A considered reflection of current events leads to only one conclusion, and that is accelerating inflation of the dollar’s money supply is firmly on the path to destroying the dollar’s purchasing power - completely.
This article looks at the theoretical and empirical evidence from previous fiat money collapses in order to impart the knowledge necessary for individuals to seek early protection from an annihilation of fiat currencies. It assesses the likely speed of the collapse of fiat money and debates the future of money in a post-fiat world, in which the likely successors are metallic money - gold and silver - and some would say cryptocurrencies.
Early action to lessen the impact of a failure of the fiat regime requires an understanding of the role of money in order to decide what will be the future money when fiat dies. Will we be pricing goods and services in gold or a cryptocurrency? Will gold be priced in bitcoin or bitcoin priced in gold? And if bitcoin is priced in gold, will its function of a store of value still exist?
This week saw the news that a vaccine had been found to combat the coronavirus. At least it offers the prospect of humanity ridding itself of the virus in due course, but it will not be enough to rescue the global economy from its deeper problems. Monetary inflation is therefore far from running its course.
The reaction in financial markets to the vaccine news was contradictory: equity markets rallied strongly ignoring rapidly deteriorating fundamentals, and gold slumped on a minor recovery in the dollar’s trade weighted index. Rather than blindly accepting the reasons for outcomes put forward by the financial press we must accept that during these inflationary times that markets are not functioning efficiently.
To obtain a grasp of what is truly happening in capital markets, it is usually best to stand back and observe the broader context. Figure 1 below shows the course of three major indicators this year: the S&P 500 index as proxy for the stock market, the copper price as proxy for industrial commodities and gold as proxy for monetary inflation.
Before 22 March, the stock market had slumped along with copper, and gold had broadly flat-lined. The signals suggested that stock markets and commodity prices were discounting an economic slump, and that gold perhaps offered a haven from systemic risk, at least until it fell sharply in late March.
On Thursday, 16 March, the Federal Reserve Board cut its funds rate to zero and the following Monday, 23 March, the Fed declared unlimited quantitative easing to support the economy through what it declared would be a V-shaped recovery. In other words, an injection of money was expected to ensure economic recovery and a return to normality. March was also the month many countries entered lockdowns to combat the first wave of viral infections.
Following the Fed’s announcement, stock markets recovered sharply, being the direct beneficiaries of unlimited monetary expansion, which we discuss later. Copper recovered strongly, it was said to be on improved prospects for the global economy, but the back story here is more concerning. Following the Fed’s statement, China’s government decided to reduce its stockpile of dollars by buying key industrial commodities, particularly copper. If widely adopted by other foreigners and subsequently the American public, it is a policy that will ultimately destroy the dollar’s purchasing power.
The threat of infinite money printing to the purchasing power of the dollar drove the gold price to new highs, but it can be seen in Figure 1 that gold generally underperformed equities and copper by a significant margin. In one sentence, the reason is the establishment’s dislike and suppression of gold as a rival to fiat currencies, and ignorance in the financial community about the effects and consequences of monetary inflation.
This article is intended to put the latter right and to give the reader an advantage of knowledge in a subject which is bound to dominate financial markets and their underlying economies in the months to come.
The evolution of money and what it represents
In the pre-dawn of history, when the limitations of barter became an impediment to further human progress, two conditions needed to be satisfied. A form of intermediary good commonly accepted as a medium of exchange was indispensable so that through the division of labour and by their individual skills and knowledge, humans could maximise their output in order to acquire other goods to satisfy their needs and wants. The classical economists defined the division of labour and with it the role of money as Say’s law, after the French economist, Jean-Baptise Say (1767—1832), who described it.
The economic benefits of the division of labour are now taken for granted, even by socialists who are otherwise scathing of free markets. And the intermediary good, money, evolved to become commonly accepted by diverse communities, even those which did not trade with each other. Eventually, all civilisations accepted metallic money as the durable, reliable and quantifiable units of exchange.
In descending order of value, that which we would term their purchasing power today, metallic monies were gold, silver and copper. Before the dawn of history, when scribes began to document events, metallic money had already become established. History then recorded numerous occasions when the powerful deceived the public by corrupting money — obtaining it for themselves while forcing the public to accept inferior or worthless substitutes.
The Emperor Nero famously debased the Roman denarius to pay his troops, an act necessary for his personal survival, and a policy pursued by his successors for two centuries. In China, Kublai Khan confiscated gold, silver and precious stones, doling out paper substitutes made from mulberry leaves. From ancient times to the present day, kings, emperors and now governments more often than not were and still are heavily indebted and authorised schemes to replace gold and silver with debased coinage, or their own alternative forms of money. The public’s choice of a medium of exchange was incorruptible; a ruler’s choice was made with the intention to debase it as a source of finance.
Gold and silver had long been accepted as the medium of exchange, chosen by those that use it. The fact that its quantity could not be expanded by a government was no impediment to the advancement of national and personal wealth. The improvement of living standards throughout Europe and America in the nineteenth century was testament to the combination of free markets and sound money.
The limitations imposed by metallic money on the state’s ambitions were seen as a hindrance by socialising governments. The modern template for a resolution of the problem was the Prussian-led federation of German states, unified in 1871 by Otto von Bismarck. Accordingly, when Georg Knapp promoted his state theory of money in 1905, Bismarck furthered his statist ambitions by seizing the opportunity given by Knapp’s state theory of money to finance the expansion of Germany’s military forces, issuing marks unbacked by gold while still on a gold standard.
In August 1914 Germany’s gold exchange standard was temporarily abandoned, and when it became clear that the war was not going to be the short conflict which Germany expected to win, the purchasing power of the paper mark began to fall, collapsing to a notional trillion paper marks to one gold mark in November 1923. Other European currencies without a gold exchange standard and who put vast quantities of unbacked money into circulation also suffered monetary collapses, notably those of Austria, Hungary, Poland and Russia.
Bismarck showed in the years before the First World War that the gold standard was not necessarily protection against monetary debasement. Similarly, Benjamin Strong, the Chairman of America’s Federal Reserve Board, in the early 1920s used inflationary monetary policies under cover of the gold standard, and with the cyclical expansion of bank credit fuelled an unsustainable boom in the 1920s. The result was a stock market collapse, a banking crisis, the ownership of gold banned for American residents in 1933 and a substantial devaluation of the dollar against gold in January 1934. Gold then remained exchangeable for dollars, but only for the settlement of overseas trade.
From these changes, the current monetary situation evolved, driven by a new breed of economist which abandoned classical economics. Classical economics had emphasised the importance of free markets and the immutability of Say’s law. Instead, the mass unemployment in the 1930s was taken as evidence that free markets and the division of labour had failed, and that the state had an interventionist role to ensure that a depression would never happen again.
Despite all the evidence and a priori theory that explains the massive improvements in the human condition that arose from the division of labour and free markets, the denial of Say’s law was formalised by Keynes in his General Theory. Or rather, he skated around the subject, concluding that, “If, however, this is not the true law relating the aggregate demand and supply functions, there is a vitally important chapter of economic theory which remains to be written and without which all discussions concerning the volume of aggregate employment are futile.” Note that Keynes does not deny Say’s law as his acolytes do; he merely supposes that “If it is not the true law”.
From Keynes’s supposition he went on to invent macroeconomics, a mathematically based discipline that substituted human action with aggregates and averages. It justified the temporary budget deficits that are intended to stimulate a slumping economy by monetary inflation — deficits that have now become permanent and increasingly beyond control. By inventing an economic role for the state, Keynes opened the door to unlimited statist intervention and for the generally non-productive state to become an increasing burden on the productive private sector.
With the raison d’être provided by macroeconomics and questionable government statistics, the reliance by governments on inflationary financing has increased over time. We are now at the point when some observers of monetary history warn of hyperinflation. Figure 2 shows the course of the narrow money expansion of dollars in recent years.
The annualised rate of increase of the quantity of narrow money has grown in three phases since the end of the 1970s decade of price inflation. Since last January, it has risen to over 50%; not being more than that is only due to further planned inflationary stimulus being delayed by the presidential election. But in the second half of the fiscal year to last September, inflationary financing of the government’s budget deficit exceeded tax revenues for the first time.
With this evidence a neutral observer is certain to conclude that monetary debasement of the dollar appears to be out of control. And having replaced gold as the world’s reserve currency, the consequences for all fiat currencies and the global economy of the dollar’s looming failure are no less than disastrous. It is hardly surprising that alternative forms of money with restricted increases in circulation are rising in dollar prices. These include the peoples’ metallic monies, gold and silver, to which we can add a new phenomenon, cryptocurrencies and especially its flagship — bitcoin.
Having set the scene in the broadest sense, the next task is to explain why there is no escape from further monetary debasement, which might clarify why markets now appear to be discounting it in rising prices for gold, silver, wider commodities such as copper, and also bitcoin.
The outcome of monetary debasement
It is a common misconception among monetarists that the relationship between the quantity of money and its purchasing power is the only determinant of the relationship. There are two other important factors involved: the fact that additional money takes time to be absorbed into circulation with consequences; and its purchasing power is also determined by changes in the public’s general preference for holding money relative to goods.
The temporal shift in the first factor has important effects, in particular transferring wealth from late receivers to early receivers of the additional currency in the Cantillon effect. And when a government agency, such as its central bank, is the issuer, the ultimate beneficiary is the state at the expense of its people, with important consequences for future inflationary issues.
The importance of the second factor can be illustrated by what happens when the general public realises that all hope of a recovery in money’s purchasing power must be abandoned. Irrespective of the quantity in circulation, the public’s final rejection of an unbacked state currency will render it useless as a medium of exchange. That is the eventual outcome of the unfettered inflation of the money supply. And there are important characteristics to note on the path to that outcome.
As the quantity of money is increased and its purchasing power declines, the desire for cash and the maintenance of bank deposit balances inevitably declines as well. Initially, the evidence is found in rising prices for assets, both financial and real, and explains why, despite deteriorating economic conditions, equity prices and other assets which are not future claims on fixed quantities of money are rising, measured in depreciating currencies.
Until late-2019 these effects were hidden from view by three further influences, two active and one passive. Firstly, large amounts of dollar deposits were absorbed in a carry trade through the fx swap market, whereby hedge funds borrowed euros and Japanese yen to buy dollars, thereby benefiting from an interest rate arbitrage. This led to a large quantity of dollar bank deposits being tied up by speculators directly or indirectly, preventing their disposal for other financial assets (except through the mechanism of bank credit expansion) and therefore retarding the disposal of the total quantity of deposit dollars for commodities and goods. It was the popularity of this trade which ate up the balance sheet capacity of the largest banks, the global systemically important banks — G-SIBs, leading to a banking liquidity crisis that surfaced in the repo market in September 2019.
The second offset to deposit mobility occurred when the Fed reduced its funds rate, removing the reason for the interest rate arbitrage. The dollars freed by that move were partially absorbed by the contraction of bank credit. When interest rates are reduced so that a lender then realises that he has insufficient interest compensation to offset against the future value of the loan, he will decline to make the loan. The refusal can be blamed either on an increase in the level of loan risk in the prevailing economic conditions, or the lender’s realisation that the purchasing power of money is bound to decline over time leading to certain loss. Inflationist economists call the situation deflationary because it works against their desired policies.
The third and passive factor is the large quantity of dollar securities and bank deposits already accumulated by foreigners. Not only did that accumulation delay the price effects of monetary expansion through import substitution, but the deposit element of about $6 trillion ended up being in firm hands.
Now that the global economy has entered a slump, the stock of foreign owned dollar-denominated securities and dollar cash is likely to be reduced, because the dollar is over-owned by foreigners for the evolving trading conditions. As noted above, the Chinese have already decided to reduce their preference for dollars and US Treasury bonds in favour of stockpiling commodities — the very behaviour that more widely leads to a final rush out of a fiat currency into goods not immediately needed. According to the US Treasury’s TIC figures, foreigners own an estimated $20.5 trillion in financial securities and a further $6.3 trillion in short-term bills and bank deposits. If other foreigners follow the Chinese in reducing their dollar investments and deposits, it could be catastrophic for the dollar on the foreign exchanges and its purchasing power in the commodity markets.
The evolving crisis of dollar balances held by domestic users
With the covid lockdowns and the damage being done to the economy, bankers are probably focused more on the elements of risk in an economic crisis than the money’s future purchasing power. But at a time when central banks like the Fed are churning out increasing quantities of money, the public’s use of it has not kept pace with the increased quantity. This is partially illustrated by the contraction of consumer loans that coincided with the helicopter drop of money by the government; in other words, instead of adding to their deposits by borrowing, consumers took the opportunity to reduce some of their debts to lower their cash and credit balances, as illustrated in the graph below.
The effects of hedge fund speculation and the contraction of bank credit have concealed the general public’s reduced preference for money relative to goods. The public is dumping money to acquire all financial assets which are not fixed claims on debt. Irrespective of the fundamental factors faced by corporations, their share prices continue to rise, principally driven by a reluctance to hold money. With the exception of a seller’s proceeds being absorbed by the contraction of bank credit, the proceeds of an asset sale end up being reinvested in other financial assets.
Consumer liquidity has therefore become a matter of pass-the-parcel, with the public progressively less keen to hold money. It is now a short step for the public to anticipate the effects on a wider range of prices of further monetary debasement, and from there to realise that money is losing its purchasing power not just relative to financial assets, but to commodities and goods as well.
It is against this background of changing public perceptions about the value of retaining cash balances that the Fed continues to inject more currency into the economy. The new government, whoever becomes President, intends for part of the stimulus to be a further helicopter drop. As we saw with the first case, that cash is bound to be either used to chase goods not being produced in quantities to match the new money, or to pay down indebtedness. The flood of new money into hands which are reducing their cash balances is bound to accelerate the dollar’s loss of purchasing power.
Further consequences of the dollar’s debasement
If the process of monetary debasement leads to further rejections of cash and deposit money, it will become increasingly reflected in the dollar’s loss of purchasing power measured in prices of everyday goods, so much so that the result will become greater than the additional quantities of the dollar suggests is warranted. It was this effect that led to a shortage of notes in cash-based economies which have suffered an inflationary destruction of money, prompting the issuing authorities to accelerate their note production. The contemporary position is different.
The US and other westernised economies have reduced the use of cash, many with the intention of banishing it altogether. Consumers today use debit and credit cards, which remove the necessity of obtaining physical cash notes to spend, and therefore the disposal of deposit balances in an inflation crisis is instantaneous.
But this does not immediately discourage the monetary authorities from attempting to stimulate consumer spending. As we have seen, money has been fed directly into consumers’ bank accounts, and once the presidential election hiatus in America is resolved, it is anticipated that there will be a further helicopter money drop. With the economy tanking, the neo-Keynesians remain wedded to the idea that the economy lacks sufficient demand. For them there can be no turning back from inflationary policies, and the destruction of the dollar’s purchasing power then becomes a certainty.
As noted above, the debasement of a currency transfers wealth from producers and consumers to the government. It is a process that impoverishes the private sector instead of stimulating it into some vision of wealthless recovery. Not only does the naivety of neo-Keynesian macroeconomists guarantee there will be no let-up in the pace of monetary inflation, but the progressive impoverishment of ordinary people will require a further acceleration of the inflation process for a given transfer of real wealth.
The suppression of interest rates seals this Faustian deal by discouraging lenders from providing loans at rates that fail to compensate them for the future value of their capital, a problem that is only compounded by increasing perceptions of counterparty risk. With its policy of negative interest rates, the European Central Bank has succeeded in turning the whole Eurozone into an economic zombie. In denial of all time-preference, dollar interest rates held at zero have the same effect. The only way the disposal of deposits for unneeded goods can be slowed is to allow a market-determined rate of interest to return. Given the widespread and growing expectation that the dollar’s future purchasing power will decline, interest rates will undoubtedly rise — a process that may have already started with the 5-year Treasury yield having more than doubled to 0.46% since early August.
It should never be the function of a central bank to replace markets in setting interest rates, because only economic actors can decide them between themselves. For savers it is the time preference they require and for borrowers their calculations of acceptable financing costs. By manipulating interest rates lower over time, central banks have entrapped their governments into the expectation of infinite interest-free money. Consequently, when interest rates finally begin to reflect the time preference of an inflating currency, they will impose enormous losses on bond holders and materially increase the expense of inflationary funding of the budget deficit. At first, it is likely that foreign holders of dollars will force this issue.
The alternative, cuts in government spending, will become progressively more difficult politically to achieve, so long as the government sees its duty as being to support the economy by providing it with yet more money, extracted by debasing the currency at an ever-increasing pace. The neo-Keynesians never accept that the solution to the inflation problem is to radically cut government spending in order to stabilise the currency, until it is too late.
The speed of monetary collapse
Of the known hyperinflations there has been considerable variance in the speed with which a currency loses its purchasing power. In 1720, John Law’s livre collapsed in a little less than a year. The paper mark in Germany began to noticeably lose purchasing power in the post war years, but its final collapse started in about May 1923 and was set at a trillion to one gold mark on 14 November.
In the later stages of Germany’s inflationary collapse and when it became difficult to conduct business in paper marks, businessmen turned to gold-backed foreign currencies. That some business was conducted by these means improved business conditions above a level relative to where they would otherwise have been if all business was conducted in paper marks. Export business was profitable and led to remittances in foreign currencies, building the stock of foreign currencies in domestic circulation. Instead of being wholly dependent on paper marks, business transactions and contracts were increasingly conducted in foreign currencies or in paper marks contracted at a predetermined rate relative to dollars or gold.
The growing level of business avoiding the use of the paper mark alleviated it from some of the pressure leading to its collapse. The time taken for its collapse was therefore lengthened, compared with a situation where gold and foreign currencies were absent. A current example of this duality can be found in the rate of loss of purchasing power in the Argentine peso and Turkish lira, currencies which continue to exist in economies with significant levels of transactions conducted in US dollars and gold respectively.
The situation with the US dollar itself is different. It is the world’s reserve currency, not backed by anything other than faith in its issuer, a condition which must also apply to all other currencies that use dollars as their principal reserve asset. Other than gold, there is therefore no alternative sound money available in the event the dollar is rejected by its users. Therefore, the US economy and that of the whole world is exposed to a collapse of the dollar’s purchasing power which, in the absence of an alternative medium of exchange to delay the process, could be surprisingly quick.
The way this outcome could be averted is by putting the dollar back on a credible gold standard, almost impossible given the likely time constraint of a rapid collapse. America claims to have over 8,000 tonnes of gold in its reserves, with which it could back the dollar. To do this it would have to deliver its gold reserves to the direct ownership by the Fed, so that the Fed could settle transactions in gold, and a gold-dollar exchange rate decided. That should be the easy part. More difficult would be the withdrawal of the US Government from its spending commitments so that it could service and repay its debts over time.
The Keynesian macroeconomics that give universal credence to inflationism is the greatest obstacle to a successful return to monetary stability. Any policy of stopping inflationary financing of deficits is likely to meet overwhelming resistance from all quarters of government and their economic advisers. They would be more likely convinced of the benefits of eliminating the burden of accumulated Treasury debt over prioritising monetary stability.
Furthermore, so far as the establishment is concerned, metallic money is money no longer. The re-education of central bankers and their economic advisors about money is only likely to happen in the wake of a complete breakdown of the dollar’s purchasing power. But a monetary collapse in a financially driven economy would be catastrophic not just for the financial system but for the people themselves, because unlike the situation in Germany eighty-seven years ago there is no alternative in which to conduct business and settle transactions.
The replacement for fiat currencies
It would therefore appear that the most likely outcome of the accelerated rate of today’s inflationary policies will be to hasten the demise of the current fiat money regime, centred on the US dollar, and that once the American public awakens to the fact that it is not prices that are rising but the purchasing power of the currency falling, the end of the dollar and all associated fiat currencies is likely to be swift.
It is impossible to forecast when the collapse of the fiat currency will happen, other than to note the factors involved. Since the unwritten objective of monetary inflation is to transfer wealth from the people to its government, an acceleration of the process requires far-sighted individuals to take urgent action to protect themselves instead of becoming victims of unfolding events.
The two options available are the established metallic monies, to which over the millennia people have always returned following the failure of state-imposed currencies, and crypto currencies. Crypto currencies may have hastened the end of fiat currencies by educating important sections of the public about the consequences of monetary debasement, which they now observe accelerating. This development itself threatens to radically escalate the speed with which public trust in fiat fails, and binds the faithful to crypto currency concepts.
The cheerleader for cryptocurrencies is bitcoin, whose ledger is beyond the control of governments. Other than its distributed ledger, the principal quality is that its quantity is capped, giving it an important characteristic of sound money. A disadvantage is it will need additional layers of often opaque applications to enable large volumes of transactions. But for the moment, bitcoin and other cryptocurrencies offer an escape route from the debasement of fiat currencies.
While being an effective store of value so far, bitcoin’s volatility makes it unsuitable for use as transactional money, because a medium of exchange requires it to have an objective value, so that all pricing subjectivity is reflected in the goods and services being exchanged. And without this objective value it is also unsuited for the role of capital in business calculations.
This is the current situation from which events will evolve. On the demise of fiat currencies, the objective value of bitcoin must then either be applied to transactions of goods in accordance with Say’s law, or alternatively be subjectively priced in metallic money. The question being considered is will the quantity-limited bitcoin emerge as the new monetary standard, or will the world return to a relatively more flexible gold standard, evidenced by mine supply and the circulation of gold coins?
The basic principles of money must be restated to answer this question. The use of money is firmly bound to the division of labour. The role of money, from which all its secondary uses are derived, is to enable producers to turn their production into the goods and services they require. As the temporary storage of their production, money must give certainty to its future value measured in goods. Without that certainly there can be no economic calculation. It allows those who defer their consumption to do so and to estimate a time preference, while a borrower can calculate the cost of monetary capital as part of his production plans.
As currently constituted, no cryptocurrency can act as a medium of exchange which satisfies these objectives. They are not sufficiently endowed with the money qualities to replace metallic money and their fully backed substitutes as the world’s post-fiat currency. Gold and silver are already widely distributed in some economies and can emerge rapidly for monetary use. Governments have stocks of gold which will enable them to issue gold-backed substitutes assuming they get over their Keynesian hang-ups. These conditions being the case, in a post-fiat world it can be assumed that cryptocurrencies will be priced in gold after fiat, with gold having the objective transactional value and crypto the subjective. Therefore, only gold and silver and their credible substitutes can re-emerge as the principal form of sound money.
At that point, the store of value function of cryptocurrencies will become redundant, and the need for them will cease. As a store of value before fiat currencies are finally discarded by their users, cryptocurrencies may continue to offer protection against fiat debasement, and the cryptocurrency industry can only hope that fiat money is never actually destroyed and gold backing of them continues to be rejected.
But the continued existence of unbacked fiat is rapidly diminishing as a possibility. Gold and silver will therefore re-emerge as money. Individuals seeking an early shelter in sound money should regard them as such and abandon the common fallacy that they represent an investment. An investment is a hedge against possible events, always to be valued in fiat currency, a component of a portfolio of fiat-denominated assets. But an investment is never money, because money has the objective value against which investments are measured.
It may be easier to adopt this way of thinking by discarding the belief that inflation is an increase in the general level of prices. That is merely the symptom of a currency debasement. Understanding why the government resorts to debauching its currency, the certainty of its eventual failure, the signposts along the way to its demise and acting early instead of reacting to events, are all the key to surviving the annihilation of fiat currencies.
Futures Slide Amid Renewed Recession Fears After China Doubles Down On “Covid Zero”
Futures Slide Amid Renewed Recession Fears After China Doubles Down On "Covid Zero"
One day after futures ramped overnight (if only to crater…
One day after futures ramped overnight (if only to crater during the regular session) on hopes China was easing its highly politicized Zero Covid policy after it cut the time of quarantine lockdowns, this morning futures slumped early on after China's President Xi Jinping made clear that Covid Zero isn't going anywhere and remains the most “economic and effective” policy for China during a symbolic visit to the virus ground zero in Wuhan, in which he cast the strategy as proof of the superiority of the country’s political system. That coupled with renewed recession worries (market is again pricing in a rate cut in Q1 2023) even as monetary policy tightens in much of the world to fight supply-side inflation, sent US futures and global markets lower. S&P futures dropped 0.2% and Nasdaq 100 futures were down 0.4% after the underlying index slumped on 3.1% on Tuesday. The dollar was steady after rising the most in over a week while WTI crude climbed above $112 a barrel, set for a fourth session of gains. In cryptocurrencies, Bitcoin dipped below the closely watched $20,000 level on news crypto hedge fund 3 Arrows Capital was ordered to liquidate.
The Nasdaq's Tuesday’s slump added to what was already one of the worst years in terms of big daily selloffs in US stocks. The S&P 500 Index has fallen 2% or more on 14 occasions, putting 2022 in the top 10 list, according to Bloomberg data.
Not helping the tech sector, on Wednesday morning JPMorgan cut its earnings estimates across the sector, especially for companies exposed to online advertising, citing macroeconomic pressures, forex and company-specific dynamics.
One of the chief drivers for overnight weakness, China's Xi said during a trip Tuesday to Wuhan where the virus first emerged in late 2019 that relaxing Covid controls would risk too many lives in the world’s most populous country. China would rather endure some temporary impact on economic development than let the virus hurt people’s safety and health, he said, in remarks reported Wednesday by state media. As a result, China’s CSI 300 Index extended loss to 1.4% after the headline, while the yuan drops as much as 0.2% to trade 6.7132 against the dollar in the offshore market.
Among key premarket movers, Tesla slipped in US premarket trading. The electric-vehicle maker laid off hundreds of workers on its Autopilot team as it shuttered a California facility, according to people familiar with the matter. Carnival slumped as Morgan Stanley analysts warned that the London and New York-listed cruise vacation company’s shares could lose all their value in the event of another demand shock. Pinterest gained 3.7% as the company’s co- founder and CEO Ben Silbermann quit and handed the reins to Google and PayPal veteran Bill Ready in a sign the social-media company will focus more on e-commerce. Also, despite the pervasive weakness, the Energy Select Sector SPDR Fund ETF (XLE) rebounded off key support (50% Fibonacci) relative to the SPDR S&P 500 ETF (SPY). That said, energy was alone and most other notable movers were down in the premarket:
- Carnival (CCL US) shares fall 8% premarket as Morgan Stanley analysts warned that the cruise vacation firm’s shares could lose all their value in the event of another demand shock.
- Nio (NIO US) shares drop 8.2% after short-seller Grizzly Research published a report on Tuesday alleging that the electric carmaker used battery sales to a related party to inflate revenue and boost net income margins. The company rejected the claims.
- Upstart Holdings (UPST US) shares slump about 9% after Morgan Stanley downgraded the consumer finance company to underweight from equal-weight amid rising cyclical headwinds.
- Ormat Technologies (ORA US) rallies as much as 5% after the renewable energy company is set to be included in the S&P Midcap 400 Index.
- 2U (TWOU US) shares rise 16% premarket. Indian online-education provider Byju’s has offered to buy the company in a cash deal that values the US-listed edtech firm at more than $1 billion, a person familiar with the matter said.
- Watch Amazon (AMZN US) shares as Redburn initiated coverage of the stock with a buy recommendation and set a Street-high price target, saying “there is a clear path toward a $3 trillion value for AWS alone.”
- Shares in data center REITs could be active later in the trading session after short-seller Jim Chanos said in an FT interview that he’s betting against “legacy” data centers. Watch Digital Realty (DLR US) and Equinix (EQIX US), as well as data center operators Cyxtera Technologies (CYXT US) and Iron Mountain (IRM US)
Investors are growing increasingly skeptical that the Fed can avoid a bruising economic downturn amid sharp interest-rate hikes. Evaporating consumer confidence is feeding into concerns that the US might tip into a recession. Naturally, Fed officials sought to play down recession risk. New York Fed President John Williams and San Francisco’s Mary Daly both acknowledged they had to cool inflation, but insisted that a soft landing was still possible.
“It seems the market is in this tug of war between on the one hand the hope that we are close to the peak in inflation and rates, and on the other hand the challenge of a slowing economy and potential recession,” Emmanuel Cau, head of European equity strategy at Barclays Bank Plc, said in an interview with Bloomberg TV. “Central banks are walking a very tight line and to a certain extent dictate the mood in the markets.”
European equities snapped three days of gains, trading poorly but off worst levels with sentiment also hurt by China remaining committed to its zero-Covid approach. Spanish inflation unexpectedly surged to a record, dashing hopes that inflation in the euro zone’s fourth-biggest economy had peaked, and emboldening European Central Bank policy makers pushing for big increases in interest rates. The ECB should consider raising interest rates by twice the planned amount next month if the inflation outlook deteriorates, according to Governing Council member Gediminas Simkus, as calls not to exclude an outsized initial move grow. German benchmark bonds rose, while 10-year Treasury yields slipped to 3.16%. DAX lags, dropping as much as 1.8%. Real estate, autos and miners are the worst performing sectors.
In notable moves in European stocks, Hennes & Mauritz (H&M) gained after the Swedish low-cost retailer’s earnings beat analyst estimates. Just Eat Takeaway.com NV tumbled to a record low after Berenberg analysts rated the stock sell, saying the food delivery firm’s UK business will remain under pressure. Here are some of the biggest European movers today:
- Just Eat Takeaway shares plunge as much as 21% after Berenberg initiated coverage with a sell rating, saying the firm’s UK business will remain under pressure and a sale of its Grubhub unit is unlikely to satisfy the bulls.
- Carnival stocks slumped over 12% in London as Morgan Stanley analysts warned that the cruise vacation firm’s shares could lose all their value in the event of another demand shock.
- Pearson drops as much as 6.1% after the education company was cut to sell at UBS, which reduced forecasts to reflect a weak outlook for 2022 college enrollments.
- Grifols shares plunge as much as 13% on a media report the Spanish plasma firm is weighing a capital raise of as much as EU2b to cut its debt.
- Diageo shares fall after downgrades for the spirits group from Deutsche Bank and Kepler Cheuvreux, while Pernod Ricard also dips on a rating cut from the latter.
- Diageo declines as much as 4.2%, Pernod Ricard -3.7%
- Fluidra shares fall as much as 8.4% after Santander cut its rating on the Spanish swimming pools company. The bank’s analyst Alejandro Conde cut the recommendation to neutral from outperform.
- H&M shares rise as much as 6.8% after the Swedish apparel retailer reported 2Q earnings that beat estimates. Jefferies said the margin beat in particular was reassuring, while Morgan Stanley said it was a “positive surprise” overall.
- Ipsen shares rise as much as 3.1% after UBS analyst Michael Leuchten said that accepting palovarotene refiling priority review should be a net present value and confidence boost.
Asian stocks fell, halting a four-day gain, as renewed angst over the outlook for global economic growth and inflation help drive a selloff across most of the region’s equity markets. The MSCI Asia Pacific Index dropped as much as 1.5%, led by consumer discretionary and information sectors. Chinese equities in particular took a hit, as the CSI 300 Index fell 1.5% Wednesday after Xi Jinping reiterated his firm stance on Covid zero. Tech-heavy indexes in markets such as South Korea and Taiwan took the brunt of Wednesday’s drop amid lingering concerns that monetary tightening in much of the world to fight inflation will cause an economic slowdown. While Federal Reserve members have played down the risk of a US recession, gloomy data such as US consumer confidence have damped investor sentiment.
“Volatility is going to be the enduring feature of the market, I suspect, for the next couple of quarters at least until we get a firm sense that peak inflation has passed,” John Woods, Credit Suisse Group AG’s Asia-Pacific chief investment officer, said in an interview with Bloomberg TV. “Markets, I think, have aggressively priced in quite a serious or steep recession.” China’s four-day winning streak came to a halt, putting its advance toward a bull market on hold. “We will continue to see a risk of targeted lockdowns, and that spoils the initial euphoria seen in the markets from the announcement on relaxation of quarantine requirements,” said Charu Chanana, market strategist at Saxo Capital Markets. “Still, economic growth will likely be prioritized as this is a politically important year for China.”
Japanese equities decline as investors digested data that showed a drop in US consumer confidence over inflation worries and increased concerns of an economic downturn. The Topix Index fell 0.7% to 1,893.57 in Tokyo on Wednesday, while the Nikkei declined 0.9% to 26,804.60. Toyota Motor Corp. contributed the most to the Topix’s decline, decreasing 1.8%. Out of 2,170 shares in the index, 1,114 fell, 984 rose and 72 were unchanged. “There are concerns about stagflation,” said Hideyuki Suzuki a general manager at SBI Securities. “The consumer sentiment from the University of Michigan, which provides one of the fastest data points, has already shown poor figures.”
Stocks in India tracked their Asian peers lower as brent rose to the highest level in two weeks, while high inflation and slowing global growth continued to dampen risk-appetite for global equities. The S&P BSE Sensex fell 0.3% to 53,026.97 in Mumbai, while the NSE Nifty 50 Index declined by an equal measure. Both gauges have lost more than 4% in June and are set for their third consecutive month of declines. The main indexes have dropped for all but one month this year. Twelve of the 19 sub-sector gauges compiled by BSE Ltd. eased, led by banking companies while power producers were the top performers. Investors will also be watching the expiry of monthly derivative contracts on Thursday, which may lead to some volatility in the markets. Hindustan Unilever was the biggest contributor to the Sensex’s decline, decreasing 3.5%. Out of 30 shares in the Sensex, 10 rose and 20 fell.
The Bloomberg Dollar Spot Index inched up modestly as the greenback traded mixed against its Group-of-10 peers; the Swiss franc led gains while Antipodean currencies were the worst performers and the euro traded in a narrow range around $1.05. The relative cost to own optionality in the euro heading into the July meetings of the ECB and the Federal Reserve was too low for investors to ignore and has become less and less underpriced. The yen strengthened and US and Japanese bond yields fell.
In rates, fixed income has a choppy start. Bund futures initially surged just shy of 200 ticks on a soft regional German CPI print before fading the entire move over the course of the morning as Spanish data hit the tape, delivering a surprise record 10% reading for June and more hawkish ECB comments crossed the wires. Treasuries and gilts followed with curves eventually fading a bull-steepening move. Long-end gilts underperform, cheapening ~4bps near 2.75%. Peripheral spreads are tighter to core.
Treasuries are slightly higher as US trading day begins, off the session lows reached as bund futures jumped after the first monthly drop since November in a German regional CPI gauge. Yields are lower across the curve, by 1bp-2bp for tenors out to the 10-year with long-end yields little changed; 10-year declined as much as 5.3bp vs as much as 8.2bp for German 10- year, which remains lower by ~3bp. Focal points for the US session include a final revision of 1Q GDP, comments by Fed Chair Powell, and anticipation of quarter-end flows favoring bonds. Quarter-end is anticipated to cause rebalancing flows into bonds; Wells Fargo estimated that $5b will be added to bonds, with most of the flows occurring Wednesday and Thursday.
In commodities, crude futures advance. WTI drifts 0.3% higher to trade near $112.13. Base metals are mixed; LME tin falls 5.6% while LME zinc gains 0.4%. Spot gold falls roughly $5 to trade near $1,815/oz
Looking ahead, the highlight will be the panel at the ECB Forum that includes Fed Chair Powell, ECB President Lagarde and BoE Governor Bailey. We’ll also be hearing from ECB Vice President de Guindos, the ECB’s Schnabel, the Fed’s Mester and Bullard, and the BoE’s Dhingra. On the data side, releases include German CPI for June, Euro Area money supply for May, and the final Euro Area consumer confidence reading for June. From the US, we’ll also get the third reading of Q1 GDP.
- S&P 500 futures little changed at 3,829.00
- STOXX Europe 600 down 0.8% to 412.69
- MXAP down 1.3% to 159.96
- MXAPJ down 1.6% to 531.04
- Nikkei down 0.9% to 26,804.60
- Topix down 0.7% to 1,893.57
- Hang Seng Index down 1.9% to 21,996.89
- Shanghai Composite down 1.4% to 3,361.52
- Sensex little changed at 53,204.17
- Australia S&P/ASX 200 down 0.9% to 6,700.23
- Kospi down 1.8% to 2,377.99
- German 10Y yield little changed at 1.59%
- Euro little changed at $1.0510
- Brent Futures down 0.4% to $117.46/bbl
- Gold spot down 0.2% to $1,816.09
- U.S. Dollar Index little changed at 104.55
Top Overnight News from Bloomberg
- The Fed’s Loretta Mester said she wants to see the benchmark lending rate reach 3% to 3.5% this year and “a little bit above 4% next year” to rein in price pressures even if that tips the economy into a recession
- The ECB should consider raising interest rates by twice the planned amount next month if the inflation outlook deteriorates, according to Governing Council member Gediminas Simkus, as calls not to exclude an outsized initial move grow
- ECB has “ample room” to hike in 25bps-50bps steps to “whatever rate we think, we consider reasonable,” Governing Council member Robert Holzmann said in interview with CNBC
- Swedish consumers are gloomier than they have been since the mid-1990s, as prices surge on everything from fuel to food and furniture
- China’s President Xi Jinping declared Covid Zero the most “economic and effective” policy for the nation, during a symbolic visit to Wuhan in which he cast the strategy as proof of the superiority of the country’s political system
- NATO moved one step closer to bolstering its eastern front with Russia after Turkey dropped its opposition to Swedish and Finnish bids to join the military alliance
A more detailed look at markets courtesy of Newsquawk
Asia-Pac stocks were pressured amid headwinds from the US where disappointing Consumer Confidence data added to the growth concerns. ASX 200 failed to benefit from better than expected Retail Sales and was dragged lower by weakness in miners and tech. Nikkei 225 fell beneath the 27,000 level as industries remained pressured by the ongoing power crunch. Hang Seng and Shanghai Comp. conformed to the negative picture in the region although losses in the mainland were initially stemmed after China cut its quarantine requirements which the National Health Commission caveated was not a relaxation but an optimization to make it more scientific and precise.
Top Asian News
- Chinese President Xi said China's COVID prevention control and strategy is correct and effective and must stick with it, via state media. Shanghai will gradually reopen museums and scenic sports from July 1st, state media reports.
- US Deputy Commerce Secretary Graves said the US will take a balanced approach on Chinese tariffs and that a clear response on China tariffs is coming soon, according to Bloomberg.
- China State Council's Taiwan Affairs Office said it firmly opposes the US signing any agreement that has sovereign connotations with Taiwan, according to Global Times.
- BoJ Governor Kuroda said Japanese Core CPI reached 2.1% in April and May which is almost fully due to international energy prices and Japan's economy has not been affected much by the global inflationary trend so monetary policy will stay accommodative, according to Reuters.
- Japanese govt to issue power supply shortage warning for a fourth consecutive day on Thursday, according to a statement.
European bourses are on the backfoot as the region plays catch-up to the losses on Wall Street yesterday. Sectors are mostly lower (ex-Energy) with a defensive tilt as Healthcare, Consumer Products, Food & Beverages, and Utilities are more cushioned than their cyclical peers. Stateside, US equity futures trade on either side of the unchanged mark with no stand-out performers thus far, with the contracts awaiting the next catalyst.
Top European News
- UK expects defence spending to reach 2.3% of GDP and said PM Johnson will announce new military commitments to NATO, according to Reuters.
- UK Weighs Capping Maximum Stake in Online Casinos at £5
- Europe Is the Only Region Where Earnings Estimates Are Rising
- European Gas Prices Rise as Supply Risks Add to Storage Concerns
- Gold Steady as Traders Weigh Fed Comments on US Recession Risks
- Choppy Start for Euro-Area Bonds on Mixed Inflation
- Dollar mostly bid otherwise as rebalancing demand underpins - DXY pivots 104.500 within 104.700-350 confines.
- Franc outperforms on rate and risk considerations - Usd/Chf breaches 0.9550 and Eur/Chf approaches parity.
- Euro erratic in line with conflicting inflation data - Eur/Usd rotates around 1.0500.
- Aussie and Kiwi undermined by downturn in sentiment - Aud/Usd loses 0.6900+ status, Nzd/Usd wanes from just over 0.6250.
- Yen rangy following firmer than forecast Japanese retail sales and BoJ Governor Kuroda reaffirming intent to remain accommodative - Usd/Jpy straddles 136.00.
- Nokkie welcomes oil worker wage agreement with unions to avert strike action, but Sekkie hampered by softer Swedish macro releases pre-Riksbank policy call tomorrow - Eur/Nok probes 10.3000, Eur/Sek hovers around 10.6800.
- Rand rattled by decline in Gold and ongoing SA power supply problems, but Rouble rallies irrespective of CBR and Russian Economy Ministry divergence over deflation.
- ECB's Lane said there are two-way inflation risks: "on the one side, there could be forces that keep inflation higher than expected for longer. On the other side, we do have the risk of a slowdown in the economy, which would reduce inflationary pressure", via ECB.
- ECB's Holzmann said "We will have to make an assessment where the economic development is going and where inflation stands and afterwards there’s ample room to hike in 0.25 and 0.5 levels to whatever rate we think, we consider reasonable" via CNBC.
- ECB's Simkus said if data worsens, then he wants a 50bps July hike as an option, 50bps hike is very likely in September; ECB's fragmentation tool should serve as a deterrent, via Bloomberg.
- ECB's Herodotou said EZ inflation will peak this year, via CNBC.
- ECB's Wunsch said government aid may spell more rate hikes, via Bloomberg; 150bps of hikes by March 2023 is reasonable
- ECB is said to be weighting whether or not they should announce the size and duration of their upcoming bond-buying scheme, according to Reuters sources.
- Fed's Mester (2022, 2024 voter) said on a path towards restrictive interest rates; July debate between 50bps and 75bps hike, via CNBC. Mester said if inflation expectations become unanchored, monetary policy would have to act more forcefully; current inflation situation is a very challenging one, via Reuters.
- SARB Governor said a 50bps hike is "not off the table", Via Bloomberg
- CBR Governor said she does not see risks of deflation; sees room to cut rates; sticking to policy of floating RUB exchange rate.
- PBoC will step up implementation of prudent monetary policy, will keep liquidity reasonably ample.
- Bunds unwind all and a bit more of their hefty post-NRW CPI gains as other German states show smaller inflation slowdowns and Spanish HICP soars.
- Gilts suffer more pronounced fall from grace in relative terms and US Treasuries slip from overnight peaks in sympathy.
- UK debt and STIRs also await testimony from MPC member elect to see if newbie leans dovish, hawkish or middle of the road
- 10 year benchmarks settle off worst levels within 147.37-145.14, 112.66-11.85 and 117-12+/116-27 respective ranges awaiting comments from ECB, Fed and BoE heads at Sintra Forum.
- WTI and Brent front-month futures traded with no firm direction in early European hours before picking up modestly in recent trade.
- US Private Inventory (bbls): Crude -3.8mln (exp. -0.6mln), Cushing -0.7mln, Distillate +2.6mln (exp. -0.2mln) and Gasoline +2.9mln (exp. -0.1mln).
- Norway's Industri Energi and SAFE labour unions agreed a wage deal for oil drilling workers and will not go on strike, according to Reuters.
- OPEC to start today at 12:00BST/07:00EDT; JMMC on Thursday at 12:00BST/07:00EDT followed by OPEC+ at 12:30BST/07:30EDT, via EnergyIntel.
- Libya's NOC suspends oil exports from Es Sider port.
- Spot gold is under some mild pressure as the Buck and Bond yields picked up, with the yellow metal back to near-two-week lows
- Base metals are mixed but off best levels after President Xi reaffirmed China's COVID stance – LME copper fell back under USD 8,500/t
US Event Calendar
- 07:00: June MBA Mortgage Applications, prior 4.2%
- 08:30: 1Q PCE Core QoQ, est. 5.1%, prior 5.1%
- 08:30: 1Q GDP Price Index, est. 8.1%, prior 8.1%
- 08:30: 1Q Personal Consumption, est. 3.1%, prior 3.1%
- 08:30: 1Q GDP Annualized QoQ, est. -1.5%, prior -1.5%
- 09:00: Powell Takes Part in Panel Discussion at ECB Forum in Sintra
- 09:00: Lagarde, Powell, Bailey, Carstens Speak in Sintra
- 11:30: Fed’s Mester Speaks on Panel at ECB Forum in Sintra
- 13:05: Fed’s Bullard Makes Introductory Remarks
DB's Jim Reid concludes the overnight wrap
I'm finishing this off in a taxi on the way to the Eurostar this morning and I made the mistake of telling the driver I was slightly pressed for time. He seems to be taking the racing line everywhere and my motion sickness is kicking in.
A little like this car journey, it's been another volatile 24 hours in markets, with a succession of weak data releases raising further questions about how close the US and Europe might be to a recession. That saw equities give up their initial gains to post a decent decline on the day, whilst there was little respite from central bankers either, with sovereign bonds selling off further as multiple speakers doubled down on their hawkish rhetoric. That comes ahead of another eventful day ahead on the calendar, with investors primarily focused on a panel featuring Fed Chair Powell, ECB President Lagarde and BoE Governor Bailey, as well as the flash German CPI print for June, who are the first G7 economy to release their inflation print for the month, which will provide some further clues on how fast central banks will need to move on rate hikes. Just as we go to print the NRW region of Germany has seen CPI print at 7.5% YoY, way below last month's 8.1%. This region is around a quarter of GDP so it could imply the national numbers will be notably softer when we get them later. The energy tax cuts were always going to come through in June so some respite was always possible but at first glance this seems materially below what might have been expected.
This comes after a significant sovereign bond selloff in Europe once again yesterday as President Lagarde reiterated the central bank’s determination to bring down inflation, and described inflation pressures that were “broadening and intensifying”. And although Lagarde stuck to the existing script about the ECB raising rates by 25bps at the next meeting, we also heard from Latvia’s Kazaks who said that “front-loading the increase would be a reasonable choice” in the event that the situation with inflation or inflation expectations deteriorates. Lagarde did nod to this in part, saying that if the ECB was “to see higher inflation threatening to de-anchor inflation expectations, or signs of a more permanent loss of economic potential that limits resources availability, we would need to withdraw accommodation more promptly to stamp out the risk of a self-fulfilling spiral.” Separately on fragmentation, Lagarde said that they could “use flexibility in reinvesting redemptions” from PEPP starting July 1 in order to deal with the issue.
For now, overnight index swaps are only pricing in a +31.3bps move in July from the ECB, so still closer to 25 than 50 for the time being. Meanwhile the rate priced in by year-end rose also by +7.9bps as investors interpreted the comments in a hawkish light. That supported a further rise in yields, with those on 10yr bunds up another +8.1bps yesterday, following on from their +10.7bps move in the previous session. That’s now almost reversed the -21.9ps move over the previous week, which itself was the third-largest weekly decline in bund yields for a decade, and brought the 10yr yield back up to 1.63%, so not far off its multi-year high of 1.77% seen last week. A similar pattern was seen elsewhere, with 10yr yields on 10yr OATs (+9.6bps), BTPs (+4.2bps) and gilts (+7.2bps) all moving higher too.
Things turned near the European close with some poor US data releases piling on to some lacklustre confidence figures in Europe. Earlier in the day the GfK consumer confidence reading from Germany fell to -27.4 (vs. -27.3 expected), taking it to another record low. Separately in France, consumer confidence fell to 82 on the INSEE’s measure (vs. 84 expected), which we haven’t seen since 2013. Then in the US, the Conference Board’s measure fell to 98.7 (vs. 100.0 expected), which is the lowest since February 2021. The Conference Board’s one-year ahead inflation expectations hit a record high of 8.0%, surpassing the June 2008 record of 7.7%, adding to the pessimism. Along with waning confidence, the Richmond Fed’s Manufacturing Index registered a -19, its lowest since the peak onset of the pandemic, versus expectations of -7 and a prior of -9, showing that production data has weakened as well. This put a serious damper on risk sentiment which drove Treasury yields and equities lower intraday during the New York session.
10yr Treasury yields ended down -2.8bps after trading as much as +5.5bps higher during the European session. They are down another -4bps this morning. Concerningly as well, there was a fresh flattening in the Fed’s preferred yield curve indicator (which is 18m3m – 3m), which came down another -9.1bps to 165bps, which is the flattest its been since early March.
With that succession of bad news helping to dampen risk appetite, US equities gave up their opening gains to leave the S&P 500 down -2.01% on the day. Tech stocks saw the worst losses, with the NASDAQ (-2.98%) and the FANG+ (-3.74%) seeing even larger declines. And whilst there was a stronger performance in Europe, the STOXX 600 ended the day up just +0.27%, having been as high as +0.95% in the couple of hours before the close.
We didn’t hear so much from the Fed ahead of Chair Powell’s appearance today, although New York Fed President Williams said that at the upcoming July meeting “I think 50 to 75 is clearly going to be the debate”. Markets are continuing to price something in between the two, although since the last Fed meeting futures have been consistently closer to 75 than 50, with 69.0 bps right now.
Those sharp losses in US equities are echoing across Asia this morning. The Hang Seng (-1.86%) is leading the losses followed by the Kospi (-1.82%), the Nikkei (-1.07%) and the ASX 200 (-1.06%). Over in mainland China, the Shanghai Composite (-0.77%) and the CSI (-0.80%) are slightly out-performing after yesterday’s surprise move by China to slash the quarantine period for inbound travellers (more on this below). Looking ahead, US stock index futures point to a positive opening with contracts on the S&P 500 (+0.18%) and NASDAQ 100 (+0.19%) mildly higher.
Earlier today, data released showed that Japan’s retail sales advanced for the third consecutive month in May (+3.6% y/y) but lower than the consensus of +4.0%, but with the previous month's data revised up to +3.1% (vs +2.9% preliminary). Meanwhile, South Korea’s consumer sentiment index (CSI) fell sharply to 96.4 in June (vs 102.6 in May), sliding below the long-term average of 100 for the first time since Feb 2021. Separately, Australia’s retail sales put in another strong performance as it climbed +0.9% m/m in May, surpassing analyst estimates of a +0.4% increase.
Oil has fallen back slightly overnight after three sessions of gains with Brent futures down -0.84% at $116.99 and WTI futures (-0.64%) at $111.04/bbl as I type.
Just after we went to press yesterday, it was also announced that China would be shortening the required quarantine period for inbound travellers to one week from two. So although China is still very-much committed to a Covid-zero strategy for the time being, this step towards loosening rather than tightening restrictions is an interesting development that helped support Chinese equities in yesterday’s session towards the close which filtered through into early northern hemisphere risk performance.
In terms of other data yesterday, there were signs that US house price growth might finally be slowing somewhat, with the S&P CoreLogic Case-Shiller index up by +20.4% in April, which is down slightly from the +20.6% gain in March. So still a long way from an absolute decline, but that marks a reversal in the trend after the previous 4 months of rises in the year-on-year measure.
To the day ahead now, and the highlight will likely be the panel at the ECB Forum that includes Fed Chair Powell, ECB President Lagarde and BoE Governor Bailey. We’ll also be hearing from ECB Vice President de Guindos, the ECB’s Schnabel, the Fed’s Mester and Bullard, and the BoE’s Dhingra. On the data side, releases include German CPI for June, Euro Area money supply for May, and the final Euro Area consumer confidence reading for June. From the US, we’ll also get the third reading of Q1 GDP.
ECB To Launch “First Line” Of Bond Crash Defense On Friday, Same Day QE Ends
ECB To Launch "First Line" Of Bond Crash Defense On Friday, Same Day QE Ends
For all those curious what the ECB’s "anti-spread tool", meant…
For all those curious what the ECB's "anti-spread tool", meant to bring soaring Italian yields tighter in a time of rising rates and QT even as Europe scrambles to offset record inflation by tightening financial conditions (as discussed most recently in "The ECB Has A Huge Dilemma: Price Stability Or Bail Out Nations"), we got a small update earlier today when ECB President Christine Lagarde said that the central bank will activate one part of the bond-purchasing firepower it’s earmarked as "a first line of defense" against a possible debt-market crisis this coming Friday... which just "coincidentally" happens to be the day the ECB's QE ends!
“We have decided to apply this flexibility in reinvesting redemptions coming due in the PEPP portfolio as of 1 July,” Lagarde said Tuesday in a speech in Sintra, Portugal, where the ECB is holding its annual retreat.
“We will ensure that the orderly transmission of our policy stance throughout the euro area is preserved,” she said. “We will address every obstacle that may pose a threat to our price-stability mandate.”
As Bloomberg notes, the availability of pandemic reinvestments has been touted as an initial crisis-fighting tool since December, though the ECB didn’t choose to resort to that option until an emergency meeting on June 15 that followed a surge in Italian yields.
Unfortunately, that's as much detail as we are going to get, because once again there was generous use of the word flexibility”, this time in the context to how reinvestments from the ECB’s €1.7 trillion ($1.8 trillion) pandemic bond-buying portfolio are allocated, and which will be aimed at curbing unwarranted turmoil in government bonds as interest rates are lifted from record lows to curb unprecedented inflation.
How many more months will the @ecb take before "revealing" just what its "anti-spread" tool is, how it is different from a deflationary QE in a time of inflationary QT... and sending Italian yields soaring.— zerohedge (@zerohedge) June 21, 2022
In other words, just as we jokingly suggested some time ago, the ECB will do QT on even days, QE on odd ones.
*LAGARDE SAYS TOOL WOULD KICK IN IF SPREADS GO TOO FAR, TOO FAST— zerohedge (@zerohedge) June 16, 2022
QT on slow and gentle days
QE on fast and furious days
Meanwhile, adding to the QE now, QT tomorrow confusion, net buying under the ECB's original asset-purchase program is also set to end on Friday, exposing the euro zone’s more-indebted nations to speculative attacks by investors, similar to the blowout in Italian yields already observed at the start of June.
But wait, there's more, because while Europe is desperate for deflationary gale force winds to blow away the runaway inflation that has put an end to the ECB's various easing deus ex machinas, many are convinced that the ECB is hiking into yet another recession which will be triggered by Russia which continues to cut off energy supplies, while there are also doubts in the ECB’s ability to avoid investor panic as it raises rates for the first time in a decade.
Following Lagarde's statement, Italian bonds trimmed declines, narrowing the 10-year yield premium over its German counterpart -- a key gauge of risk in the region -- by six basis points to 192 basis points, the lowest since Thursday.
The ECB is also working on a new bond-buying instrument to tackle the same issue -- known as fragmentation -- and is expected to announce something in the coming weeks. Lagarde said the tool will allow rates to rise “as far as necessary,” complementing efforts to stabilize inflation at the 2% target -- a quarter of the current level.
Of course, that will never happen and instead the moment the details of the "anti-fragmentation" mechanism are revealed and the market realizes just how powerless the ECB is, yields and spreads will blow out to multi-year highs.
Addressing the same event in Portugal, Governing Council member Martins Kazaks said he thinks “sterilization” to nullify the stimulative effect of bond purchases “should be part of the instrument.” The tool “should be a backstop,” used only when urgently needed, he said.
However, since there is no such thing as a deus ex machina, the moment the ECB unveils the specifics and details is when the next crisis begins, and the ECB knows that very well.
Separately, while describing the risk of a recession in the 19-member euro area as “non-trivial,” Kazaks said rates can be raised “quite quickly” and called front-loading hikes -- including a possible July move beyond the planned quarter-point -- “reasonable.”Lagarde backed the ECB’s base case for next month, but stressed the path for steady rate increases could be accelerated if price pressures worsen.
What the ECB should be worried about is how fast it will cut rates after its rate hikes spark the next recession and whether rates will hit a new record negative yield one year from today/
Futures, Commodities Jump After China Cuts Quarantine
Futures, Commodities Jump After China Cuts Quarantine
US stock futures rebounded from Monday’s modest losses and traded near session highs…
US stock futures rebounded from Monday's modest losses and traded near session highs after China reduced quarantine times for inbound travelers by half - to seven days of centralized quarantine and three days of health monitoring at home - the biggest shift yet in a Covid-19 policy that has left the world’s second-largest economy isolated as it continues to try and eliminate the virus. The move, which fueled optimism about stronger economic growth and boosted appetite for both commodities and risk assets, sent S&P 500 futures and Nasdaq 100 contracts higher by 0.6% each at 7:15 a.m. in New York, setting up heavyweight technology stocks for a rebound. Mining and energy shares led gains in Europe’s Stoxx 600 and an Asian equity index erased losses to climb for a fourth session. 10Y TSY yields extended their move higher rising to 3.25% or about +5bps on the session, while the dollar and bitcoin were flat, and oil and commodity-linked currencies strengthened.
In premarket trading, the biggest mover was Kezar Life Sciences which soared 85% after reporting positive results for its lupus drug. On the other end, Robinhood shares fell 3.2%, paring a rally yesterday sparked by news that FTX is exploring whether to buy the company. In a statement, FTX head Sam Bankman-Fried said he is excited about the firm’s business prospects, but “there are no active M&A conversations with Robinhood." Here are some of the other most notable premarket movers"
- Playtika (PLTK US) shares rallied 11% in premarket trading after a report that private equity firm Joffre Capital agreed to acquire a majority stake in the gaming company from a Chinese investment group for $21 a share.
- Nike (NKE US) shares fell 2.3% in US premarket trading, with analysts reducing their price targets after the company gave a downbeat forecast for gross margin and said it was being cautious in its outlook for the China market.
- Spirit Airlines (SAVE US) shares rise as much as 5% in US premarket trading after JetBlue boosted its all-cash bid in response to an increased offer by rival suitor Frontier in the days before a crucial shareholder vote.
- Snowflake (SNOW US) rises 3.3% in US premarket trading after Jefferies upgraded the stock to buy from hold, saying its valuation is now “back to reality” and offers a good entry point given the software firm’s long-term targets.
- Sutro Biopharma (STRO US) shares rise 34% in US premarket trading after the company and Astellas said they will collaborate to advance development of immunostimulatory antibody-drug conjugates, which are a modality for treating tumors and designed to boost anti-cancer activity.
- State Street (STT US) shares could be in focus after Deutsche Bank downgraded the stock to hold, while lowering EPS estimates and price targets across interest rate sensitive coverage of trust banks and online brokers.
- US bank stocks may be volatile during Tuesday’s trading session after the lenders announced a wave of dividend increases following last week’s successful stress test results.
Stock rallies have proved fleeting this year as higher borrowing costs to fight inflation restrain economic activity in a range of nations. European Central Bank President Christine Lagarde affirmed plans for an initial quarter-point increase in interest rates in July, but said policy makers are ready to step up action to tackle record inflation if warranted. Some analysts also argue still-bullish earnings estimates are too optimistic. Earnings revisions are a risk with the US economy set to slow next year, though China emerging from Covid strictures could act as a global buffer, according to Lorraine Tan, Morningstar director of equity research.
“You got a US slowdown in 2023 in terms of growth, but you have China hopefully coming out of its lockdowns,” Tan said on Bloomberg Radio.
In Europe, stocks are well bid with most European indexes up over 1%. Euro Stoxx 50 rose as much as 1.2% before drifting off the highs. Miners, energy and auto names outperform. The Stoxx 600 Basic Resources sub-index rises as much as 3.5% led by heavyweights Rio Tinto and Anglo American, as well as Polish copper producer KGHM and Finnish forestry companies Stora Enso and UPM- Kymmene. Iron ore and copper reversed losses after China eased its quarantine rules for new arrivals, while oil gained for a third session amid risks of supply disruptions. Iron ore in Singapore rose more than 4% after being firmly lower earlier in the session, while copper and other base metals also turned higher. Here are the biggest European movers:
- Luxury stocks climb boosted by an easing of Covid-19 quarantine rules in the key market of China. LVMH shares rise as much as 2.5%, Richemont +3.1%, Kering +3%, Moncler +3%
- Energy and mining stocks are the best-performing groups in the rising Stoxx Europe 600 index amid commodity gains. Shell shares rise as much as 3.8%, TotalEnergies +2.7%, BP +3.4%, Rio Tinto +4.6%, Glencore +3.9%
- Banco Santander shares rise as much as 1.8% after a report that the Spanish bank has hired Credit Suisse and Goldman Sachs for its bid to buy Mexico’s Banamex.
- GN Store Nord shares gain as much as 4.2% after Nordea resumes coverage on the hearing devices company with a buy rating.
- Swedish Match shares rise as much as 4% as Philip Morris International’s offer document regarding its bid for the company has been approved and registered by the Swedish FSA.
- Wise shares decline as much as 15%, erasing earlier gains after the fintech firm reported full- year earnings. Citi said the results were “mixed,” with strong revenue growth being offset by lower profitability.
- UK water stocks decline as JPMorgan says it is turning cautious on the sector on the view that future regulated returns could surprise to the downside, in a note cutting Severn Trent to underweight. Severn Trent shares fall as much as 6%, Pennon -7.7%, United Utilities -2.3%
- Akzo Nobel falls as much as 4.5% in Amsterdam trading after the paint maker announced the appointment of former Sulzer leader Greg Poux-Guillaumeas chief executive officer, succeeding Thierry Vanlancker.
- Danske Bank shares fall as much as 4%, as JPMorgan cut its rating on the stock to underweight, saying in a note that risks related to Swedish property will likely create some “speed bumps” for Nordic banks though should be manageable.
In the Bavarian Alps, limiting Russia’s profits from rising energy prices that fuel its war in Ukraine have been among the main topics of discussion at a Group of Seven summit. G-7 leaders agreed that they want ministers to urgently discuss and evaluate how the prices of Russian oil and gas can be curbed.
Earlier in the session, Asian stocks erased earlier losses as China’s move to ease quarantine rules for inbound travelers bolstered sentiment. The MSCI Asia Pacific Index rose as much as 0.6% after falling by a similar magnitude. The benchmark is set for a fourth day of gains, led by the energy and utilities sectors. BHP and Toyota contributed the most to the gauge’s advance, while China’s technology firms were among the biggest losers as a plan by Tencent’s major backer to further cut its stake fueled concern of more profit-taking following a strong rally. A move by Beijing to cut quarantine times for inbound travelers by half is helping cement gains which have made Chinese shares the world’s best-performing major equity market this month. The nation’s stocks are approaching a bull market even as their recent rise pushes them to overbought levels.
Still, the threat of a sharp slowdown in the world’s largest economy may pose a threat to the outlook. “US recession risk is still there and I think that’ll obviously have impact on global sectors,” Lorraine Tan, director of equity research at Morningstar, said on Bloomberg TV. “Even if we do get some China recovery in 2023, which could be a buffer for this region, it’s not going to offset the US or global recession.” Most stock benchmarks in the region finished higher following China’s move to ease its travel rules. Main equity measures in Japan, Hong Kong, South Korea and Australia rose while those in Taiwan and India fell. Overall, Asian stocks are on course to complete a monthly decline of about 4%.
Meanwhile, the People’s Bank of China pledged to keep monetary policy supportive to help the nation’s economy. It signaled that stimulus would likely focus on boosting credit rather than lowering interest rates.
Japanese stocks gained as investors adjusted positions heading into the end of the quarter. The Topix Index rose 1.1% to 1,907.38 as of the market close in Tokyo, while the Nikkei 225 advanced 0.7% to 27,049.47. Toyota Motor contributed most to the Topix’s gain, increasing 2.2%. Out of 2,170 shares in the index, 1,736 rose and 374 fell, while 60 were unchanged. “As the end of the April-June quarter approaches, there is a tendency for institutional investors to rebalance,” said Norihiro Fujito, chief investment strategist at Mitsubishi UFJ Morgan Stanley. “It will be easier to buy into cheap stocks, which is a factor that will support the market in terms of supply and demand.”
India’s benchmark stock gauge ended flat after trading lower for most of the session as investors booked some profits after a three-day rally. The S&P BSE Sensex closed little changed at 53,177.45 in Mumbai, while the NSE Nifty 50 Index gained 0.1%. Six of the the 19 sector sub-gauges compiled by BSE Ltd. dropped, led by consumer durables companies, while oil & gas firms were top performers. ICICI Bank was among the prominent decliners on the Sensex, falling 1%. Out of 30 shares in the Sensex index, 17 rose and 13 fell.
In rates, fixed income sold off as treasuries remained under pressure with the 10Y yield rising as high as 3.26%, following steeper declines for euro-zone and UK bond markets for second straight day and after two ugly US auctions on Monday. Yields across the curve are higher by 2bp-5bp led by the 7-year ahead of the $40 billion auction. In Europe, several 10-year yields are 10bp higher on the day after comments by an ECB official spurred money markets to price in more policy tightening. WI 7Y yield at around 3.32% exceeds 7-year auction stops since March 2010 and compares with 2.777% last month. Monday’s 5-year auction drew a yield more than 3bp higher than its yield in pre-auction trading just before the bidding deadline, a sign dealers underestimated demand. Traders attributed the poor results to factors including short base eroded by last week’s rally, recently elevated market volatility discouraging market-making, and sub-par participation during what is a popular vacation week in the US. Focal points for US session include 7-year note auction at 1pm ET; a 5-year auction Monday produced notably weak demand metrics.
The belly of the German curve underperformed as markets focus on hawkish comments from ECB officials: 5y bobl yields rose 10 bps near 1.46%, red pack euribors dropped 10-13 ticks and ECB-dated OIS rates priced in 163 basis points of tightening by year end.
In FX, Bloomberg dollar spot index is near flat as the greenback reversed earlier losses versus all of its Group-of-10 peers apart from the yen while commodity currencies were the best performers. The euro rose above $1.06 before paring gains after ECB Governing Council member Martins Kazaks said the central bank should consider a first rate hike of more than a quarter-point if there are signs that high inflation readings are feeding expectations. Money markets ECB raised tightening wagers after his remarks. ECB President Lagarde later affirmed plans for an initial quarter-point increase in interest rates in July but said policy makers are ready to step up action to tackle record inflation if warranted. The ECB is likely to drain cash from the banking system to offset any bond purchases made to restrain borrowing costs for indebted euro-area members, Reuters reported, citing two sources it didn’t identify.
Elsewhere, the pound drifted against the dollar and euro after underperforming Monday, with focus on quarter-end flows, lingering Brexit risks and the UK economic outlook. Scottish First Minister Nicola Sturgeon due to speak later on how she plans to hold a second referendum on Scottish independence by the end of next year. The yen gave up an Asia session gain versus the dollar as US equity futures reversed losses. The Australian dollar rose after China cut its mandatory quarantine period to 10 days from three weeks for inbound visitors in its latest Covid-19 guidance. JPY was the weakest in G-10, drifting below 136 to the USD.
In commodities, oil rose for a third day with global output threats compounding already red-hot markets for physical supplies and as broader financial sentiment improved. Brent crude breached $117 a barrel on Tuesday, but some of the most notable moves in recent days have been in more specialist market gauges. A contract known as the Dated-to-Frontline swap -- an indicator of the strength in the key North Sea market underpinning much of the world’s crude pricing -- hit a record of more than $5 a barrel. The rally comes amid growing supply outages in Libya and Ecuador, exacerbating ongoing market tightness.
Oil prices also rose Tuesday as broader sentiment was boosted by China’s move to cut in half the time new arrivals must spend in isolation, the biggest shift yet in its pandemic policy. Meanwhile, the G-7 tasked ministers to urgently discuss an oil price cap on Russia.
Finally, the prospect of additional supply from two of OPEC’s key producers also looks limited. On Monday Reuters reported that French President Emmanuel Macron told his US counterpart Joe Biden that the United Arab Emirates and Saudi Arabia are already pumping almost as much as they can.
In the battered metals space, LME nickel rose 2.7%, outperforming peers and leading broad-based gains in the base-metals complex. Spot gold rises roughly $3 to trade near $1,826/oz
Looking to the day ahead now, data releases include the FHFA house price index for April, the advance goods trade balance and preliminary wholesale inventories for May, as well as the Conference Board’s consumer confidence for June and the Richmond Fed’s manufacturing index. From central banks, we’ll hear from ECB President Lagarde, the ECB’s Lane, Elderson and Panetta, the Fed’s Daly, and BoE Deputy Governor Cunliffe. Finally, NATO leaders will be meeting in Madrid.
- S&P 500 futures up 0.5% to 3,922.50
- STOXX Europe 600 up 0.6% to 417.65
- MXAP up 0.4% to 162.36
- MXAPJ up 0.4% to 539.85
- Nikkei up 0.7% to 27,049.47
- Topix up 1.1% to 1,907.38
- Hang Seng Index up 0.9% to 22,418.97
- Shanghai Composite up 0.9% to 3,409.21
- Sensex down 0.3% to 52,990.39
- Australia S&P/ASX 200 up 0.9% to 6,763.64
- Kospi up 0.8% to 2,422.09
- German 10Y yield little changed at 1.62%
- Euro little changed at $1.0587
- Brent Futures up 1.4% to $116.65/bbl
- Gold spot up 0.3% to $1,828.78
- U.S. Dollar Index little changed at 103.89
Top Overnight News from Bloomberg
- In Tokyo’s financial circles, the trade is known as the widow- maker. The bet is simple: that the Bank of Japan, under growing pressure to stabilize the yen as it sinks to a 24-year low, will have to abandon its 0.25% cap on benchmark bond yields and let them soar, just as they already have in the US, Canada, Europe and across much of the developing world
- Bank of Italy Governor Ignazio Visco may leave his post in October, paving the way for the appointment of a high profile executive close to Premier Mario Draghi, daily Il Foglio reported
- NATO is set to label China a “systemic challenge” when it outlines its new policy guidelines this week, while also highlighting Beijing’s deepening partnership with Russia, according to people familiar with the matter
- The PBOC pledged to keep monetary policy supportive to aid the economy’s recovery, while signaling that stimulus would likely focus on boosting credit rather than lowering interest rates
A more detailed look at global markets courtesy of Newsquawk
Asia-Pac stocks were mixed with the region partially shrugging off the lacklustre handover from the US. ASX 200 was kept afloat with energy leading the gains amongst the commodity-related sectors. Nikkei 225 swung between gains and losses with upside capped by resistance above the 27K level. Hang Seng and Shanghai Comp. were pressured amid weakness in tech and lingering default concerns as Sunac plans discussions on extending a CNY bond and with Evergrande facing a wind-up petition.
Top Asian News
- China is to cut quarantine time for international travellers, according to state media cited by Reuters.
- Shanghai Disneyland (DIS) will reopen on June 30th, according to Reuters.
- PBoC injected CNY 110bln via 7-day reverse repos with the rate at 2.10% for a CNY 100bln net daily injection.
- China's state planner official said China faces new challenges in stabilising jobs and prices due to COVID and risks from the Ukraine crisis, while the NDRC added they will not resort to flood-like stimulus but will roll out tools in its policy reserve in a timely way to cope with challenges, according to Reuters.
- China's state planner NDRC says China is to cut gasoline and diesel retail prices by CNY 320/tonne and CNY 310/tonne respectively from June 29th.
- BoJ may have been saddled with as much as JPY 600bln in unrealised losses on its JGB holdings earlier this month, as a widening gap between domestic and overseas monetary policy pushed yields higher and prices lower, according to Nikkei.
European bourses are firmer as sentiment picked up heading into the cash open amid encouraging Chinese COVID headlines. Sectors are mostly in the green with no clear theme. Base metals and Energy reside as the current winners and commodities feel a boost from China’s COVID updates. Stateside, US equity futures saw a leg higher in tandem with global counterparts, with the RTY narrowly outperforming. Twitter (TWTR) in recent weeks provided Tesla (TSLA) CEO Musk with historical tweet data and access to its so-called fire hose of tweets, according to WSJ sources.
Top European News
- UK lawmakers voted 295-221 to support the Northern Ireland Protocol bill in the first of many parliamentary tests it will face during the months ahead, according to Reuters.
- Scotland's First Minister Sturgeon will set out a plan today for holding a second Scottish Independence Referendum, according to BBC News.
- ECB’s Kazaks Says Worth Looking at Larger Rate Hike in July
- G-7 Latest: Leaders Want Urgent Evaluation of Energy Price Caps
- Ex- UBS Staffer Wants Payout for Exposing $10 Billion Swiss Stash
- SocGen Blames Clifford Chance in $483 Million Gold Suit
- GSK’s £40 Billion Consumer Arm Picks Citi, UBS as Brokers
- Russian Industry Faces Code Crisis as Critical Software Pulled
- ECB's Lagarde said inflation in the euro area is undesirably high and it is projected to stay that way for some time to comeFragmentation tool, via the ECB.
- ECB's Kazaks said 25bps in July and 50bps in September is the base case, via Bloomberg TV. Kazaks said it is worth looking at a 50bps hike in July and front-loading hikes might be reasonable. Fragmentation risks should not stand in the way of monetary policy normalisation. If necessary, the ECB will come up with tools to address fragmentation.
- ECB's Wunsch said he is comfortable with a 50bps hike in September; adds that 200bps of hikes are needed relatively fast, and anti-fragmentation tool should have no limits if market moves are unwarranted, via Reuters.
- Bank of Italy said Governor Visco's resignation is not on the table, according to a spokesperson cited by Reuters.
- Bond reversal continues amidst buoyant risk sentiment, hawkish ECB commentary and supply.
- Bunds lose two more big figures between 146.80 peak and 144.85 trough, Gilts down to 112.06 from 112.86 at best and 10 year T-note retreats within 117-01/116-14 range
- DXY regroups on spot month end as yields rally and rebalancing factors offer support - index within 103.750-104.020 range vs Monday's 103.660 low.
- Euro continues to encounter resistance above 1.0600 via 55 DMA (1.0614 today); Yen undermined by latest bond retreat and renewed risk appetite - Usd/Jpy eyes 136.00 from low 135.00 area and close to 134.50 yesterday.
- Aussie breaches technical and psychological resistance with encouragement from China lifting or easing more Covid restrictions - Aud/Usd through 10 DMA at 0.6954.
- Loonie and Norwegian Krona boosted by firm rebound in oil as France fans supply concerns due to limited Saudi and UAE production capacity - Usd/Cad sub-1.2850 and Eur/Nok under 10.3500.
- Yuan receives another PBoC liquidity boost to compliment positive developments on the pandemic front, but Rand hampered by latest power cut warning issued by SA’s Eskom
- WTI and Brent futures were bolstered in early European hours amid encouragement seen from China's loosening of COVID restrictions.
- Spot gold is uneventful, around USD 1,825/oz in what has been a sideways session for the bullion since the reopening overnight.
- Base metals are posting broad gains across the complex - with LME copper back above USD 8,500/t amid China-related optimism.
US Event Calendar
- 08:30: May Advance Goods Trade Balance, est. -$105b, prior -$105.9b, revised -$106.7b
- 08:30: May Wholesale Inventories MoM, est. 2.1%, prior 2.2%
- May Retail Inventories MoM, est. 1.6%, prior 0.7%
- 09:00: April S&P CS Composite-20 YoY, est. 21.15%, prior 21.17%
- 09:00: April S&P/CS 20 City MoM SA, est. 1.95%, prior 2.42%
- 09:00: April FHFA House Price Index MoM, est. 1.4%, prior 1.5%
- 10:00: June Conf. Board Consumer Confidenc, est. 100.0, prior 106.4
- Conf. Board Expectations, prior 77.5; Present Situation, prior 149.6
- 10:00: June Richmond Fed Index, est. -5, prior -9
DB's Jim Reid concludes the overnight wrap
It's been a landmark night in our household as last night was the first time the 4-year-old twins slept without night nappies. So my task this morning after I send this to the publishers is to leave for the office before they all wake up so that any accidents are not my responsibility. Its hopefully the end of a near 7-year stretch of nappies being constantly around in their many different guises and states of unpleasantness. Maybe give it another 30-40 years and they'll be back.
Talking of unpleasantness, as we near the end of what’s generally been an awful H1 for markets, yesterday saw the relief rally from last week stall out, with another bond selloff and an equity performance that fluctuated between gains and losses before the S&P 500 (-0.30%) ended in negative territory.
In terms of the specific moves, sovereign bonds lost ground on both sides of the Atlantic, with yields on 10yr Treasuries up by +7.0bps following their -9.6bps decline from the previous week. That advance was led by real rates (+9.6bps), which look to have been supported by some decent second-tier data releases from the US during May yesterday. The preliminary reading for US durable goods orders surprised on the upside with a +0.7% gain (vs. +0.1% expected). Core capital goods orders also surprised on the upside with a +0.8% advance (vs. +0.2% expected). And pending home sales were unexpectedly up by +0.7% (vs. -4.0% expected). Collectively that gave investors a bit more confidence that growth was still in decent shape last month, which is something that will also offer the Fed more space to continue their campaign of rate hikes into H2. This morning 10yr USTs yields have eased -2.45 bps to 3.17% while 2yr yields (-4 bps) have also moved lower to 3.08%, as we go to press.
Staying at the front end, when it comes to those rate hikes, if you look at Fed funds futures they show that investors are still only expecting them to continue for another 9 months, with the peak rate in March or April 2023 before markets are pricing in at least a full 25bps rate cut by end-2023 from that point. I pointed out in my chart of the day yesterday (link here) that the median time historically from the last hike of the cycle to the first cut was only 4 months, and last time it was only 7 months between the final hike in December 2018 and the next cut in July 2019. So it wouldn’t be historically unusual if Fed funds did follow that pattern whether that fits my view or not.
Over in Europe yesterday there was an even more aggressive rise in yields, with those on 10yr bunds (+10.9bps), OATs (+11.0bps) and BTPs (+9.1bps) all rising on the day as they bounced back from their even larger declines over the previous week. That came as investors pared back their bets on a more dovish ECB that they’d made following the more negative tone last week, and the rate priced in by the December ECB meeting rose by +8.5bps on the day.
For equities, the major indices generally fluctuated between gains and losses through the day. The S&P 500 followed that pattern and ultimately fell -0.30%, which follows its best daily performance in over 2 years on Friday Quarter-end rebalancing flows seem set to drive markets back-and-forth price this week. Even with the decline yesterday, the index is +6.36% higher since its closing low less than a couple of weeks ago. And over in Europe, the STOXX 600 (+0.52%) posted a decent advance, although that masked regional divergences, including losses for the CAC 40 (-0.43%) and the FTSE MIB (-0.86%).
Energy stocks strongly outperformed in the index, supported by a further rise in oil prices that left both Brent crude (+1.74%) and WTI (+1.81%) higher on the day. G7 ministers reportedly agreed to explore a cap on Russian gas and oil exports, with the official mandate expected to be announced today, but it would take time for any mechanism to be developed. The impact on global oil supply is not clear: if Russia retaliates supply could go down, if this enables other third parties to import more Russian oil supply could go up. Elsewhere, political unrest in Libya and Ecuador could simultaneously hit oil supply. In early Asian trading, oil prices continue to move higher, with Brent futures up +1.13% at $116.39/bbl and WTI futures gaining +1% to just above the $110/bbl level.
Asian equity markets are struggling a bit this morning. The Hang Seng (-1.00%) is the largest underperformer amid a weakening in Chinese tech stocks whilst the Nikkei (-0.15%), Shanghai Composite (-0.15%) and CSI (-0.19%) are trading in negative territory in early trade. Elsewhere, the Kospi (-0.05%) is just below the flatline. US stock futures are slipping with contracts on the S&P 500 (-0.12%) and NASDAQ 100 (-0.18%) both slightly lower.
In central bank news, the People’s Bank of China (PBOC) Governor Yi Gang pledged to provide additional monetary support to the economy to recover from Covid outbreaks and lockdowns and other stresses. In a rare interview conducted in English, the central bank chief did caution though that the real interest rate is low thereby indicating limited room for large-scale monetary easing.
Turning to geopolitical developments, the G7 summit continued in Germany yesterday, and in a statement it said they would “further intensify our economic measures against Russia”. Separately, NATO announced that it will increase the number of high readiness forces to over 300,000, with the alliance’s leaders set to gather in Madrid from today. And we’re also expecting a new round of nuclear talks with Iran to take place at some point this week, something Henry mentioned in his latest Mapping Markets out yesterday (link here), which if successful could in time pave the way for Iranian oil to return to the global market.
Finally, whilst there were some decent May data releases from the US, the Dallas Fed’s manufacturing activity index for June fell to a 2-year low of -17.7 (vs. -6.5 expected).
To the day ahead now, and data releases include Germany’s GfK consumer confidence for July, French consumer confidence for June, whilst in the US there’s the FHFA house price index for April, the advance goods trade balance and preliminary wholesale inventories for May, as well as the Conference Board’s consumer confidence for June and the Richmond Fed’s manufacturing index. From central banks, we’ll hear from ECB President Lagarde, the ECB’s Lane, Elderson and Panetta, the Fed’s Daly, and BoE Deputy Governor Cunliffe. Finally, NATO leaders will be meeting in Madrid.
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