Thatcher’s second term, and historic in the sense that the Labour party won the fewest seats since 1935. One can only conclude that Jeremy Corbyn’s vision of renationalization of industry and high taxes was not the direction in which the UK wants to head. Perhaps the only concern is the Scottish National Party winning 49 of the 58 seats available and will now be itching to rerun the Scottish independence referendum. But that is an issue for another day, and today is all about a huge relief rally in equities as the threat of a hard Brexit essentially disappears, while the pound has also benefitted tremendously, rising 1.7% from yesterday’s closing level and having traded almost a full percent higher than that in the early aftermath of the results. So here we are this morning at 1.3390, right at my forecast for the initial move in the event of a Johnson victory. The question of course, is where do we go from here?

Before I answer, I must also mention the other risk positive story, about which I’m sure you are already aware, the news that President Trump has signed off on terms of a phase one trade deal with China. The details thus far released indicate China has promised to buy $50 billion of agricultural products from the US, and will be more vigilant in protection of IP rights, while the US is set to reduce the tariff rates already imposed and delay, indefinitely, the tariffs that were due to come into effect this Sunday. Not surprisingly, equity markets around the world rallied sharply on this news as well while haven investments like Treasuries, Bunds and the yen (and the dollar) have all fallen.

So everyone is feeling good this morning and with good reason, as two of the major political uncertainties that have been hanging over the market have been resolved. With this in mind, we can now try to answer the question of what’s next in the FX markets.

History has shown that while macroeconomic factors have some impact on the relative value of currencies, that impact is driven by the corresponding interest rates in each nation. So a nation that has strong economic growth and relatively tighter monetary policy is likely to see a strong currency while the opposite is also true. Now this correlation is hardly perfect, and financial theory cannot be completely ignored regarding a country’s fiscal balances (current account, trade and budget), where deficits tend to lead to a weaker currency, at least in theory, and surpluses the opposite. Obviously, one need only look at the dollar these days to recognize that despite the US’s significant negative fiscal position, the dollar remains relatively quite strong.

But ever since the financial crisis, there has been another part of monetary policy that has had a significant impact on the FX market, namely QE. As I’ve written before, when the US was implementing QE’s 1, 2 and 3, the dollar fell markedly each time, by 22%, 25% and 17% over a period of 9 months, 11 months and 22 months respectively. Clearly that pattern demonstrates the law of diminishing returns, where a particular action has a weaker and weaker effect the more frequently it is used. Of course, in each of these cases, the Fed funds rate was at 0.00%, so QE was the only tool in the toolbox. This brings us to the current situation; positive interest rates but the beginning of QE4. I know that none of us think 1.5% is a robust return on our savings, but remember, US interest rates are the highest in the G10, by a lot. In addition, the economy seems to be doing pretty well with GDP ticking over above 2.0%, Unemployment at 50 year lows and wage gains solidly at 3.0% or higher. Equity markets in the US make new highs on a regular basis and measured inflation is running right around 2.0%. And yet…the Fed is clearly looking at QE despite all their protestations. Buying $60 billion per month of T-bills with the newly stated option of extending those purchases to coupons is clearly expanding the balance sheet and driving risk accumulation further. And that is QE!

So with the knowledge that the Fed is engaged in QE4, and the history that shows the dollar has fallen pretty significantly during each previous QE policy, my view is that we are about to embark on a reasonable weakening of the US dollar for the next year or so. Now, clearly the initial conditions this time are different, with positive growth and interest rates, but while that will likely limit the dollar’s decline to some extent, it won’t prevent it. If pressed, I would say that we are likely to see the dollar fall by 10% or so over the next 12-18 months. And that is regardless of the outcome of the US elections next year. In the event that we were to see a President Warren or President Sanders, I think the dollar would suffer far more aggressively, but right now, removing the effect of the election still points to a slow decline in the buck. So for receivables hedgers, it is likely to be a situation where patience is a virtue.

Turning to the data story, last night we saw the Japanese Tankan report fall to 0, below expectations of 3 and down from its previous reading of 5. But the yen’s 0.35% decline overnight has more to do with risk appetite than that particular number. However, I’m sure PM Abe and BOJ Governor Kuroda are not thrilled with the implications for the economy. Otherwise, there has been precious little else of note released leaving us to ponder this morning’s Retail Sales data (exp 0.5%, 0.4% ex Autos) and wait to hear pearls of wisdom from NY Fed President Williams at 11:00. Of course, given the fact the Fed just finished meeting and there appears very little uncertainty over their immediate future course, my guess is the only thing he can try to defend is ‘not QE’ and how they are on top of the repo situation. But today is a risk on day, so while we may not extend these movements much further, I feel we are likely to maintain the gains vs. the dollar across the board.

In a final note, this will be the last poetry until January as I will be on vacation and then will return with my prognostications for 2020 to start things off.

Good luck, good weekend and happy holidays to all
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Hawks Would Then Shriek

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Lagarde and Chair Powell both seek
Consensus, when later this week
Their brethren convene
While doves are still keen
To ease more, though hawks would then shriek

Markets are relatively quiet this morning as investors and traders await three key events as well as some important data. Interestingly, neither the Fed nor ECB meetings this week are likely to produce much in the way of fireworks. Chairman Powell and his minions have done an excellent job convincing market participants that the temporary cyclical adjustment is finished, that rates are appropriate, and that they are watching everything closely and prepared to act if necessary. Certainly Friday’s blowout NFP data did not hurt their case that no further easing is required. By now, I’m sure everyone is aware that we saw the highest headline print since January at 266K, which was supported by upward revisions of 41K to the previous two months’ data. And of course, the Unemployment Rate fell to 3.5%, which is back to a 50-year low. In fact, forecasts are now showing up that are calling for a 3.2% or 3.3% Unemployment Rate next November, which bodes well for the incumbent and would be the lowest Unemployment Rate since 1952!

With that as the economic backdrop in the US, it is hard for the doves on the Fed to make the case that further easing is necessary, but undoubtedly they will try. In the meantime, ECB President Lagarde will preside over her first ECB meeting where there are also no expectations for policy changes. Here, however, the situation is a bit tenser as the dramatic split between the hawks (Germany, the Netherlands and Austria) and the doves (Spain, Portugal and Italy) implies there will be no further action anytime soon. Madame Lagarde has initiated a policy review to try to find a consensus on how they should proceed, although given the very different states of the relevant economies, it is hard to believe they will agree on anything.

Arguably, the major weakness in the entire Eurozone construct is that the lack of an overarching continent-wide fiscal authority means that there is no easy way to transfer funds from those areas with surpluses to those with deficits. In the US, this happens via tax collection and fiscal stimulus agreed through tradeoffs in Congress. But that mechanism doesn’t exist in Europe, so as of now, Germany is simply owed an extraordinary amount of money (~€870 billion) by the rest of Europe, mostly Italy and Spain (€810 billion between them). The thing is, unlike in the US, those funds will need to be repaid at some point, although the prospects of that occurring before the ECB bails everyone out seem remote. Say what you will about the US running an unsustainable current account deficit, at least structurally, the US is not going to split up, whereas in Europe, that is an outcome that cannot be ruled out. In the end, it is structural issues like this that lead to long term bearishness on the single currency.

However, Friday’s euro weakness (it fell 0.45% on the day) was entirely a reaction to the payroll data. This morning’s 0.15% rally is simply a reactionary move as there was no data to help the story. And quite frankly, despite the UK election and pending additional US tariffs on China, this morning is starting as a pretty risk neutral session.

Speaking of the UK, that nation heads to the polls on Thursday, where the Tories continue to poll at a 10 point lead over Labour, and appear set to elect Boris as PM with a working majority in Parliament. If that is the outcome, Brexit on January 31 is a given. As to the pound, it has risen 0.2% this morning, which has essentially regained the ground it lost after the payroll report on Friday. At 1.3165, its highest point since May 2019, the pound feels to me like it has already priced in most of the benefit of ending the Brexit drama. While I don’t doubt there is another penny or two possible, especially if Boris wins a large majority, I maintain the medium term outlook is not nearly as robust. Receivables hedgers should be taking advantage of these levels.

On the downside this morning, Aussie and Kiwi have suffered (each -0.2%) after much weaker than expected Chinese trade data was released over the weekend. Their overall data showed a 1.1% decline in exports, much worse than expected, which was caused by a 23% decline in exports to the US. It is pretty clear that the trade war is having an increasing impact on China, which is clearly why they are willing to overlook the US actions on Hong Kong and the Uighers in order to get the deal done. Not only do they have rampant food inflation caused by the African swine fever epidemic wiping out at least half the Chinese hog herd, but now they are seeing their bread and butter industries suffer as well. The market is growing increasingly confident that a phase one trade deal will be agreed before the onset of more tariffs on Sunday, and I must admit, I agree with that stance.

Not only did Aussie and Kiwi fall, but we also saw weakness in the renminbi (-0.15%), INR (-0.2%) and IDR (-0.2%) as all are feeling the pain from slowing trade growth. On the plus side in the EMG bloc, the Chilean peso continues to stage a rebound from its worst levels, well above 800, seen two weeks ago. This morning it has risen another 0.85%, which takes the gain this month to 4.8%. But other than that story, which is really about ebbing concern after the government responded quickly and positively to the unrest in the country, the rest of the EMG bloc is little changed on the day.

Turning to the data this week, we have the following:

Tuesday NFIB Small Business Optimism 103.0
  Nonfarm Productivity -0.1%
  Unit Labor Costs 3.4%
Wednesday CPI 0.2% (2.0% Y/Y)
  -ex Food & Energy 0.2% (2.3% Y/Y)
  FOMC Rate Decision 1.75%
Thursday ECB Rate Decision -0.5%
  PPI 0.2% (1.2%)
  -ex Food & Energy 0.2% (1.7%)
  Initial Claims 215K
Friday Retail Sales 0.4%
  -ex autos 0.4%

Source: Bloomberg

While there is nothing today, clearly Wednesday and Thursday are going to have opportunities for increased volatility. And the UK election results will start trickling in at the end of the day on Thursday, so if there is an upset brewing, that will be when things are first going to be known.

All this leads me to believe that today is likely to be uneventful as traders prepare for the back half of the week. Remember, liquidity in every market is beginning to suffer simply because we are approaching year-end. This will be more pronounced next week, but will start to take hold now.

Good luck
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A Future Quite Bright

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The data from China last night
Implied that growth might be all right
The PMI rose
And everyone knows
That points to a future quite bright!

Is it just me? Or does there seem to be something of a dichotomy when discussing the situation in China? This morning has a decidedly risk-on tone as equity markets in Asia (Nikkei +1.0%, Hang Seng +0.4%, Shanghai +0.15%) rallied after stronger than expected Chinese PMI data was released Friday night. For the record, the official Manufacturing PMI rose to 50.2, its first print above 50.0 since April, while the non-Manufacturing version rose to 54.4, its highest print since March. Then, this morning the Caixin PMI data, which focuses on smaller companies, also printed a bit firmer than expected at 51.8. These data releases were sufficient to encourage traders and investors to scoop up stocks while they dumped bonds. After all, everything is just ducky now, right?

And yet…there are still two major issues outstanding that have no obvious short-term solution, both of which can easily deteriorate into a much worse situation overall. The first, of course, is the trade fiasco situation, where despite comments from both sides that progress has been made, there is no evidence that progress has been made. At least, there is no timeline for the completion of phase one and lately there has been no discussion of determining a location to sign said deal. Certainly it appears that the current risk profile in markets is highly dependent on a successful conclusion of these talks, at least as evidenced by the fact that every pronouncement of an impending deal results in a stock market rally.

The second issue is the ongoing uprising in Hong Kong. China has begun to use stronger language to condemn the process, and is extremely unhappy with the US for passing the Hong Kong Human Rights and Democracy Act last week. However, based on China’s response, we know two things: first that completing a trade deal is more important than words about Hong Kong. This was made clear when the “harsh” penalties imposed in the wake of the Act’s passage consisted of sanctions on US-based human rights groups that don’t operate in China and the prevention of US warships from docking in Hong Kong. While the latter may seem harsh, that has already been the case for the past several months. In other words, fears that the Chinese would link this law to the trade talks proved unfounded, which highlights the fact that the Chinese really need these talks to get completed.

The second thing we learned is that China remains highly unlikely to do anything more than complain about what is happening in Hong Kong as they recognize a more aggressive stance would result in much bigger international relationship problems. Of course, the ongoing riots in Hong Kong have really begun to damage the economy there. For example, Retail Sales last night printed at -24.3%! Not only was this worse than expected, but it was the lowest in history, essentially twice as large a decline as during the financial crisis. GDP there is forecast to fall by nearly 3.0% this year, and unless this is solved soon, it seems like 2020 isn’t going to get any better. But clearly, none of the troubles matter because, after all, PMI rose to 50.2!
Turning to Europe, PMI data also printed a hair better than expected, but the manufacturing sector remains in dire straits. Germany saw a rise to 44.1 while France printed at 51.7 and the Eurozone Composite at 46.9. All three were slightly higher than the flash data from last week, but all three still point to a manufacturing recession across the continent. And the biggest problem is that the jobs sub-indices were worse than expected. At the same time, Germany finds itself with a little political concern as the ruling coalition’s junior partner, the Social Democrats, just booted out their leadership and replaced it with a much more left wing team who are seeking changes in the coalition agreement. While there has been no call for a snap election, that probability just increased, and based on the most recent polls, there is no obvious government coalition with both the far left and far right continuing to gain votes at the expense of the current government. While this is not an immediate problem, it cannot bode well if Europe’s largest economy is moving toward internal political upheaval, which means it will pay far less attention to Eurozone wide issues. This news cannot be beneficial for the euro, although this morning’s 0.1% decline is hardly newsworthy.

Finally, with less than two weeks remaining before the British (and Scottish, Welch and Northern Irish) go to the polls, the Conservatives still hold between a 9 and 11 point lead, depending on which poll is considered, but that lead has been shrinking slightly. Pundits are quick to recall how Theresa May called an election in the wake of the initial Brexit vote when the polls showed the Tories with a large lead, but that she squandered that lead and wound up quite weakened as a result. At this point, it doesn’t appear that Boris has done the same thing, but stranger things have happened. At any rate, the FX market appears reasonably confident that the Tories will win, maintaining the pound above 1.29, although unwilling to give it more love until the votes are in. I expect that barring any very clear gaffes, the pound will range trade ahead of the election and in the event of a Tory victory, see a modest rally. If we have a PM Corbyn, though, be prepared for a pretty sharp decline.

Looking ahead to this week, we have a significant amount of US data, culminating in the payroll report on Friday:

Today ISM Manufacturing 49.2
  ISM Prices Paid 47.0
  Construction Spending 0.4%
Wednesday ADP Employment 140K
  ISM Non-Manufacturing 54.5
Thursday Initial Claims 215K
  Trade Balance -$48.6B
  Factory Orders 0.3%
  Durable Goods 0.6%
  -ex Transport 0.6%
Friday Nonfarm Payrolls 190K
  Private Payrolls 180K
  Manufacturing Payrolls 40K
  Unemployment Rate 3.6%
  Average Hourly Earnings 0.3% (3.0% Y/Y)
  Average Weekly Hours 34.4
  Michigan Sentiment 97.0

Source: Bloomberg

As we have seen elsewhere around the world, the manufacturing sector in the US remains under pressure, but the services sector remains pretty robust. But overall, if the data prints as expected, it is certainly evidence that the US economy remains in significantly better shape than that of most of the rest of the world. And it has been this big picture story that has underpinned the dollar’s strength overall. Meanwhile, with the Fed meeting next week, they are in their quiet period, so there will be no commentary regarding policy until the next statement and press conference. In fact, next week is set to be quite interesting with the FOMC, the UK election and then US tariffs slated to increase two weeks from yesterday.

And yet, despite what appear to be numerous challenges, risk remains the primary choice of investors. As such, equities are higher and bonds are selling off although the dollar remains stuck in the middle for now. We will need to get more news before determining which way things are likely to break for the buck in the near term.

Good luck
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The Final Throes

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Trump said that he now could disclose
Trade talks have reached “the final throes”
We soon will reveal
A fabulous deal
Designed to increase our trade flows

Imagine, for a moment, that you are the leader of the largest nation (by population) on earth and that you run the place with an iron grip. (Or at least you continue to imply to the outside world that is the case.) Imagine, also, that your only geopolitical rival, with far fewer people but far more money, has completely changed the ground rules regarding how business will be transacted going forward, totally upsetting intricately created supply chains that have been hugely profitable and beneficial to your country over the past two decades. And finally, imagine that for the past eighteen months, a series of unforeseen events (increasingly violent protests in a recalcitrant province, devastating epidemic of a virus decimating your nation’s protein supply, etc.) have combined with the rule changes to significantly slow your economy’s growth rate. (Remember, this growth rate is crucial to maintaining order in your nation.) What’s a despot leader to do?

It can be no real surprise that the US and China are moving closer to completing a phase one trade deal because the importance of completing said deal has grown on both sides of the table. We saw evidence of this earlier in the week when the Chinese changed their tune on IP theft; an issue they had previously maintained did not exist, but are now willing to codify as criminal. And with every lousy piece of Chinese data (last night Industrial Profits fell 9.9%, their largest decline since 2011 and further evidence of the slowing growth trajectory on the mainland) the pressure on President Xi increases to do something to arrest the decline. Meanwhile, though the US economy seems to be ticking along reasonably well (at least according to every Fed speaker and as evidenced by daily record high closings in the US equity markets) the other issues in Washington are pushing on President Trump to make a deal and score a big win politically.

With this as a backdrop, I expect that we will continue to hear positive comments regarding the trade deal from both sides and that prior to the December 15 imposition of new tariffs by the US, we will have something more concrete, including a timetable to sign the deal. And so, there is every reason to believe that risk appetite will continue to be whetted and that equity markets will continue to perform well through the rest of 2019 and arguably into the beginning of 2020.

It is easy to list all the concerns that exist for an investor as they are manifest everywhere. Consider: excess corporate leverage, a global manufacturing recession, anemic global growth, $14 trillion of negative yielding debt globally, and, of course, the still unresolved US-China trade issues and crumbling of seventy years of globalization infrastructure. And that doesn’t even touch on the non-financial, but still economic issues of wealth and income inequality and the growing number of protests around the world by those on the bottom rungs of the economic ladder (Chile, Colombia, Iraq, Iran, Sudan, Lebanon, and even Hong Kong and France’s gilets jaunes). And yet, risk appetite remains strong.

The point I am trying to make is that there is quite a dichotomy between financial market, specifically equity market, behavior and the economic and political situation around the world. The question I would ask is; how long can this dichotomy be maintained? Every bear’s fear is that there will be some minor catalyst that has an extremely outsized impact on risk pricing causing a significant decline. Bears constantly point to all those things mentioned above, and more, and are firm in their collective belief that the central bank community, which may be the only thing holding risk asset prices higher, is running out of ammunition. Certainly I agree with the latter point, they are running out of ammunition, but as Lord John Maynard Keynes was reputed to have said, “Markets can remain irrational far longer than you can remain solvent.”

As of right now, there is no evidence that any of the above mentioned issues are relevant to market pricing decisions. So what is relevant? Based on the almost complete lack of price movement in the FX market for the past several sessions, I would say nothing is relevant. Every day we walk in and the euro or the yen or the pound or the renminbi is within a few basis points of the previous day’s levels. Trading appetite has diminished and implied volatility continues to track to new lows almost daily. In fact, especially for those hedgers who are paying significantly to manage balance sheet risks, it almost seems like it is not worth the money to continue doing so. But I assure you that it is worth the cost. This is not the first time we have seen an extended period of market malaise in FX (2007-8 and 2014 come to mind) and in both those cases we saw a significant rebound in activity in the wake of a surprising catalyst (financial crisis, oil market crash). Do not be caught out when the current market attitude changes.

With that, rather long-winded, opening, a look at markets today shows that every G10 currency is within 15bps of yesterday’s closing levels. And those levels were similarly close to the previous day’s levels. There has been a distinct lack of data, and really very little commentary by central bank officials. Even in the emerging markets, activity generally remains muted. I will grant that the Chilean peso (-0.6%) has been a dog lately, but that is entirely related to the ongoing protests in that country and the fact that investors are exiting rapidly. But elsewhere, movement remains less than 0.3% except for in South Africa, where the rand has actually gained 0.5% as demand increases for their bond issuance today. In a world where a third of sovereign debt carries negative interest rates, 8% and 9% coupons are incredibly attractive!

On the data front, with Thanksgiving tomorrow, we see a ton of stuff today:

Initial Claims 221K
Q2 GDP 1.9%
Durable Goods -0.9%
-ex Transport 0.1%
Chicago PMI 47.0
Personal Income 0.3%
Personal Spending 0.3%
Core PCE 0.1% (1.7% Y/Y)
Fed’s Beige Book  

We should certainly learn if the growth trajectory in the US remains solid before the morning is over, and I expect that the dollar may respond accordingly, with strong data supporting the greenback and vice versa. But the thing is, given the holiday tomorrow, liquidity will be somewhat impaired, especially this afternoon. So if you still have things that you need to get done in November, I cannot stress strongly enough that executing early today is in your best interest.

Overall, the dollar continues to hold its own despite the risk-on attitude, but I have a feeling that is because we are seeing international investors buy dollars to buy US equities. At this point, there is no reason to believe that process will change, so I like the dollar to continue to edge higher over time.

Good luck and have a wonderful Thanksgiving holiday
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The Senate’s Blackball

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Near China, an island quite small
Has led to the latest downfall
In equity prices
Because of their crisis
As well as the Senate’s blackball

Risk is decidedly off this morning as equity markets around the world are under pressure and bond markets rally strongly. Adding to the mix is a stronger dollar and Japanese yen as well as an uptick in gold prices. The proximate cause of this angst was the unanimous voice vote in the Senate last night to pass legislation requiring an annual review of Hong Kong’s special trade status with the US, something that was heretofore permanently granted in 1992. The new legislation requires Hong Kong to remain “sufficiently autonomous” in order to maintain that status, which is arguably quite a nebulous phrase. Nonetheless, the Chinese response was immediate, threatening unspecified retaliation if the bill becomes law and calling it illegal and an intrusion in domestic Chinese affairs. While the bill must still be reconciled with a similar House version, that seems likely to be fairly easy. The real question is how the president will manage the situation given the fragility of the ongoing trade talks. Thus far, he has not made his views known, but they would appear to be in sympathy with the legislation. And given the unanimity of voting in both chambers, even a presidential veto would likely be overturned.

Given this turn of events, it should be no surprise that risk is under pressure this morning. After all, the promise of a trade deal has been supporting equity and other risk markets for the past six weeks. This is the first thing that could clearly be seen to cause a complete breakdown in the discussions. And if the trade negotiations go into hibernation, you can be sure that risk assets have much further to fall. You can also be sure that the developing narrative that European weakness is bottoming will also disappear, as any increase in US tariffs, something that is still scheduled for the middle of next month, would deal a devastating blow to any nascent recovery in Europe, especially Germany. The point is, until yesterday, the trade story was seen as a positive catalyst for risk assets. Its potential unwinding will be seen as a clear negative with all the risk-off consequences that one would expect.

Beyond the newly fraught trade situation, other market movers include, as usual, Brexit and the Fed. In the case of the former, last night saw a debate between PM Johnson and Labour’s Jeremy Corbyn where Boris focused on reelection and conclusion of the Brexit deal he renegotiated. Meanwhile, Jeremy asked for support so that he could renegotiate, yet again, the deal and then put the results to a referendum in six months’ time. The snap polls after the debate called it a draw, but the overall polls continue to favor Boris and the Tories. However, the outcome was enough to unnerve Sterling traders who pushed the pound lower all day yesterday and have continued the process today such that we are currently 0.6% below yesterday’s highs at 1.2970. It seems pretty clear that in the event of an upset victory by Corbyn, the pound would take a tumble, at least initially. Investors will definitely run from a country with a government promising a wave of nationalization of private assets. Remember what happened in Brazil when Lula was elected, Mexico with AMLO and Argentina with Fernandez a few months ago. This would be no different, although perhaps not quite as dramatic.

As to the Fed, all eyes today are on the release of the FOMC Minutes from the November meeting where they cut rates by 25bps and essentially told us that was the end of the ‘mid-cycle adjustment’. And, since then, we have heard from a plethora of Fed speakers, all explaining that they were comfortable with the current rate situation relative to the economy’s status, and that while they will respond if necessary to any weakening, they don’t believe that is a concern in the near or medium term. In fact, given how much we have heard from Fed speakers recently, it is hard to believe that the Minutes will matter at all.

So reviewing market activity, G10 currencies are all lower, save the yen, which is basically unchanged. The weakest link is NOK, which is suffering on the combination of risk aversion and weak oil prices (+0.4% today but -4.0% this week). But the weakness is solid elsewhere, between 0.2% and 0.5%. In the EMG bloc, CLP is once again leading the way lower, down 1.0% this morning after a 2.0% decline yesterday, with spot pushing back toward that psychological 800 level (currently 795). But pretty much every other currency in the bloc is lower as well, somewhere between 0.2% and 0.4%, with just a few scattered currencies essentially unchanged on the day.

And that really describes what we have seen thus far today. With only the FOMC Minutes on the docket, and no other Fed speakers, my take is the FX market will take its cues from the broader risk sentiment, and the dollar is in a position to reverse its losses of the past week. Barring a shocking change of view by Congress, look for a test of 1.10 in the euro by the end of the week.

Good luck
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Centrists’ Dismay

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In three weeks and some the UK
Will head to the polls and convey
To markets worldwide
If Brexit’s the side
They favor, to centrists’ dismay

In London today, and all week actually, the Confederation of British Industry is having their annual conference. As such, both Boris and Labour leader Jeremy Corbyn will be addressing the largest UK trade association to describe their views of the future based on an electoral victory on December 12. In brief, Boris is promising certainty with regard to Brexit as well as some tax cuts and spending on goodies. Meanwhile, Corbyn is promising to nationalize certain industries (British Telecom to give “free” high speed internet access to everyone in the country and the National Energy Grid to force more green activity and decisions) in order to achieve his party’s goal of poverty equality for all.

However, the weekend’s polls show that Boris is expanding his lead with the average result now showing the Tories with 42%, Labour with 30%, the LibDems at 14% and the rest of the assorted parties making up the balance. Arguably, the biggest weekend news was that every Tory running for a seat has signed a pledge to support the Brexit deal if elected. In essence, the Tories are leading and projected to get a majority, and they have pledged to complete Brexit. The market response has been pretty positive, at least the FX market, with the pound rallying a further 0.5% this morning after having rallied 1.0% last week. In fact, at 1.2950, we are pushing back to the highs seen in the immediate aftermath of the Brexit deal changes. As I have maintained since the election was called, I expect Boris to win and Brexit to go ahead shortly thereafter. At this point, it certainly seems like the UK will be out of the EU by the current January 31 deadline. As to the pound, I think we can see a move to 1.32-1.34, but probably not much more at this point. We will need to see significant progress on the ensuing trade agreement with the EU to see much further strength.

Other weekend news of note showed that the PBOC cut its seven-day repo rate by 5bps, to 2.50%, which despite the tiny movement cheered both traders and investors. Later this week, they will reveal the 1-year Loan Prime Rate, which is their new benchmark interest rate, and anticipation has grown they will be reducing that as well. The lesson here is that managing inflation, which has been rising rapidly due to the explosive growth in food, notably pork, prices, is a secondary concern. Instead, due to the fact that the economy is slowing even more rapidly, as evidenced by last week’s terrible Retail Sales and IP numbers, the PBOC’s marching orders are clearly to support GDP growth. Remember, despite the fact that President Xi is president for life, if GDP growth slows and unemployment rises, he will have some serious problems. In fact, it is this situation which has most pundits certain that a trade deal with the US will get signed. Both presidents need a win, and this is a relatively easy one for both.

Speaking of the trade deal, there was a high-level conversation over the weekend, between Liu He and the tag team of Mnuchin and Lighthizer, and both sides indicated progress continues to be made. That said, there is no indication that an agreement on where the presidents will meet to sign a deal has been reached, let alone an actual agreement on the deal. So, much remains to be done before this process is finished, but I am confident that we will read a string of positive tweets on a regular basis beforehand. Meanwhile, the PBOC’s modest rate cut had only a minor impact on the renminbi, which continues to trade just below (dollar above) the 7.00 level. Until a deal is finalized, it is hard to make a case for a large movement.

One last noteworthy item is from South Africa, where S&P has changed its outlook to negative from neutral. This is often a precursor for a ratings cut, and given S&P already has the country firmly in junk territory, at BB, Moody’s decision to maintain its investment grade rating last month seems more and more out of place. The rand is under pressure this morning, down 0.4%, although it remains closer to the top of its recent trading range than the bottom. What that means is there is ample opportunity for the rand to decline more sharply if there is any hint that Moody’s is going to move. The problem for South Africa is that if Moody’s changes them to junk, the nation’s debt will fall out of the MSCI global bond index and there could be as much as $15 billion of net sales. The rand would not receive that warmly, and a quick move back to the 15.50 level is to be expected in that case.

And those are the big stories this morning. Generally, I would characterize the markets as in a modest risk-on mode, with the dollar slightly softer, the yen and Swiss franc as well, while Treasury yields have edged higher and equity markets have edged higher as well. But, overall, it is pretty dull.

Looking ahead to the data releases this week, there is nothing of major consequence with Housing the focus:

Tuesday Housing Starts 1320K
  Building Permits 1381K
Wednesday FOMC Minutes  
Thursday Philly Fed 6.0
  Initial Claims 218K
  Leading Indicators -0.2%
  Existing Home Sales 5.49M
Friday Michigan Sentiment 95.7

While we do see the Minutes on Wednesday, given the onslaught of Fed speakers and consistency of message we have received since the last meeting, it seems hard to believe that we will learn anything new. One thing to watch closely is the Initial Claims data, which last week printed at 225K, higher than expected and where another higher than expected print could easily kick off a narrative of slowing employment, something that has much larger implications. There are a few Fed speakers, with uber-hawk Loretta Mester regaling us twice this week, although, again, it seems we have already heard everything there is to hear.

So today is shaping up to be quiet, with the modest risk-on behavior likely to continue to soften the dollar. We will need something bigger (e.g. a successful trade deal confirmed by both sides) in order to shake things up in my view.

Good luck
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Decidedly Slowed

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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

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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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