Topsy turvy world.

For all the reasons that markets have been uneasy, a weight has been lifted. Well, let’s say there is some hope. The good news is that perhaps the U.S. can reach an accord with Mexico, and this is a far bigger deal than with China. Mexico is a major trading partner and perhaps it’s number one trading partner, so a deal is very important for both countries. For every dollar of exports, 40c is due back to an American business. It’s big.

After Trump suspended plans to impose tariffs,  the peso jumped, sovereign bonds fell in price while gold and yen slumped. The day ended as a risk off day and haven assets were discarded. The peso had its best day in a year and the yuan fell to its weakest level since November.

The day was a resounding day for risk off assets.

A number of deals were announced overnight with the big one being United Technologies combining its aerospace business with Raytheon in a deal worth about $121 bio. The stock market now expects a rate cut next week and if there is none the word is that disappointment will reign.  Stocks have rallied on the expectation of a rate cut as a way of blunting any trade war effect.

On the day, the Dow rose but ended a little choppy. The Dow ended up for the sixth straight session, its longest streak since May 2018. U.S. Automakers were up on the day with GM rising 1.5% and Constellation Brands, the brewer of Corona Beer rose 1.9%. Volume was tepid on the day.

Oil prices fell on the back of continuing U.S.-China trade tensions threatening demand for oil. The  Saudis and the Russians have yet to agree on extending an output cutting deal and this is affecting the price. The Russians have a vested interest to keep supply at current levels after they had – and continue to have – problems with supplying contaminated oil.

If people were thinking that Brexit would not impact the UK economy, then maybe think again. The economy contracted sharply in April after car production declined. The decline was the biggest on record and is the result of automakers shutting down UK plants.

The economy declined 0.4% for April after declining 0.1% in March. Growth in the three months to April slowed to 0.3% from 0.5% in the first quarter of 2019. And this slump goes part way to explain the rally in UK bonds. The UK 10-year gilt has plunged some 40 bp and is now trading around 0.84 % from 1.25% in April.

The deal with Mexico does not alter the stance of the U.S. with China. Some bond investors are looking at the recent pull back as an opportunity. The benchmark 10 year rose some 6 bp and the 30 year rose 5bp with the yield curve steepening on the day.

The Fed has a dilemma in the release of its dot plot. The market is looking to the plot to determine or rather gain an insight in the Fed’s thinking and has become an important communication for markets. The dot plot has become a pillar of the Fed’s policy intentions.

The Rant.

Equities had their best week since November. Bonds are screaming recession given the current level of interest rates. The macro outlook suggests that the prolonged trade war could still yet derail the global economy.

The markets are getting somewhat excited by the recent inversion yet again of the curve and also point to the front end of the curve.  Over the past 60 years an inverted yield curve has preceded a recession. However, this should be looked on with caution. Recessions are rare events. And a yield curve flattening may simply be a coincidence especially as the shape of the curve continually shifts and not every flattening has preceded a recession.

But there is something a little wrong with the U.S. economy. The market is not looking for negative surprises and any will cause a shock.

Bonds are less optimistic than equities and in the G20 Countries bonds are less optimistic  about growth. On Friday, the bund 10-year (Europe’s benchmark bond) closed at -0.257%, the lowest on record.

According to JPM strategists, the fall in the 5-year bond indicates a 53% chance of a recession. However, the same strategists see the equity markets have built in a 17% chance and junk bonds have 1% chance. The pricing suggests views are very divergent.

Most traders are expecting a rate cut and that’s pretty much factored in for July. Bond inflows of $17.5bio were the second largest on record. Yet junk spreads remain relatively wide and remain above the 5-year average.

Meanwhile, negative yielding securities are now at the $11.5 tr level.

The one factor that I find most unusual in all this is given the amount of stimulus in the global system, growth is tepid at best. Interest rates are basically at a level where money is being given away. Inflation is well behaved.  Company earnings are resilient. Demand is fine. And yet nothing is happening. Have we found Nirvana? I doubt that but this is all rather weird. With the money being made, growth should be a lot stronger.

 

Market Recap.

Equities: The S&P 500 rose 0.47%  and the Dow rose 0.3%.  The Vix closed at 15.94 while the Stoxx Europe 600 Index rose 0.2%.

Currencies: The Bloomberg Dollar Index rose about 0.1% while he euro fell 0.1% and the peso surged 2.2%.

Bonds: (as at 4.30pm). The ten-year is trading at 2.15% while the 2-year is trading at 1.908% and the 30-year is at 2.627%. The U.S. curve closed on the day with the following closes 2/10 at 23.9 bp, 2/30 at 71.8 bp and the 10/30 closed at 47.6 bp. The U.S. 5-year closed at 1.917% and the 2/5 spread is now 0.8 bp. The ten-year bund closed at -0.217% and the British gilt closed at 0.838%. The 10-year yen gilt is trading -0.12%.

Commodities: Crude fell 1.3% on inventory and overproduction fears. Gold plunged 0.9%.

Bitcoin is trading around $7,950.

 

Aussie Market Today.

Stocks look set to rally on the U.S.- Mexican news. However, the rally cannot proceed too far without some form of Sino- U.S. trade deal being reached. The lack of a deal will be the brake. Look for news, watch the Asian markets but for the moment expect with the risk off attitude prevailing that equities will rally.

Bonds are probably on a steady trajectory. I don’t expect too much movement for the present as many issues on trade have yet to be resolved.  On the day, bonds will probably ease back a little, credit overnight was better bid as equities were on the bid. Government bonds will probably be a little unloved on the day.

On the day, I expect credit to be better bid and especially so in the shorter maturities.