Just when it was safe to assume that growth and, ergo, all that’s good with the world was souring, earnings and China trumped the markets. The news that China was sending a high level delegation to Washington helped to assuage fears. And earnings helped propel the equity markets to one of the best days in four months.
Commodities stabilised and that helped to calm fears about the economy. Hence, the argument is somewhat circular. Caterpillar jumped 3.2% whilst Century Aluminium added 9.1%. Walmart reported its best sales for 10-years. The change in sentiment was profound and pronounced.
We just need an outcome now or markets will be sorely disappointed. We know that because bonds barely moved and the curve flattened slightly between 2/30 years.
Bonds also failed to take the bait regarding Turkey. Simply put, traders want to know if capital controls are going to be put in place and also if the problems surrounding Turkey are broader and therefore systemic. The German Government called for IMF intervention in Turkey and that goes against what the Turkish Finance minister said earlier in the day.
Amidst all the scrutiny of Turkey, China and tariffs, the one issue that many remain sanguine about is just when the free money era is going to draw to a conclusion. The $13 tr that was pumped into the system by the 4 large central banks is starting to reverse. And this remains a concern amidst the noise of Turkey and trade tariffs. The ECB will stop buying at the end of the year. The Fed has been shrinking its balance sheet by $50 bio. Bonds worth about $470 bio will roll off its balance sheet.
And that points markets towards a tipping point and makes the role of the Fed far more complex. The Fed has to hold a certain cash rate but will have difficulty managing that cash rate because the Treasury has a need to issue securities (thus cheapening securities ) because of the ballooning deficit. Cracks are appearing and the Turkish sell off is one such crack. The skew index is the highest since March so concerns are elevated (skew index gauges the cost of put options on the S&P 500 index relative to calls).
Pictet calculated that every $1 tr of liquidity injection corresponds to a 20 point rise in the MSCI global index, and a similar fall if it is withdrawn. The problem is that emerging markets have used this liquidity and gorged on the issuance of debt in a low interest and weakish dollar outlook. That has now changed. Rates are rising and the dollar is stronger and this exacerbates the problem.
However, all is not that bad. Liquidity removal will take time and it is estimated that U.S. private banks are generating about $ 600 bio a year in liquidity. This offsets the Fed tightening to some degree.
Equities: The S&P rose 0.8%, the Dow rose 1.55% and the Stoxx 600 rose 0.6% Vix closed 13.45.
Currencies: The Bloomberg Dollar Index fell 0.2% while the yen fell 0.2%.
Bonds: The ten-year closed around at 2.8696%. The 2-year closed at 2.62% and the 30-year closed at 3.027%.
The ten-year bund closed at 0.317% and the UK gilt closed at 1.24% and the OAT closed at 0.675%. The U.S. curve closed the day with the following closes 2/10 at 24.6 bp, 2/30 at 40.5 bp and the 10/30 closed at 15.7 bp. The U.S. 5-year closed at 2.745%.
Commodities: WTI rose rose 0.7%. Gold rose 0.1%. The Bloomberg Commodity Index rose 1% while copper fell 4%.
Bitcoin is trading around $6,285.
Aussie Market Today.
What a difference a day makes. Equities on the back of the Chinese news rallied but this rally can change direction should China and the U.S. not resolve their differences. The politics remain elevated.
Bonds should retreat a little on the day. After all it’s Friday, we have seen a good rally over the week so a little profit taking would not be unexpected.
Geopolitical risks remain high.