WHAT NOW? Markets mixed as they play wait and see

One has to wonder just what will change now. Bonds seem to want to sell.  The latest JPM survey suggests that bond investors are the shortest they have been for years yet bonds just seem to keep rallying after every small sell off. Equities are rallying albeit slowly and commodities are doing what commodities do best, be volatile.

It all hinges on the budget and now Trump has a new scapegoat, otherwise known as Puerto Rico. Puerto Rico has suffered significant damage from the hurricanes this season and requires a major rebuild expected to cost tens of billions of dollars. This unfortunately works against Trump and his tax reform bills.

So where to from here? Market data still looks mixed. Motor vehicles came in today better than expected. But then again that could also be as a result of new car purchases following the damage caused by Hurricane Harvey.  Or it could be people buying cars before the Texans corner the market with insurance led claims purchasing new vehicles. Retail will show improvements and that could be a result of the Mandalay Casino massacre leading to a surge of gun sales. Gun manufacturers saw a rise in share prices of up to 3% as a result.

Markets will focus more on tax reform and what it means. Bond investors will focus on the Fed and Fed policy which may change with new leadership. There appears to be a view that Yellen won’t be around for much longer and that a more hawkish Fed Governor is likely to be chosen by Trump when Yellen’s tenure finishes. An unnecessarily hawkish Fed could stall growth.

The other part of the equation is what happens to the economy as the great unwind commences. The banks may get their yield curve although each time the theory is tested the yield curve flattens which suggests that bond holders don’t believe in the growth for growth’s sake theory. Economic growth will be tested by increasing rates. The other test for the economy will be what happens as the ECB winds up its QE policies. That could mean a rapidly accelerating upward spike in rates and that would stall economic growth.

It is probably a little too early for strong optimism. Geopolitical risk remains high and weather affects are distorting the U.S. economy. Green shoots are appearing and this provides optimism for the equity market. Whether the shoots can become limbs, however, remains to be seen.

There are a number of untested theories and old wives’ tales being the make-up of the Trump Administration. Tax cuts on their own don’t generate growth nor does repatriating offshore funds. Trump looks likely to provide a degree of corporate welfare by subsidising inefficient electricity operators and all this acts to drag down growth and blow out the budget.

The real concern for bond investors is not U.S. growth; it is U.S. debt which looks likely to balloon under the Trump Administration’s watch. Ballooning debt will impact severely on future U.S. growth rates and that is something that will keep bond investors up in the wee hours of the morning.

Market Recap:

Equities: hit a new high. The S&P 500 climbed 0.22%, the Dow rose 0.37%, and the Stoxx 600 rose 0.2%.

Currencies: the euro gained 0.1% and the pound fell 0.3%.

Bonds: held steady. The U.S. 10-year closed better by a point to close 2.325%. The U.S. bond curve was steady with the 2/10 closing at 84.8bp, the 2/30 at 138.9 bp, and the 10/30 closed at 53.9bp. The treasury closes were 2 -year closing at 1.475%, the 10-year at 2.325% and the 30-year at 2.866%. Caution prevails. Abu Dhabi sold its first ever 30-year sovereign bond as part of a triple tranche offering. The 30-year was bid at U.S. 30-year treasuries +130 basis points.

Commodities: Gold rose 0.1% and WTI fell 0.4%. Zinc hit a ten year high for a second day as the metal rallied on China output woes. Zinc was up 0.9%. China has shut down 60% of lead zinc mines in the Sichuan Province. Zinc inventory have fallen 64% this year. Nickel rose 2.2% copper rose 0.4% and tin rallied 0.4% on falling inventories. Tin inventories are now down 45%.

Aussie Market Today.

Stronger equities markets offshore should lead to stronger equities markets domestically. At least to better optimism about our equity market. Bonds to be a little languid as traders weigh up being short which is the right way to be at present and geopolitical risk. However, the risk is that bonds could rally as Australia does appear to be improving in both a growth sense and fiscal position although those positions can rapidly deteriorate. On the day I favour slightly better prices for bonds, yields to fall but not by much. The risk remains on the upside. Credit will improve on the day as a strong equity market helps credit. Australian credit is however in a good space as debt ratios are generally conservative and Australian corporates have not been gearing their balance sheets too aggressively.