Anti-Climactic Return of China

Overview: The re-opening of China's mainland market amid reports of strong activity during the holiday, was relatively subdued. The CSI 300 rose less than 0.5% and the Shanghai Composite eked out less than a 0.2% gain. The 0.5% gain in the yuan was largely in line with the performance of the offshore yuan. Indeed, it seems like a bit like "buy the rumor sell the fact" type of activity as Hong Kong's Hang Seng tumbled 2.75%, to give back most of last week's gains. The same is true of the index of mainland shares that trade in Hong Kong.

The Federal Reserve, European Central Bank, and the Bank of England are expected to hike rates and this anticipation has seen equity markets stumble today. Europe's Stoxx 600, which rose almost 0.7% in the past two sessions is off 0.6% today. The UK’s FTSE 250 is off a little more than 1% today after rising about 1.15% last Thursday-Friday. US futures are trading sharply lower, as well. The bond markets are also under pressure. European yields are mostly 7-9 bp higher and the 10-year US Treasury yield is up four basis points to nearly 3.55%. March WTI initially extended its pre-weekend loss but has recovered to nearly unchanged levels around $79.60. In the currency markets, the euro is the strongest of the G10 as it tries again to establish a foothold above $1.09. The Australian dollar, the best performer last week (2%) is the weakest on a bout of profit-taking.

Asia Pacific

Until there is a clear policy change, it is difficult to take seriously China's outgoing Premier Li Keqiang's claim the government desires more robust consumption. It may be one critical way the Chinese Communist Party can renew its "social contract" of limited political participation in exchange for rising living standards. Yet, at the same time, those foreign critics calling on China to boost consumption often talk in abstractions. Consider autos. Per 1000 people, the US has 800 cars, and the EU 600. China has around 200. Another example is meat consumption. The US per capita consumption is about 222 pounds. Europe's consumption is closer to 170 pounds of meat per person. China's meat consumption is a little less than 100 pounds. What is the environmental and health impact if China consumed like Americans or Europeans?

Separately, reports suggest China is considering a ban on cutting-edge technology used to make solar wafers. These are very thin silicon pieces that are assembled into solar panels, and China accounts for an estimated 97% of global production. China's efforts in this space, which it practically monopolizes, have seen the cost of solar power fall by an estimated 90%. In efforts to decouple from China, the US, EU, and others are trying to build domestic capacity, which is hard to call restoring if they never had in the first place. If it does come to pass, some narratives will put it in the context of "typical" Chinese protectionism, while others may link it to the US "Inflation Reduction Act" that offers subsidies for green tech that is manufactured in the US.

The dollar continues to move broadly sideways against the Japanese yen, straddling the JPY130 area. It is trading between JPY129-JPY131 last week. The 20-day moving average (~JPY130.35) continues to be respected on a closing basis since early November. Still, we note that the one-month implied volatility reached a seven-day high today as if the market is positioning for a breakout soon. The Australian dollar peaked last Thursday, as the market priced in the Chinese re-opening optimism and the prospect for a quarter-point hike in February after the stronger than expected December and Q4 22 CPI. It briefly traded above $0.7140. Today, it has recorded a three-day low near $0.7070 before finding a bit in the European morning. There are options for about A$430 mln that expire today at $0.7050 and the initial retracement of the rally from the January 19 low (~$0.6870) is near $0.7040. A break of this area would target $0.7000. The offshore yuan appreciated by about 0.35% last week while the mainland markets were closed. The onshore yuan played catchup, appreciating almost by 0.50% today. Chinese stocks rallied, with the CSI 300 nearly 0.5%, but there was strong profit-taking in Hong Kong (-2.7%), and especially in the index of mainland shares that trade there (~3.6%). Taiwan saw a 3.75% rally, as it too re-opened (since January 17). The PBOC set the dollar's reference rare at CNY6.7626. The median in Bloomberg's survey was for CNY7.7642.

Europe

Ahead of the weekend, Fitch upgraded Greece's long-term foreign currency debt rating to BB+, a one-notch move to one step below investment grade. It is not the first to recognize the improved outlook. S&P did it last April. Moody's is the laggard among the big three and rates GreeceBa3 (BB-) with a stable outlook. Fitch and S&P have a stable outlook for Greece's rating. Fitch cited the improved debt and deficit dynamics, stronger nominal growth, over-execution of the budget (small deficit,) and streamlining of temporary economic support programs. Over the past three months, Greece's 10-year yield had fallen a little more than 20 basis points, the most within the eurozone. Since the peak in late September, the cost of insuring against a Greek default (credit-default swaps) fell from 200 bp to slightly less than 110 bp. In comparison, Italy's credit default swap fell from 180 bp to about 105 bp.

UK's Sunak may be in office, but it still seems that Parliament is driving the agenda. Over the weekend, Sunak belatedly bowed to growing parliament pressure and dismissed the Tory Party leader and minister without a portfolio in his government Zahawi for ethic rules over taxes. Zahawi is thought to be the richest member of parliament, and his tax settlement was said to be "multimillions" found little sympathy. This incident plays on shroud of petty corruption and mean-spiritedness that hangs over the Conservative Party, which is running well behind in the polls. It is also the latest in a series of moves in which the prime minister's hand appears to have been forced by Tory MPs.

Germany's Q4 GDP disappointed. The preliminary estimate showed a flat quarter, while today's report showed a 0.2% contraction. Q3 GDP was revised to 0.5% from 0.4%. Recall that last week report showed that the Spanish economy grew by 0.2% in Q4 rather than 0.1%. However, today, Spain reported a smaller than expected decline in January CPI. Rather than the EU harmonized measure falling 1.9%, it fell by 0.5%. The year-over-year rate rose to 5.8% from 5.5% in the face of forecasts for a decline. It was the first increase in six months. The core rate rose to 7.5% from 7.0%. 

The euro recorded session lows in late Asian turnover slightly below $1.0855, but rebounded smartly in early European turnover, aided it appears by the hawkish impulses following the Spanish CPI figures. The euro has been bid back to $1.0915. Last week's high was closer to $1.0930, and the key chart area is $1.0940-50, which houses the 50% retracement of the euro's downtrend since January 6, 2021, and optionality. Today there are options for almost 785 mln euros at $1.0950. The intraday momentum indicators are stretched, suggesting the cap is likely safe. Sterling is firm, trading above $1.2400 in the European morning. The cap is near $1.2450, which it first approached in the middle of last month. Here, too, the intraday momentum indicators are overbought, and we look for sterling to stall in the $1.2420-30 area. Support is seen near $1.2350.

America

March lumber prices are soaring. They rose over 21% last week to bring this month's surge to 37%. Lumber prices fell 67% last year, surrendering nearly half the gains recorded in 2020-2021. The price recovery appears to reflect a shortage, even as new housing starts have slumped. Inventories are low as mills cut back, and three indicators are being cited for a more optimistic outlook. First, 30-year fixed-rate mortgages have fallen from around 7% to nearly 6.10%. Second, homebuilder sentiment rose this month for the first time in a year. Third, homebuilder shares have rallied. On top of this, there is no reprieve for Canadian suppliers, and the US announced two Canadian companies would see their tariffs increase while maintaining the current duty of 7.29%-9.38% on the others. Canada was not happy and is threatening action at both the USMCA and WTO. A 2006 agreement 2006 capped Canadian softwood at 34% of the US market. It expired in late 2015. In 2016, Canadian firms had a 33% market share. Last year it was estimated at about 26%. According to some reports, the US industry wants it to be something closer to 20%.

The key week for the US begins slowly with only the Dallas Fed's January manufacturing survey on tap today. Tomorrow, features house prices, the Conference Board's consumer confidence measures, and the Q4 Employment Cost Index. This is a better measure of labor costs than average hourly earnings that are part of the monthly employment report. It includes direct costs such as wages, bonuses, and in-kind benefits and indirect costs (benefits, training, social security contributions). In 2019, it rose by a quarterly average of 0.7%. In 2021, the quarterly average was closer to 1%, and in the first three quarters of 2022, it rose by 1.3%. Canada reports November GDP figures tomorrow. Tomorrow, Mexico publishes its first estimate of Q4 GDP. It is seen rising by 0.3%.

The US dollar is holding support near CAD1.3300. It is the lowest level since the middle of last November. The Canadian dollar continues to appear resilient in the face of US equity volatility, which includes sharp losses in the futures today. There are options for almost $500 mln that expire today at CAD1.3300. Initial resistance is seen around CAD1.3360 and then CAD1.,3400 (which holds options for $1.15 bln that expire tomorrow). The Mexican peso is trading quietly today. The greenback is confined to a roughly MXN18,76-MXN18.7960 trading range, well within the pre-weekend range. Emerging market currencies are mostly trading with a firmer bias (South Africa, Turkey, and the Philippines are the notable exceptions). The Taiwan dollar and Chinese yuan are the strongest. The relatively subdued trading over the past week or so has seen the one-month implied volatility in peso slip to its lowest level since last January. It traded a little below 9.6% before the weekend and is slightly above there now.

 

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