This week’s holiday-shortened data calendar will provide the latest update on inflation trends, consumer spending and manufacturing. Market participants will also indulge in a plethora of Fed speak with Chair Powell testifying before the Joint Economic Committee on Wednesday and the House Budget Committee on Thursday.
However, given the markets’ singular focus on the prospects for a trade war truce with China, President Trump's speech at the New York Economic Club on Tuesday could be the main event this week. But, given Wednesday’s expiration of the 180-day delay to the results of the Section 232 auto investigation against the EU, this will probably put more eyes on his appearance.
So, President Trump may dominate the headlines on all fronts should he dangle any carrots regarding his much-anticipated meeting with President Xi. Similarly, any commentary on the expiring Section 232 auto tariff reprieve will be of significant focus.
New Zealand’s policy decision is due Wednesday, with market pricing moving in favour of an interest-rate cut.
Thursday brings the monthly data deluge from China where retail sales and industrial production data will top the marquee billing.
Equities nudged higher in the US on Friday, leaving the S&P500 to close at a record high. Bonds sold off a little further as well, 10-year yields rising 2bps to 1.94% – the highest since July.
It could be a mixed day in Asia after President Trump ambiguously stated he has not agreed to a tariff rollback with China, but talks are moving along “very nicely” and that Beijing wants a trade deal “much more than I do.” Of course, that belies the fact that tariffs are becoming a significant drag on US growth with importers paying a record $7bn in duties in September.
Even China’s trade surplus shows the inadvertent corollary of President Trump's trade wars. The massive increase in the surplus is a result of weakening imports and points to China’s increasing self-reliance. Simply put, China doesn’t need to import that much stuff anymore. The trade surplus year-to-date is almost $100bn more than a year ago. Trade wars may have fundamentally changed the way China's supply chain functions.
But adding to the headline hysteria, reports last week were citing multiple sources saying that an agreement to roll back existing tariffs as part of a phase one deal faces fierce internal resistance in the White House and from outside advisers. You also have comments last week from trade adviser Peter Navarro distancing himself from claims of a tariff rollback.
But the most intriguing headline of them all might have come from senior White House adviser Kellyanne Conway. She said the President is "anxious" to sign the deal, suggesting the President is looking for both a political win and a boost for the US economy.
But overall, further positive news on trade and data should continue to filter through to a less negative term premium and higher equity markets. So much so that higher bond yields are unlikely to provide much of a headwind for US equity markets as the implied rebalancing ratio is only getting back to July levels before the out of the ordinary overly bearish bond markets sell-off began. But the 25-basis point sell-off in 10-year USTs could be a much larger issue for bond and gold investors.
Tapping the brakes
As investors try to keep pace with the rapid shifts on the US-China Phase One deal, attempting to make sense of the many comments – official and press ‘sources' – on whether a rollback was now genuinely on the table, they remain hostage to these trade developments.
The markets are faced with a potentially massive dividend payout to Phase One, depending on what side of the coin you take on the rollback demands; one could be looking at a significantly lower probability of that dividend-paying out if President Trump holds out against provisional negotiations in this extremely high stakes game of risk.
And, it's not quantifiably clear if the probability adjusted trade talk dividend payout has gone up consequentially enough to warrant the current level of price action. Hence the reason why some investors might be tapping the brakes and catching their breath.
When it comes to predicting whether or not tariff rollbacks will occur, lets go with the headline flow. And, frankly, it's not worth wasting the brainpower weaving a narrative around odds that forever change without notice. So, it could be back to wait and see mode on the trade talk front as risk now turns a bit more unpredictable.
October CPI inflation shot up to 3.8% y-o-y, as pork prices surged and PPI contracted by 1.6% y-o-y but stabilised at last, pointing to still sluggish industrial activity. However, for monetary policy, curbing PPI deflation should be the bigger priority, as the rise in pork prices is ultimately about restoring supply. All of which suggests we should expect more drips of liquidity from the PBoC but due to concerns over macro leverage, a policy deluge is unlikely.
Still, the PPI stabilisation is good news, suggesting that the manufacturing sector is not deteriorating rapidly, as some feared. That said, factory-gate inflation is far from normalising, suggesting there remains a significant risk of a deflationary spiral.
Alibaba Singles Day
Singles day shopping splurge has reportedly gotten off to a sizzling start, so if the shopping bonanza is to be used as a gauge of China’s consumer sentiment, it looks like a two thumbs up type of result.
The market narratives shouldn’t change much this week where trade talks, OPEC compliance and US oil inventories will feature broadly in Oil market discussions.
Markets are coming off a teeter-totter week getting held hostage to the trade talk headlines. And despite the influence of the trade saga, oil is not a one-dimensional market as traders are also concerned over whether the December OPEC meeting will lead to additional production cuts.
Production cut negotiations are getting complicated by several OPEC ministers who are reportedly indicating a preference not to pursue deeper cuts. And putting this in the context of a seemingly never-ending run of US inventory builds, bullish trade headline ambitions are still running into decent offers keeping the bulk of price action confined to the WTI mid-level zone between USD 55.75- 57.75 per barrel.
Because we usually discuss Oil prices in the context of the prompt contract, any tariff rollback would be a positive for sentiment but it might not be that big otherwise. It would boost risk sentiment but not necessarily provide immediate economic fillip.
Ultimately for oil markets, it's the economic data that count and on that front things are improving. Along with improved risk sentiment around trade talks, long oil positions have continued to move higher after nearly touching the bottom of their historical band four weeks ago, according to the latest CME data.
Reiterating that Oil is not a one-dimensional market while deferring to cross-asset correlations, longer-term bond yields have risen well off the lows of the summer - and for a good reason. The economic data does not appear to be worsening in places like Germany, the US or China, trade sentiment is not as bad as it was during the summer months, and there is a combination of monetary stimulus and easing in the system, which is ultimately bullish for oil.
On Friday gold sold off in Asian and European trading, and well into the US session as trade headlines were taking a significantly soft tone. That was until President Trump told reporters that he has not agreed to roll back tariffs on China imports.
Gold abruptly reversed direction and cut losses, mainly ignoring the USD rally as the dip in bond yields and a slide in equities were supportive, but gold did not stay in the win column long. The slightly better than expected University of Michigan’s preliminary sentiment index reinforced the FOMC neutral bias suggesting that gold may continue to struggle in the face of improving US economic data.
The bulk of the recent gold market decline is being driven by what’s going on in the US Bond markets. And while numerous gold correlations come and go there’s one stable and enduring signal for gold investors: the path of US 10-year treasury yields. When UST 10y yields rise, gold falls and vice versa. But with nominal yields close to 2% 10y TIPs (Treasury Inflation-Protected Securities) at the highs of the three-month range, and 10y rates in Germany and Japan have risen back to levels last seen in early summer, gold looks much less attractive and it’s weighing on prices now.
But as much as rates are a negative factor for gold prices, the length of ETF positioning built over the summer months, which is now underwater, is as equally concerning. If ETF investors decide to cut and run, that weigh alone could wrack markets significantly lower.
So why the markets trade like this?
One reason could be the role of CTAs. Technical charts have been warning of the sell-off all month as the December parabolic shifted significantly on the break of USD 1500 /oz. Those chart traders have been rewarded handsomely, especially as gold markets have failed to bounce. And now elements in the macro discretionary community, particularly JP Morgan and Citi, have closed out gold hedges and moved underweight as the gold sell-off now becomes contagious.
However, the zig-zags in the US-Sino talks will ensure traders stay focused on the trade news again this week. Ultimately gold prices will remain captive to trade headlines.
But further positive news on trade and data should continue to filter through to a less negative term premium. And that means yields move higher, thus providing a double whammy of negativity for gold investors.
Palladium fell dramatically on Friday as the market collapsed under the weight of the massive speculative long liquidations that decimated the market after prices failed to clear USD1,800/oz.
But with the manufacturing facing a system-wide deficit, it’s thought a move below $1700 would trigger a rebound on physical demand from industrial buyers.
FX forecasting has never been a precise science. Still, it feels a lot tougher than it used to be as G-10 rates move towards zero and below and looking towards the old standby rate differentials for guidance appears fruitless as the link between shifts in rates and FX has virtually snapped.
We've morphed from correlating rates on a curve to an almost permanent state of election polling as political gerrymandering has become the biggest driver of currency sentiment today.
The shift in geopolitical focus on trade wars is changing the FX trading landscape. With so much seemingly riding on the resolution of different geopolitical deals – whether it's the US-China trade talks or the Brexit bedlam – currency markets are now moving less to the beat of interest rate differentials and more about pricing geopolitical binary risks efficiently, so it's all about RORO (risk-on risk-off) these days as geopolitical expectations drive the bus.
Moody's has moved the UK's Aa2 credit rating outlook from stable to negative, citing Brexit "paralysis". In a tell-us-what-we-didn’t-already-know scenario, Sterling has opened unchanged to slightly higher as traders continue to buy the dip to technical support level 1.2770-80 on the reduced Brexit tail risks.
Unsurprisingly, USDJPY ran into some profit-taking offers ahead of the week and ahead of resistance at 109.50 after White House adviser Navarro said the US "may" be willing to postpone Dec 15th tariffs. The inflexion point is "may", suggesting even this relative baby step delay in trade tax has not been internally agreed to by the President. Risk sentiment was very frothy last week, so some degree of profit-taking at these levels ahead of the weekend was likely on the cards anyway.
The Chinese Yuan
We’ll need to defer to the Yuan reference rate fix today as I’m holding the same profit-taking inspired view that I published mid-day Asia on Friday.
The direction of travel for the Yuan could be brighter following the possible tariff rollback headlines. Still, with headline uncertainty filling the air, nothing is ever a lock when it comes to US-Sino trade discussions. But also weaving a cautionary tale as perhaps the PBoC might not be happy with the one-way directional skew, as the Yuan is trading firmer in the face of China's economy which is facing considerable headwinds. Perhaps the market is moving a bit too fast for their likes. Keep an eye on the fixes this week.
Read more articles from Stephen Innes: https://www.axitrader.com/int/market-news-blog/stephen-innes.
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Soaring US yields trigger the wrecking ball effect as yields become a source of volatility for risk, rather than a source of support