Eight Observations

1. Today's US data, especially the service ISM and trade figures are consistent with further moderation of the US economy in Q2. The fall in the new order component (50.8 from 56.0) and the slump in export orders (47.5 from 50)suggests the absence of momentum at the start of Q3. The ADP estimate and the employment component of the ISM may bolster expectations for Friday's employment report, but statistically the relationships are quite loose.

2. Talk of tapering at the FOMC meeting at the end of the month seems exaggerated. There has been no indication from Fed leadership that this is really a possibility. In fact, we suspect that the next step for the Fed is to lower the unemployment threshold from 6.5%. This would encourage expectations of the first hike to be pushed further out.

3. There is some thought that the one year delay in implementation of a key feature of ACA (Obamacare) may impact employment. The idea is that small businesses may have hired temps or part time workers to avoid reaching the employment trigger and now will are freer to expand their work forces. We are less sanguine and suspect that the delay will not have significant economic impact.

4. The Bank of England meets tomorrow. It is Carney's first meeting. Unlike most central bank, when the BOE does not do anything, it does not say anything. Thus little fresh information will be available. Carney seems particularly fortunate. He has left Canada as the economy has slowed. Its forward guidance about removing accommodation has repeatedly been pushed out. Household indebtedness is at extreme levels. He now comes to the BOE as the UK economy appears to be staging a recovery. Perhaps this is too narrow of a focus. Carney is part of a larger change at the BOE. He will have two new deputies and a reformulated charter over the next twelve months. With 10-year gilt yields rising about 40 bp over the past month and implied yield of the December '14 short-sterling futures has risen about 50 by since late May, there seems to be some scope for forward guidance to boost investor confidence about the persistence of the low interest rate environment.

5. The ECB also meets tomorrow. There is little doubt that the refi rate will remain at 50 bp and the deposit rate at zero. The economy is unfolding more or less as the ECB expected. The worst of the downturn has passed and preliminary data suggests a modest recovery is taking hold. There is not much that Draghi can say to limit the rise in yields prompted by unwinding of positions that used the dollar as a funding currency. He can stress that a) policy remains accommodative, b) will continue to be so for the foreseeable future, and c) monetary policy has not been exhausted. There are other measures the ECB can take if necessary. To argue that the backing up of rates, especially in Portugal, somehow reflects the weakness in OMT, as some observers have suggested, strikes us as misguided. Even QE in the US and even larger QE in Japan does not necessarily translate into lower interest rates at all times. Contrary to what the critics would have us believe, OMT was highly successful and did not cost the ECB a single cent. Has any other central bank achieved as much with so little?

6. Given the sharp rise in euro area yields and the under-performance of European shares, one may have expected the euro to fallen further. It is important to keep in mind that a) the sale of, say Portuguese or Spanish bonds, do not necessarily translate into the sale of the euros as the funds can and do shift to Germany, to a less extent France, and b) while Japanese investors have been net sellers of foreign bonds, the data suggests they continue to buy French bonds, c) European banks appear to still be selling non-core foreign assets and d)the area has seen its current account surplus expand.

7. The Japanese economy appears poised to repeat its Q1 feat as the strongest economy in the G7. Consumption remains subdued, but industrial output and exports are improving. The G7 tolerance of a weaker yen is not limitless. We suspect that by late Q3 or early Q4 there will be a growing push-back against the weaker yen. Data suggests that foreign investors were not shaken out by the 20% slide in the Nikkei from late May through mid-June. The Nikkei has retraced, nearly to the tick, 50% of those losses. This will reinforce the "buy on dip" strategy by foreign investors. We continue to see small cap shares, like the JASDAQ, with greater upside potential.

8. Money continues to leave the emerging market debt and equities.  The MSCI free float emerging market equity index fell a little more than 16% from late-May through late June.  It bounced earlier this week and has now been turned back from a minimum retracement objective (38.2%).  Technically, it appears set to fall to new lows.   It is not simply Egypt, Turkey and Brazil, though they have captured the imagination of many.  It is the entire asset class.  The driving force appears to be unwinding the long emerging market positions that had been accumulated in recent years and there is more adjustment that is necessary.  It is too early in terms of price and time to pick a bottom.