Overview: The reverberations from last week continue to roil the capital markets today. Equities and bonds have been sold and the greenback bought. Most of the large markets in Asia Pacific fell by more 2%, including Japan’s Nikkei, Taiwan’s Taiex, and South Korea’s Kospi. Ironically, the Shanghai and Shenzhen Composites eked out minor gains, but the CSI 300 still eased. Europe’s Stoxx 600 is off 1% after falling nearly 1.7% before the weekend. US futures warn of another lower opening. Recall that the major indices gapped lower last Monday as well. The US 10-year yield is up 7 bp to 3.11%, probing last week’s highs, while the two-year yield reached new highs near 3.48% before steadying. European benchmark yields are 12-13 bp higher. The dollar is firmer against all the major currencies. Most of the European currencies but the Norwegian krone and British pound are off modestly, while the yen, the Australian dollar and sterling are off more than 0.5%. Emerging market currencies are under pressure, though the Hungarian forint and Czech koruna are steady to firm. Rising rates and a stronger dollar are no match for gold, which has been sold to a new low for the month (~$1720.45). There appears little support in front of $1700. October WTI is firm near $93.75. Talks with Iran will carry over into next month. US natgas slipped fractionally last week and is up nearly 2.5% today to about $9.55 after testing $10 last week. News that Germany is near its 85% tank capacity objective for next month has seen Europe’s benchmark soften a little (off ~1.8%). Iron ore is giving back most of last week’s 4.7% gain. December copper is off 3.4% after posting a minor gain last week (~0.7%). December wheat rallied 4.4% last week and is off almost 1% today.
Asia Pacific
As China's Xi awaits the
coronation for a third term, the challenges seem to be intensifying. Shijiazhuang, the provincial capital of
the Hebei province that borders Beijing is in a partial lockdown for three
days, which started yesterday, and includes the suspension of subways and
non-essential business operations. It is a city of more than 11 mln people and
follows lockdowns in other parts of Hebei last week. Power shortages are
leading to rolling blackouts in different regions and compounding the challenge
arising from the end of property boom. The economic toll spurred the government
into action recently with rate cut and new lending/spending initiatives mostly
concentrated on infrastructure. Over the weekend, China reported that
industrial profits fell 1.1% in the Jan-July period. They had risen by 0.8% in
the first half. The decline in profits dovetails with the deepening of the
economic slump seen in a batch of data reported recently.
While several central
bankers used the Jackson Hole gathering to brandish their anti-inflation
credentials, BOJ's Kuroda stuck fast to his commitment to easy monetary policy.
He argued that nearly all
of Japan's inflation is a function of higher commodity prices. He said that
inflation would decelerate next year toward 1.5%. It was 2.6% in July, but 1.2%
excluding fresh food and energy. Kuroda's inflation outlook is not much
different than the market’s. A recent Bloomberg survey found a median forecast
for Japan's 2023 CPI of 1.3% at the headline rate than 1.4% core.
July retail sales in
Australia surged 1.3%, the most in four months, and four-times more than the
median forecast in Bloomberg's survey. It did nothing for the Australian dollar, which extended the
pre-weekend sell-off. Still, the resilience of the Australian consumer was
impressive despite the cost-of-living squeezes. Gains were recorded in five of
the six retail categories., with only demand for household goods softening. The
Reserve Bank of Australia meets on August 6 and the swaps market has a little
more than a 70% chance of 50 bp hike discounted and about 150 bp priced between
now and the end of the year.
The jump in US rates helped
lift the dollar to JPY139.00 in late Asia turnover. It is the highest since July 15, the day
after the 24-year high was set near JPY139.40. Japan's Cabinet Secretary
Matsuno noted that the government is closely was closely watching market
movements. However, the price action can hardly be surprising given the
divergent messages at Jackson Hole. The greenback's momentum stalled a bit. Initial
support is seen near JPY138.50. Although there was not take-up at the BOJ's
offer to buy bonds today, the 0.25% cap on the 10-year is being approached
again. The Australian dollar recorded a bearish outside down session ahead
of the weekend by trading on both sides of Thursday's range and settling below
Thursday's lows. Follow-through selling today has seen it approach $0.6840,
new lows for the month. Importantly from a technical perspective, it appears to
have broken the neckline of a possible head and shoulders top that projects
through the two-year lows set in mid-July near $0.6680. Nearby resistance is
now seen around $0.6870. The dollar gapped sharply higher against the
Chinese yuan. It reached a new two-year high of CNY6.9225 and did not trade
below CNY6.90 today. The pre-weekend high was about CNY6.8730. Since August 10,
the greenback has risen by roughly 2.50%. The CNY7.0 is an important
psychological level, but it peaked in September 2019 near CNY7.1850 and
revisited it in May 2020 (~CNY7.1780). For the fourth session, the PBOC set the
dollar's reference rate weaker than the median in Bloomberg's forecast as it
moderates the pace of the dollar's rise. Today's fix was at CNY6.8698 vs.
expectations for CNY6.8794.
Europe
Europe is on the verge of a
recession. Indeed, it may
have already begun. It is not going to deter the European Central Bank or the
Bank of England from continuing to aggressively tightening monetary policy. A
few ECB members from creditor countries, like Austria and the Netherlands, want
the central bank to consider raising rates by 75 bp at next month's meeting. They
do not yet seem to represent a majority, but it is not like the members from
the periphery are advocating a quarter point move.
The surge in natural
gas and electricity prices promise to drive inflation higher and intensify the
squeeze on the cost-of-living. Before the weekend, the UK regulator (Ofgem) confirmed what was
suspected. The cap on gas and electricity will be lifted by 80% on October 1. This
likely means that UK inflation will rise above the BOE's latest forecast of
13.2%, and the new UK government face strong pressure to help households and
businesses. It had previously committed GBP30 bln to households but that was
three months ago. To cover the same proportion now of the increase would
require another GBP14 bln, according to some estimates. We had thought that
increased military spending would replace some of the Covid-related spending,
and while that may be true, it now seems that energy subsidies and the like
will also generate wider deficits. It may also lead to increased
nationalization of the parts of the energy sectors.
Sweden holds legislative
elections on September 11 and the law-and-order and anti-immigration party that
has been shunned by the mainstream parties appears to be surging in the polls. The Swedish Democrats could be the second
largest party after the ruling Social Democrats. Three different polls
published last week give it 1/5-1/4 of the vote compared with 30% for the
government. The Moderates have been pushed into third place with 16-18% support.
The center-right bloc of the Moderates, Christian Democrats, and Liberals could
ally with the Swedish Democrats. The polls show it is virtually tied with the
center-left bloc of Social Democrats, Left, Centre, and Green parities.
Separately, Sweden reported the economy expanded by 0.9% in Q2, missing 1.4%
expectations, though Q1 was revised from a 0.8% contraction to a 0.2% expansion.
Sweden's CPI was at 8.5% in July and the underlying measure, which uses fixed
interest rates, and is the target measure was at 8.0%. The policy rate stands
at 0.75%, following the 50 bp hike in June. The Riksbank meets on September 20
and the swaps market is pricing in a large hike (~100 bp).
The euro retested last
week's 20-year low near $0.9900, and when it held a small, short-covering
bounce in early European activity lifted it to almost $0.9960. A combination of bearish sentiment and
options for nearly 1.6 bln euro at $1.000 may deter a move above parity. The
session high is a little shy of $0.9990. For its part, sterling slumped to a
new two-year low near $1.1650. It posted a bearish outside down day ahead of
the weekend. Sterling has met the double top objective near $1.17, we had
monitored that had a $1.20 neckline. The spike low in March 2020 saw it trade
to almost $1.1410. Sterling is finding some support in the European morning,
and the $1.17 area now should offer resistance.
America
Fed Chair Powell terse
speech at Jackson Hole before the weekend did not appear to change expectations
for the trajectory of monetary policy. The implied yield of the March 2023 Fed funds futures contract continued
to trade about 20 bp above the December 2022 contract as it had for a couple of
weeks. This points to a strong expectation of a rate hike n Q1 23. The implied
yield of the December 2023 Fed funds futures was about seven basis points below December
2022 contract. This implies a small chance of a cut late next year. These
spreads were virtually unchanged in response to the Fed Chair's speech. Powell
did succeed in doing was to drive down the two-year breakeven, which speaks to
the much-maligned anti-inflation credibility of the Federal Reserve. The
two-year breakeven dropped almost 16 bp before the weekend to 2.74%. Consider
that it was near 4.5% as recently as mid-June. This speaks to the increase in
the real rates, which in turn punished equities and risk assets more broadly.
One common refrain against
the Federal Reserve is that is does not have tools to address the supply shocks
that have lifted prices. Another
tact, illustrated by a paper presented at Jackson Hole, is that fiscal policy
is responsible for around half of the recent increase in inflation and that
when inflation is of a fiscal nature, monetary alone does is not effective. There
are at least two answers to these criticisms. First, it underscores our claim
that the extent of fiscal tightening has not been appreciated. The budget
deficit is expected to fall to below 4.5% of GDP this year from 10.8% last year.
Consider that after the Global Financial Crisis, the US deficit peaked around
10% of GDP (2009) and did not fall below 5% of GDP until 2013. Second, Powell
address this in his Jackson Hole Speech in the first lesson of the 1970s
inflation. Price stability, regardless of what threatens it, is the Fed's
responsibility. He argued that the Fed needs to constrain demand to bring it in
line with supply.
What will be a data-packed
week, culminating with August nonfarm payrolls, will begin slowly, with only
the Dallas Fed manufacturing survey and the sale of $96 bln in 3- and 6-month
bills on tap for today. The risk-off mood has sent the greenback through last week's highs
(~CAD1.3060-5) against the Canadian dollar. The next chart area is seen around
CAD1.3100-35, and the two-year high set in mid-July (~CAD1.3225). The intraday
momentum indicators are flagging and warning of the risk of some backing and
filling before those highs are attacked. Initial support is seen in the
CAD1.3030-50 band. Meanwhile, the greenback appears to have built a base
around MXN19.82 and looks poised to challenge recent highs near MXN20.26. It
reached MXN20.15 in Asia before pulling back to below MXN20.10. Further easing
toward MXN20.05 may provide a lower risk entry.
Disclaimer
Reviewed by Marc Chandler
on
August 29, 2022
Rating:
