No Panacea

Fiscal stimulus
Is no panacea, but
Welcome nonetheless

At least by markets
And politicians as well
If it buys them votes!

Perhaps the MMTer’s are right, fiscal rectitude is passé and governments that are not borrowing and spending massive amounts of money are needlessly harming their own countries. After all, what other lesson can we take from the fact that Japan, the nation with the largest debt/GDP ratio (currently 236%) has just announced they are going to borrow an additional ¥26 trillion ($239 billion) to spend in support of the economy, and the market response was a stock market rally and a miniscule rise in JGB yields of just 1bp. Meanwhile, the yen is essentially unchanged.

Granted, despite the fact that this equates to nearly 5% of the current GDP, given JGB interest rates are essentially 0.0% (actually slightly negative) it won’t cost very much on an ongoing basis. However, at some point the question needs to be answered as to how they will ever repay all that debt. It seems the most likely outcome will be some type of explicit debt monetization, where the BOJ simply tears up maturing bonds and leaves the cash in the economy, thus reducing the debt and maintaining monetary stimulus. However, macroeconomic theory explains following that path will result in significant inflation. And of course, that’s the crux of the MMT philosophy, print money aggressively until inflation picks up.

The thing is, every time this process has been followed in the past, it basically destroyed the guilty country. Consider Weimar Germany, Zimbabwe and even Venezuela today as three of the most famous examples. And while inflation in Japan is virtually non-existent right now, that does not mean it cannot rise quite rapidly in the future. The point is that, currently, the yen is seen as a safe haven currency due to its strong current account surplus and the fact that its net debt position is not terribly large. But the further down this path Japan travels, the more likely those features are to change and that will be a distinct negative for the currency. Of course, this process will take years to play out, and perhaps something else will come along to change the trajectory of these long term processes, but the idea that the yen will remain a haven forever needs to be constantly re-evaluated. Just not today!

In the meantime, markets remain in a buoyant mood as additional comments from the Chinese that both sides remain in “close contact”, implying a deal is near, has the bulls ascendant. So Tuesday’s fears are long forgotten and equity markets are rallying while government bond yields edge higher. As to the dollar, it is generally on its back foot this morning as well, keeping with the theme that risk is ‘on’.

Looking at specific stories, there are several of note today. Overnight, Australia released weaker than expected GDP figures which has reignited the conversation about the RBA cutting rates in Q1 and helped to weaken Aussie by 0.3% despite the USD’s overall weakness. Elsewhere in the G10, British pound traders continue to close out short positions as the polls, with just one week left before the election, continue to point to a Tory victory and with it, finality on the Brexit issue. My view continues to be that the market is buying pounds in anticipation of this outcome, and that once the election results are final, there will be a correction. It is still hard for me to see the pound much above 1.34. However, there are a number of analysts who are calling for 1.45 in the event of a strong Tory majority, so be aware of the differing viewpoints.

On the Continent, German Factory Order data disappointed, yet again, falling 0.4% rather than rising by a similar amount as expected. This takes the Y/Y decline to 5.5% and hardly bodes well for a rebound in Germany. However, the euro has edged higher this morning, up 0.15% and hovering just below 1.11, as we have seen a number of stories rehashing the comments of numerous ECB members regarding the idea that negative interest rates have reached their inflection point where further cuts would do more harm than good. With the ECB meeting next Thursday, expectations for further rate cuts have basically evaporated for the next year, despite the official guidance that more is coming. In other words, the market no longer believes the ECB can will ease policy further, and the euro is likely edging higher as that idea makes its way through the market. Nonetheless, I see no reason for the euro to trade much higher at all, especially as the US economy continues to outperform the Eurozone.

In the emerging markets, the RBI surprised the entire market and left interest rates on hold, rather than cutting by 25bps as universally expected. The rupee rallied 0.35% on the news as the accompanying comments implied that the recent rise in inflation was of more concern to the bank than the fact that GDP growth was slowing more rapidly than previously expected. In a similar vein, PHP is stronger by 0.5% this morning after CPI printed a bit higher than expected (1.3%) and the market assumed there is now less reason for the central bank to continue its rate cutting cycle thus maintaining a more attractive carry destination. On the other side of the ledger, ZAR is under pressure this morning, falling 0.5% after data releases showed the current account deficit growing more rapidly than expected while Electricity production (a proxy for IP) fell sharply. It seems that in some countries, fiscal rectitude still matters!

On the data front this morning, we see Initial Claims (exp 215K), Trade Balance (-$48.5B), Factory Orders (0.3%) and Durable Goods (0.6%, 0.6% ex transport). Yesterday we saw weaker than expected US data (ADP Employment rose just 67K and ISM Non-Manufacturing fell to 53.9) which has to be somewhat disconcerting for Chairman Powell and friends. If today’s slate of data is weak, and tomorrow’s NFP report underwhelms, I think that can be a situation where the dollar comes under more concerted pressure as expectations of further Fed rate cuts will build. But for now, I am still in the camp that the Fed is on hold, the data will be mixed and the dollar will hold its own, although is unlikely to rally much from here for the time being.

Good luck
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A Future Quite Bright

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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Not Been Tested

From Germany data suggested
The slowdown in growth’s been arrested
If true, that’s good news
But still there are views
The hypothesis, null’s, not been tested

There seems to be an inordinate amount of positivity surrounding a single data point this morning, German Factory Orders, which printed at +1.3% in September versus expectations of a 0.1% rise. And while this is certainly good news, two things to keep in mind are that the Y/Y rate of growth is -5.4%, (that’s right a significant decline) and that the other German data out this morning showed that October PMI’s printed at 48.9 on a composite level. In other words, all signs still point to a German recession on the basis of negative GDP growth in both Q3 and Q4. This will be confirmed next week when the official data is released. And remember, a negative print will be the third subzero outcome there in the past five quarters. My point is that Germany continues to drag on the Eurozone as a whole, and until the global trade situation improves, it is likely to continue to do so.

Yet, despite a spate of positive sounding articles about the nadir in Eurozone growth having been reached, the markets have taken a much less enthusiastic approach to things this morning. Yes, the euro is higher as I type, alas, by just 0.1%, and that is after a 0.6% decline yesterday. In other words, it is difficult to describe the FX market as jumping on board this narrative. What about equities you may ask? Well, the DAX is up by 0.15%, but again, this doesn’t seem to warrant much hype. In fact, looking at the Eurozone as a whole, we see a mixture of small gains (Germany, France, and Italy) and losses (Spain, Portugal and Austria) and a net of not much movement. In other words, it appears the press is far more excited than the investment community.

Perhaps a more interesting story has been the indication that Germany may be ready to allow more Eurozone banking integration by finally embracing allowing joint European deposit insurance. Recall that northern European nations, those that run surpluses, are loathe to bail out Italian and Spanish (and Greek and Cypriot, etc.) banks when they eventually go bust. However, it seems that Chancellor Merkel, whose power has been slipping away by the day, has decided that in order to maintain her grip she needed to do something to encourage her Social Democrat partners, and this is the latest wheeze. That said, if Germany and the rest of the north do sign off on this, it will be an unmitigated positive for the continent and, likely, for the euro. As is often the case with issues like this, there is a long way to go before an agreement is reached, but this is the first positive movement on the subject since the euro’s creation twenty years ago. In fact, success here is likely to permanently improve the euro’s value going forward.

Elsewhere in markets things have been pretty quiet. The rest of the G10 has seen modest movement with only Sweden’s krona rallying smartly, +0.45%, after the Minutes of the latest Riksbank meeting confirmed that they are working feverishly to figure out a way to exit the negative interest rate trap. At this point the market is pricing in a better than 60% probability of a rate hike at the December meeting, taking the base rate back to 0.00%. But away from that, the G10 is completely uninteresting.

In the EMG space, India’s rupee was the worst performer, falling 0.45% after weaker than expected PMI data (Services 49.2, Composite 49.6) indicated that the growth impulse in India remains absent and that further policy ease is likely from the RBI. Elsewhere, the Bank of Thailand, which has been trying to slow the baht’s steady appreciation, +8.5% in the past twelve months, cut its base rate by 25bps and relaxed some currency controls in an effort to release some pressure on the currency. However, given the economy’s ongoing relative strength, this seems unlikely to have a long term impact. In the end, the baht has declined 0.4% overnight, but hardly seems like it is getting ready to tumble.

And in truth, that’s really all that has been going on overnight. Yesterday we heard from a few more Fed speakers, Barkin, Kaplan and Kashkari, and the message remains consistent; i.e. the US economy is strong and monetary policy is appropriate, although the balance of risks still seem tilted toward the downside. In the end, Chairman Powell and his minions have done an excellent job of getting the markets to accept that there will be no further rate movement for the foreseeable future barring some catastrophic data.

Speaking of data, yesterday showed the Trade Balance shrunk to -$52.5B as imports fell sharply, and that the services sector in the US remains robust with ISM Non-manufacturing rising to 54.7. This morning we await Nonfarm Productivity (exp 0.9%) and Unit Labor Costs (2.2%), neither of which is likely to move the needle, and we hear from three more Fed speakers; Evans, Williams and Harker, none of whom are likely to deviate from the current mantra.

Overall, it has been a mixed session so far with no real direction and at this point, there is nothing obvious that is likely to change that mood. Look for a quiet one as the market seeks out its next big thing, maybe confirmation that the trade deal is going to be signed, but until then, hedgers should take advantage of the quiet market to execute.

Good luck
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Not a Chance

From Germany and, too, from France
We saw the economy’s stance
Their prospects are dire
And though they aspire
To growth, it seems they’ve not a chance

Surveying the markets this morning, the theme seems to be that the growth scare continues to be real. PMI data from Europe was MUCH worse than expected across the board, with Services suffering as well as the manufacturing data which has been weak for quite a while already. This is how things stacked up:

Event Expectations Release
German Manufacturing PMI 44.0 41.4
Services PMI 54.3 52.5
Composite PMI 51.5 49.1
French Manufacturing PMI 51.2 50.3
Services PMI 53.2 51.6
Composite PMI 52.6 51.3

Source: Bloomberg

Anybody that claims Germany is not in recession is just not paying attention. Friday evening, the Bundestag agreed to a new €54 billion bill to address climate change, which some are looking at as an economic stimulus as well. However, a stimulus bill would need to create short term government spending, and the nature of this bill is decidedly longer term in nature. And a bigger problem is the German unwillingness to run a budget deficit means that if they put this in place, it will restrict their ability to add any stimulus on a more timely basis. It also appears that the ECB and IMF will continue to call them out for their austere views, but thus far, the German people are completely backing the government on this issue. Perhaps when the recession is in fuller flower, der mann on der strasse will be more willing for the government to borrow money to spend.

It ought not be that surprising that European equity markets suffered after the release with the DAX down a solid 1.2% and CAC -1.0% with the bulk of the move coming in the wake of the releases. This paring of risk also resulted in a rally in Bunds (-6bps), OATS (-3bps) and Treasuries (-3bps) while the dollar rallied (EUR -0.4%, GBP -0.3%).

But I think this begs the question of whether or not a recession is going to be solely a European phenomenon or if the US is going to crash that party. What we have learned in the past two weeks is that the ECB is basically spent, and that the market’s review of their newest policy mix was two thumbs down. Ironically, Draghi’s clear attempts to weaken the euro are now being helped by the significantly weaker than expected Eurozone data that he’s trying to fix. Apparently, you can’t have it both ways. Much to his chagrin, however, I believe that there is plenty more downside for the euro as the Eurozone economy continues its slow descent into stagnation. When Madame Lagarde takes over on November 1st, she will have an empty cupboard of tools to address the economy and will be forced to rely on verbal suasion. I expect that we will hear from the Mandame quite frequently as she tries to change the narrative. I also expect that her efforts will do very little, especially if China continues to falter.

Away from the weak European data, there was not that much else of interest. Friday, if you recall, the US equity markets suffered after the low-level Chinese trade delegation canceled a trip to Montana and Nebraska as the perception was the talks broke down. It turns out, however, that the request came from the US for other reasons, and that the talks, by all accounts, went quite well. At this point, the market is now looking forward to Chinese Vice-Premier, Liu He, coming to Washington on October 10, so barring any further tweets on the subject that topic may well slip to the back burner.

Brexit was also in the news as Boris makes his way to NY for the UN session this week He has scheduled meetings with all the key players from Europe including Chancellor Merkel, President Macron and Taoiseach Varadkar. At the same time, the Labour party’s conference is in disarray as leader Jeremy Corbyn wants to campaign on a second referendum but will not definitively back Remain. In other words, it’s not just the Tories who are split over Brexit, it is both parties. And don’t forget, we are awaiting the UK Supreme Court’s decision on the legality of Boris’ move to prorogue parliament for five weeks, which could come any day this week. In the end, the pound is still completely beholden to Brexit, so look for a Supreme Court ruling against the government to result in a rally in the pound as it will be perceived as lowering the probability of a no-deal Brexit. Again, my view remains that at the EU summit in the middle of next month, there will be an announcement of a breakthrough of some sort to fudge the Irish backstop and that the pound will rally sharply on the news.

Looking ahead to this week, we have a fair amount of new information as well as a host of Fed speakers:

Tuesday Case-Shiller House Prices 2.90%
  Consumer Confidence 133.3
Wednesday New Home Sales 656K
Thursday Q2 GDP (2ndrevision) 2.0%
  Initial Claims 211K
Friday Personal Income 0.4%
  Personal Spending 0.3%
  Durable Goods -1.1%
  -ex transportation 0.2%
  Core PCE Deflator 0.2% (1.8% Y/Y)
  Michigan Sentiment 92.0

Source: Bloomberg

We also hear from 11 different Fed speakers this week, two of them twice! At this point I expect they will be working hard to get their individual viewpoints across which should actually help us better understand the mix of views on the board. So far we have a pretty good understanding of where Bullard, George and Rosengren stand, but none of them are speaking this week. This means we will get eleven entirely new viewpoints. And my take is that the general viewpoint is going to be unless the data really turns lower; there is no more cause to ease at this point. I don’t think the equity market will like that, nor the bond market, but the dollar is going to be a big beneficiary. The euro is back below 1.10 this morning. Look for it to continue lower as the week progresses.

Good luck
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No Solutions Are Near

There is a group that’s quite elite
And every six months they all meet
In France this weekend
They tried to pretend
That problems, worldwide, they could treat

Alas what was really quite clear
Is that no solutions are near
The trade war remains
The source of most pains
And Brexit just adds to the fear

It has been a pretty dull session overnight with the dollar somewhat softer, Treasuries rallying and equities mixed. With the G7 meeting now over, the takeaways are that the US remains at odds with most members over most issues, but that those members are still largely reliant on the US as their major trade counterparty and overall security umbrella. In the end, there has been no agreement on any issue of substance and so things remain just as they were.

And exactly how are things? Well, the US economy continues to motor along with all the indications still pointing to GDP growth of 2.0% annualized or thereabouts in Q3, continuing the Q2 pace. This contrasts greatly with the Eurozone, for example, where German GDP was confirmed at -0.1% in Q2 this morning as slowing global trade continues to weigh on the economy there. Perhaps the most remarkable thing is that Jens Weidmann, the Bundesbank president, remains firm in his view that negative growth is no reason for easier monetary policy. While every other central bank in the world would be responsive to negative output, the Bundesbank truly does see things differently. As an aside, it is also interesting to see Weidmann revert to his old, uber-hawkish, self as opposed to the show of pragmatism he displayed when he was vying to become the next ECB President. You can be sure that Madame Lagarde will have a hard time convincing him that once the current mooted measures (cutting rates further and more QE) fail, extending policy to other asset purchases or other, as yet unconsidered, tools will be appropriate.

And the rest of Europe? Well, Italy continues to slide into recession as well while the country remains without a government. Ongoing talks between Five-Star and the center-left PD party remain stuck on all the things on which weird coalitions get stuck. But fear of another election, where League leader, Matteo Salvini, is almost certain to win a ruling majority will force them to find some compromise for a few months. None of this will help the economy there. Meanwhile, France is muddling along with an annualized growth rate below 1.0%, better than Germany and Italy, but still a problem. Despite the fact that the Fed has much more monetary leeway than the ECB, the problems extant in the Eurozone are such that buying the euro still seems quite a poor bet.

Turning to the UK, PM Johnson was quite the charmer at the G7, but with just over two months left before Brexit, there is still no indication a deal is in the offing. However, I remain convinced that given the dire straits in the Eurozone economic outlook, the willingness to allow a hard Brexit will fall to zero very quickly as the deadline approaches. A deal will be cut, whether a fudge or not is unclear, but it will change the tone completely. While the pound has edged higher this morning, +0.4%, it remains quite close to its post-vote lows at 1.2000 and there is ample room for a sharp rebound when the deal materializes. For hedgers, please keep that in mind.

The other story, of course, remains the trade war, where the PBOC is overseeing a steady deterioration in the renminbi while selectively looking for places to ease monetary policy and support the economy. Growth on the mainland has been slowing quite rapidly, and while I don’t expect reported data to surprise on the downside, indicators like commodity inventories and electricity usage point to a much weaker economy than one sporting a 6.0% growth handle. Of course, the G7 did produce a positive trade story, the in-principal agreement between the US and Japan on a new trade deal, but that just highlights the other pressure on the EU aside from Brexit, namely the need to make a deal with the US. Bloomberg pointed out the internal problem as to which constituency will be thrown under the bus; French farmers or German automakers. The US is seeking greater agricultural access, and appears willing to punish the auto companies if it is not achieved. (Once again, please explain to me how the EU can possibly allow a hard Brexit with this issue on the front burner).

And that is really today’s background news. The overnight session saw modest dollar weakness overall, and it would be easy to try to define sentiment as risk-off given the strength in the yen (+0.3%), gold (+0.2%) and Treasuries (-3bps). But equities are holding their own and there is no palpable sense in the market that fear has been elevated. Mostly, trading desks remain thinly staffed given the time of year, and I expect more meandering than trending in FX today. Of course, any tweet could change things quickly, but for now, yesterday’s modest dollar strength looks set to be replaced by today’s modest dollar weakness.

Good luck
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Up Sh*t’s Creek

Much time has progressed
Since last I manned a bank desk
But I have returned

Good morning all. Briefly I wanted to let you know that I have begun a new role at Sumitomo Mitsui Banking Corp. (SMBC) as of Monday morning and look forward to rekindling so many wonderful relationships while trying to assist in risk management in an increasingly uncertain world. Don’t hesitate to reach out to chat.

Said Trump well those tariffs can wait
Until it’s a much later date
That opened the door
To buy stocks and more
Now don’t you all feel simply great?

But trade is still problematique
And that’s why the view is so bleak
In Europe they’re shrinking
And China is sinking
It seems the world’s now up sh*t’s creek

Volatility continues to reign in markets as the combination of trade commentary and economic data force constant u-turns by traders and investors. Yesterday afternoon, President Trump decided to delay the imposition of tariffs on the remaining Chinese exports from the mooted September 1st start to a date in mid-December. While that hardly seems enough time to conclude any negotiations, the market reaction was swift and yesterday morning’s risk-off session was completely reversed. Stocks turned around and closed more than 1% higher. Treasuries sold off with yields jumping 5bps in the 10-year and the dollar reversed course with USDJPY rocking 1.5% higher while USDCNY tumbled more than 1%. But that was then…

The world looks less sanguine this morning, however, after data releases last night and this morning showed that the fears over a slowing global economy are well warranted. For instance, Chinese data was uniformly awful with Industrial Production falling to 4.8% growth in July, well below the 6.0% estimate and the slowest growth since they began producing data 17 years ago. Retail Sales were also much weaker than expected, rising 7.6% Y/Y in July vs. expectations of an 8.6% rise. If there were any questions as to whether or not the trade war is impacting China, they were answered emphatically last night…YES.

Then early this morning Germany released its Q2 GDP data at -0.1%, as expected but the second quarter of the past four where the economy has shrunk. Additional Eurozone data showed IP there falling -1.6%, its worst showing since February 2016. Meanwhile, inflation data continues to show a complete lack of price pressure and Eurozone Q2 GDP grew just 0.2%, also as expected but also awful. It should be no surprise that this has led to another reversal in investor psychology as the hopes engendered in the Trump comments yesterday has completely evaporated.

I would be remiss if I didn’t mention that the 2yr-10yr Treasury spread actually inverted this morning for the first time, although it had come close several times during the past months. But not only did the Treasury curve invert there, so did Gilts in the UK and we are seeing the same thing in Japan. At the same time, Bunds have fallen to yet another new low in the 10-year, trading at a yield of -0.645% as I type. The upshot is that combined with the weak economic data, the inverted yield curves have historically implied a recession was on the way. While there are those who are convinced ‘this time is different’ because of how central banks have impacted yield curves with their QE, it is all still pointing down to me.

With all that in mind, let’s take a look at markets this morning. Overnight we have seen a mixed picture in the FX market, with the yen retracing some of yesterday’s weakness, rallying 0.7%, while Aussie and the Skandies have led to the downside with all three falling 0.7% or so. As to the euro and the pound, neither has moved at all overnight. But I think it is instructive to look at the two day move, given the volatility we have seen and over that timeline, the dollar has simply rallied against the entire G10 space. Granted vs. the pound it has been a deminimis 0.1%, but CHF, EUR and CAD are all lower by 0.3% since Monday and the yen is still weaker by 0.6% snice Monday.

In the EMG space, KRW was the big winner overnight, rallying 0.8% after the tariff delay, and we also saw IDR benefit by 0.5%. CNY, meanwhile, was fixed slightly stronger and the offshore currency has held onto that strength, rising 0.35%. On the downside, ZAR is the big loser overnight, falling 1.0% as foreign investors are selling South African bonds ahead of a feared ratings downgrade into junk. We have also seen MXN retrace half of yesterday’s post trade story gain, falling 0.65% at this time.

Looking ahead to this morning’s session, there is little in the way of data that is likely to drive markets so we should continue to see sentiment as the key market mover. Right now, sentiment is not very positive so I expect risk to be jettisoned as can be seen in the equity futures with all down solidly so far. As to the dollar, I like it vs. the EMG bloc, maybe a little less vs. the G10.

Good luck
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Still Feeling Stressed

The overnight data expressed
That China is still feeling stressed
But Europe’s reports
Showed growth of some sorts
Might finally be manifest

The dollar is on its heels this morning after data from Europe showed surprising strength almost across the board. Arguably the most important data point was Eurozone GDP printing at 0.4% in Q1, a tick higher than expected and significantly higher than Q4’s 0.2%. The drivers of this data were Italy, where Q1 GDP rose 0.2%, taking the nation out of recession and beating expectations. At the same time Spain grew at 0.7%, also better than expectations while France maintained its recent pace with a 0.3% print. Interestingly, Germany doesn’t report this data until the middle of May. However, we did see German GfK Consumer Confidence print at 10.4, remaining unchanged on the month rather than falling as expected. Adding to the growth scenario were inflation readings that were generally a tick firmer than expected in Italy, Spain and France. While these numbers remain well below the ECB target of “close to but just below” 2.0%, it has served to ease some concerns about Europe’s future. In the end, the euro has rallied 0.25% while European government bond yields are all higher by 2-5bps. However, European equity markets did not get the memo and remain little changed on the day.

Prior to these releases we learned that China’s PMI data was softer than expected, with the National number printing lower at 50.1, while the Caixin number printed at 50.2. Even though both remain above the 50.0 level indicating future growth, there is an increasing concern that China’s Q1 GDP data was more the result of a distorted comparison to last year’s data due to changed timing of the Lunar New Year. Remember, that holiday has a large impact on the Chinese economy with manufacturing shutdowns amid widescale holiday making, and so the timing of those events each year are not easily stabilized with seasonal adjustments to the data. As such, it is starting to look like Q1’s 6.4% GDP growth may have been somewhat overstated. Of course, China remains opaque in many ways, so we may need to wait until next month’s PMI data to get a better handle on things. One other clue, though, has been the ongoing decline in the price of copper, a key industrial metal and one which China represents approximately 50% of global demand. Arguably, a falling copper price implies less demand from China, which implies slowing growth there. Ultimately, while it is no surprise that the renminbi is little changed on the day, Chinese equities edged higher on the theory that the PBOC is more likely to add stimulus if the economic slowdown persists.

Of course, the other China story is that the trade talks are resuming in Beijing today and market participants will be watching closely for word that things are continuing to move in the right direction. You may recall the President Xi Jinping gave a speech last week where he highlighted the changes he anticipated in Chinese policy, all of which included accession to US demands in the trade talks. At this point, it seems the negotiators need to “simply” hash out the details, which of course is not simple at all. But if the direction from the top is broadly set, a deal seems quite likely. However, as I have pointed out in the past, the market appears to have already priced in the successful conclusion of a deal, and so when (if) one is announced, I would expect equity markets to fall on a ‘sell the news’ response.

Turning to the US, yesterday’s data showed that PCE inflation (1.5%, core 1.6%) continues to lag expectations as well as remain below the Fed’s 2.0% target. With the FOMC meeting starting this morning, although we won’t hear the outcome until tomorrow afternoon, the punditry is trying to determine what they will say. The universal expectation is for no policy changes to be enacted, and little change in the policy statement. However, to me, there has been a further shift in the tone of the most recent Fed speakers. While I believe that Loretta Mester and Esther George remain monetary hawks, I think the rest of the board has morphed into a more dovish contingent, one that will respond quite quickly to falling inflation numbers. With that in mind, yesterday’s readings have to be concerning, and if we see another set of soft inflation data next month, it is entirely possible that the doves carry the day at the June meeting and force an end to the balance sheet roll-off immediately as a signal that they will not let inflation fall further. I think the mistake we are all making is that we keep looking for policy normalization. The new normal is low rates and growing balance sheets and we are already there.

As Powell and friends get together
The question is when, it’s not whether
More policy easing
Will seem less displeasing
So prices can rise like a feather

Looking at this morning’s releases, the Employment Cost Index (exp 0.7%) starts us off with Case-Shiller home prices (3.2%) and then Chicago PMI (59.0) following later in the morning. However, with the Fed meeting ongoing, it seems unlikely that any of these numbers will move the needle. In fact, tomorrow’s ADP number would need to be extraordinary (either high or low) to move things ahead of the FOMC announcement. All this points to continued low volatility in markets as players of all stripes try to figure out what the next big thing will be. My sense is we are going to see central banks continue to lean toward easier policy, as the global focus on inflation, or the lack thereof, will continue to drive policy, as well as asset bubbles.

Good luck
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