Markets were somewhat roiled today by comments out of the ECB. Guess what, the ECB may now no longer be a captive buyer. This is something that the ECB has been alluding to for a while and yet it appears to have still come as a shock. For markets, however this is an important development because it means that rates may now be able to normalise to something that resembles a risk reward trade-off.
With about $160 or so billion of monthly buying ceasing, fixed income securities will normalise and credit spreads will widen over time before finding equilibrium. For fixed income managers, the end is not in sight as yet because the central banks are holding back on bond purchases. The central banks no longer playing the game are the BOJ, BoE, ECB (maybe perhaps) and of course the Fed.
The Fed is the most interesting and needs a little watching as we have Stanley Fischer talking tonight and Fed Governor Powell spoke earlier today on housing finance reform. The conundrum for the Fed will be how it positions itself with the taper if the economic conditions continue to deteriorate or if inflation and growth remain stubbornly low. The ADP Research Institute reported the economy added around 158k jobs in June. The market is expecting around 188k. The report hints at soft monthly non-farm payrolls.
The ECB’s Weidmann cautioned the European markets about monetary policy normalisation and economic recovery. This, is in itself a problem for U.S. markets. A significant amount of capital flowed into the U.S. markets on the premise of economic growth and better returns. As economic growth picks up in Europe we will see a tactical shift out of bonds into equities and we will see sales of U.S. treasuries and equities as managers shift their funds to places where they can garner better returns. Over time this means the U.S. markets could be a little weaker and European markets a little better. The USD fell about 0.3% today but part of that fall was also linked to reducing risk ahead of key Fed Speakers comments.
The G20 has started today. Trump visited Poland to sell the Patriot missiles to a loving doting crowd and then headed to Hamburg to meet with the other G20 leaders. He met with Merkel earlier today. Watch for commentary about trade.
As a hint of what is to come for the UK, Barnier, hinted that Brexit will not be without its problems for the British. Already an impact has been felt in defense purchases as a weak pound has caused items to blow out in cost imperilling the spend on defense.
The S&P declined today and fell 0.9%. All 11 sectors on the day fell and this is possibly a hint of more or what may come. The Nasdaq fell 0.9%, and the Dow fell 0.74%. On a struggling note for retail, Victoria’s Secret fell 14.08% on a release of declining sales. GE fell 3.8% on concerns it may have misled the European Commission on a merger deal. Tesla fell 5.6% on concerns the likes of Volvo and other major car manufacturers are set to release a number of electric cars or hybrid electric cars. Volumes were down with 6.66 billion shares changing hands versus 7.18 billion daily average over 20 sessions.
Oil once again was mixed. WTI rose 39 c to close at $45.52 although concerns persist about production and high levels of inventory. The Russians invited Aramco (Saudi) a role in its Artic LNG project Novak. Thermal coal prices rose as a result of Chinese demand and supply disruptions. And in a weather related, incident, flooding in the Three Gorges has caused the capacity of China’s two top hydroelectricity plants to be slashed by two thirds. Glencore has reached an agreement with VW to secure the supply of cobalt. Gold lost 0.2% and wheat collapsed as U.S inventories appear to be ample.
Bonds retraced amid comments from various central bankers. The bond selloff started in Europe post hawkish ECB commentary about QE ending. The 10-year U.S. treasury rose 4 bp to close 2.368%. The German 10-year bund moved 10 bp to close 0.57%, the French 10-year closed up 12 to close at 0.92% and the 10-year gilt widened 7bp to close at 1.32%. The U.S. treasury curve steepened with 2/10 closing 96.8 bp up 6bp, the 2/30 closed 150.4bp up 6bp and 10/30 closed 53.4bp up 2bp. The weak tone looks set to continue for a while as markets digest the fact that large captive buyers are no longer investing.
Equity markets will have to adjust to higher rates and adjust their models accordingly. What investors need to focus on now are policy and where and how economic growth is occurring. For the moment, a lack of policy direction in the U.S. could come back to haunt the Trump Administration. The U.S. market is undergoing some structural adjustments but much of those adjustments are in anticipation of events such as building the wall and tax policy overhaul. Where money need to be spent it is not, it is being wasted frivolously on borrowed money to increase dividend payouts and share buybacks to meet CEO metrics of higher share prices and bigger bonuses. This activity does not make America great. America is falling behind in the technological stakes and Trump’s ideology and distaste for science and technology will hinder the U.S. further.
The Aussie Market Today
I expect markets to be weaker across the board today. Bonds sold off heavily in Europe and that trend will extend into our market. Equities will be weaker as rates and economic outlook appear to be changing. The Aussie resource sector may get a China boost. Geopolitical risks will weigh upon the market and Barnaby Joyce’s comments appear to be slightly at odds with the constructive comments required. At this stage there is no point antagonising our largest trading partner and the reason why Australia has had something like 28 years without a recession.