Where were the buyers on Friday? It was if there was a buyer’s strike. Buyers appear to have abandoned the markets and simply appear to be biding their time waiting for what’s next. What’s next may come in the form of higher bond yields, it could be labeling China as a currency manipulator under Mnuchin’s new currency manipulation definitions and guidelines, or it could simply be poor data. Oooh, and of course there are still the mid-terms to get through. And given the recent global events and, in particular, the death of Khashoggi and Trump’s reactions who knows what the electorate could do.
Either way all this uncertainty will be played out in markets and buyers will be reluctant to do much if anything at present. This week will provide some insights into the state of the U.S. economy upon the release of the GDP. The bond markets will be attuned to this data. They will also be looking into the Feds thinking with the newly appointed Vice Chair Richard Clarida speaking later this week.
Italy will be front and centre this week as well. Last Friday, Moody’s downgraded Italy to just above junk in a warning shot for Italy to improve its deficit. Italy is now rated Baa3, its lowest investment rating. It avoided being junked. The outlook is stable but that too can quickly change. Italy will remain a core problem for Europe and has the potential at times to unsettle bond markets. On the day, the BTP’s (Italian Bonds) staged a relief rally of sorts. At one point on the day, the 10-year touched 3.81% before closing at 3.55%. As a result of the downgrade, U.S. bonds were pared as the downgrade was expected to take Italy into junk.
Perception and expectations are always a two-edged sword. Libor also bounced on Friday as a direct result of the 2-10 year flattening and the expectations that the Fed will hike a few more times over the coming year. These movements whilst small only add further pressure on borrowing costs for emerging market borrowers, and borrowers alike.
For the stock market, the gyrations of the week ended where the week started. The S&P 500 Index powered up 1% on corporate profits only to give back most of the gain. Tariffs are once again presenting as a problem and as such Boeing and Caterpillar were casualties. There is also concern that as the stock market helped GDP growth kick along in 2018 that growth may also slow as a result of a steady to weaker stock market.
Goldman’s have calculated that the lack of equity stimulus could cut some 25 bp from growth in 2019. They have estimated that if stocks were to fall some 10% this could cut 75bp from growth. And that’s probably why Trump is so keen to align himself with the stock market because an observable there (return) correlates with a recording of growth. It is in Trump’s interests to see higher returns.
Markets may well again have got onto the rollercoaster and it will be interesting to observe how the various issues play out. That’s the currency manipulation tag for China, the issue with the Saudis, Europe, king dollar and rising interest rates and Trump’s opportunism.
It appears as though Trump has promised a tax plan to middle-income earners – just days before the mid-terms – that no one in the GOP knows anything about. This has left party members stunned but highlights Trump’s opportunism to do anything to get elected. Or rather, get his party members elected even if it appears as though it appears to be a bald-faced lie or at least a misleading statement.
Mnuchin and others appeared to have no knowledge of this tax cut and could provide no details. A tax cut won’t help the deficit at this stage but it could conceivably generate growth and that would provide a necessary and needed boost. However, whether that boost offsets the loss of revenue for the Government is another matter. Surely Moody’s and S&P would have considerable concerns and possibly downgrade the U.S. if Trump enacted such a policy move.
So what should we expect this week? There certainly are a lot of moving parts in a geopolitical sense. Italy, the Saudis, tensions with Russia, and trade tensions with China and the heating up of the U.S. political environment ahead of the mid-terms. This is a lot for markets to digest and also take a trading stance. Italy will be front and centre this week as it meets with Brussels. The U.S. finds itself at the WTO as some 12 trade requests are up for adjudication. And Europe continues to annoy the U.S. as the European current account surplus continues to widen.
Equities: The S&P was down 0.04%. The Dow rose 0.26%. The Stoxx fell 0.1%. The Vix closed at 19.89. Shanghai SE Composite down 22.88% YTD.
Currencies: The Bloomberg Dollar Index fell 0.1%. The yen fell 0.3%. The euro rose 0.4%.
Bonds: The ten-year closed around at 3.196%. The 2-year closed at 2.908%. The 30-year closed at 3.379%. The ten-year bund closed at 0.442%. The OAT closed at 0.834%. The U.S. curve closed on the day with the following closes 2/10 at 28.4 bp, 2/30 at 46.8 bp and the 10/30 closed at 18.2 bp. The U.S. 5-year closed at 3.048%.
Commodities: WTI fell gained 0.9%. Gold fell 0.1%.
Bitcoin is trading at around $6,437.
Aussie Market Today.
Equities may well be muted today. Geopolitical risks are rising, however. The feeling may be that the recent selloff was overdone and we could see some buying. How the uncertainty of the Wentworth By-election plays out will be difficult to judge. Opinion will vary but any reaction will be predicated on the LNP’s ability to control and run Parliament. Fun times ahead.
On the day, I expect bonds to be weaker for no particular reason other than with the U.S. bond yields rising that means Aussie bonds should also rise. The Aussie remains vulnerable as the interest differential between here and the U.S. remains negative and with a drought and a possible slowing of the economy. The AUD looks vulnerable as a trend. An uptick in commodities will help but a strong dollar could slow that move.
Geopolitical risks remain high.