Market Awaits Fresh Incentives

Perhaps the FDA’s approval removes another reason for vaccine hesitancy in the US, while China has reportedly brought its flare-up under control. US S&P 500 and NASDAQ set new record highs, and Asia Pacific markets moved higher, though there was profit-taking in Hong Kong on Chinese tech names. It was the third consecutive advance of the MSCI Asia Pacific Index.

European shares are edging higher, and US futures are posting minor gains. The US 10-year continues to push against the 1.30% area, while European yields are mostly 2-3 bp higher. The greenback is narrowly mixed through the European morning, with a small upside bias. The majors are +/- 0.15%. Emerging market currencies are also mixed, but the JP Morgan EM FX index is rising for the fourth session after trending lower in the previous four sessions. Gold has backed off from the 200-day moving average ($1810) it approached yesterday. Support is seen near $1775. October WTI is consolidating its big two-day advance (~8.5%), while iron ore and copper are extending their recoveries.

Asia Pacific

China’s regulatory crackdown spooked foreign investors. The SEC has modified the disclosures needed for Chinese IPOs in part because of Beijing’s recent actions. Consider the performance of the NASDAQ Golden Dragon Index, which is compromised of companies whose shares are traded in the US while conducting a majority of their business in China. It set a record high in mid-February, a few months after Beijing stopped the Ant IPO. It was halved in the following six months and recorded its lowest level since June 2020 on August 19.

The index has fallen for eight consecutive weeks coming into this week and 11 of the past 12 weeks. The Golden Dragon Index rose by 8% yesterday. It was the third successive gain. The fear of missing out may be greater than the fear of Beijing’s moves. US SEC Chair Gensler renewed his warning that unless Chinese companies listed in the US allow inspections of their financial audits, their shares could be delisted from the NYSE and NASDAQ starting in 2024.

South Korea’s central bank meets tomorrow. It is a close call, and news yesterday of rising household credit favors a hike. The issue is really one of timing, and a slight majority in the Bloomberg survey see the next meeting (October 12) as more likely. Governor Lee had suggested last month that a hike as early as this week was possible and opined that policy would still be easy if the central bank were to deliver 1-2 hikes. The reason we thought the October timeframe would be more likely is primarily due to the virus. Seoul is under lockdown that has been extended into next month. The government’s goal is to have 70% fully vaccinated by the end of next month.

The dollar remains in a tight range against the Japanese yen. It is trapped in a JPY109.40-JPY110.25 band for the fifth session, though it has not been above JPY110 since Monday. There is a $585 mln option at JPY109.90 that will be cut today. The greenback has been stopped just short of it in Asia yesterday and again today. The Australian dollar fell every session last week, and its 3.2% drop was the largest since last September. It bounced 1.75% over the past two sessions and is consolidating in a little more than a 10-tick range on either side of $0.7250.

News that China’s second busiest port has re-opened after a two-week covid-related shutdown is a welcome development. After closing above the upper end of its recent range (~CNY6.50) before the weekend, the dollar slipped back to around CNY6.47 yesterday but has steadied today. It is inside yesterday’s range, unable to resurface above CNY6.48. The PBOC set the dollar’s reference rate a bit firmer than the models expected (CNY6.4728 vs. CNY6.4715). The central bank was generous in its seven-day repo operation, providing a net injection of CNY40 bln, the largest in six months.

Europe

The German August IFO survey disappointed. The current assessment improved, but the drop in expectations warns that many fear this is the best it gets and that the German economy is near a peak. At 97.5, the expectations component was the lowest since February. The current assessment (101.4 vs. 100.4) is the highest since May 2019. It leaves the overall assessment of the business climate at 99.4, a three-month low. Separately, we note that the controversial Nord Stream 2 pipeline lost a case in a German court earlier today.

It was unable to secure a waiver from EU rules that require the pipeline to be certified as an independent transmission or system operator. This appears to require that Gazprom surrender control and command functions. It is part of what could be a long, drawn-out process, and the pipeline has already sought the necessary certification. Gas prices initially jumped on the news as some fear a delay in operations.

At yesterday’s G7 meeting, Europe tried in vain to convince the US to extend the August 31 deadline. The Taliban also rejected the idea of an extension. However, given that it will take a couple of days to complete the withdrawal of US troops, there are only a few more days to finish the civilian evacuations. Press reports cite a UK diplomatic memo noting that President Biden assured the G7 in June that he would maintain enough of a security presence in Afghanistan to ensure their operations in Kabul could continue following the main US withdrawal. However, Biden has requested a contingency plan from the Defense and State Departments for a delay.

The Scottish National Party concluded a powersharing agreement with the Greens at the end of last week. In exchange for two ministerial posts, the Greens will support the government on confidence votes and budget issues related to their common program. The SNP was a seat shy of a majority in the May elections, and the support of the Greens put the government on more stable footing. The Greens also favor Scottish independence.

SNP leader and First Minister of Scotland Sturgeon is pushing hard for a referendum in the current term of parliament (five years) and ideally in the middle of 2023. The SNP holds a party conference next month, which may launch a more formal campaign. The UK government is cool toward a second referendum (1st lost in 2014), and many legal experts think 10 Downing Street could block it. Still, a non-binding test of the people’s preferences could give the power of a referendum as the non-binding EU referendum did for the UK in 2016. Of course, Scottish independence would require, among other things, either its own currency or a formal agreement to use sterling.

The euro’s three-day bounce is stalling. The single currency is trading within yesterday’s roughly $1.1725 to $1.1765 range. The key to the upside is the $1.18-area. It has not closed above it since August 5. Ahead of Fed Chair Powell’s speech at Jackson Hole at the end of the week, the market may be reluctant to push it. On the other hand, significant options at $1.17 expire for the next three days. Today’s options for a little more than one billion euros are the smallest.

Tomorrow, options for 1.4 bln euros will be cut, and on Friday, there are options for 1.5 bln euros at $1.17. Sterling is also inside yesterday’s range (~$1.3695-$1.3750). Recall sterling settled last week near $1.3625. A convincing move above $1.3740 could see the range extended to $1.3775-$1.3800. The euro has recovered from its lowest level against sterling (August10, ~GBP0.8450) and reached almost GBP0.8600 at the start of the week. It has since pulled back to about GBP0.8545 yesterday and is also recording an inside session.

America

The US’s recent 30-year bond sale did not see strong demand. Indirect bidders, often foreign central banks and multilateral lenders, came out for the 10-year auction on August 11 and yesterday’s two-year sale. Indirect bidders took a record of slightly more than 77% of the 10-year and 60.5% of yesterday’s $60 bln two-year note sale, the most in more than a decade. The high-yield of the two-year was a smidgeon above 24 bp, a two basis point increase from last month’s auction and but just inside the 0-25 bp Fed Funds target.

Following the strong bid-cover (2.65x vs.2.47x in July), the yield slipped a couple of basis points. Some observers suggest that the reduced T-bills have encouraged foreign central banks to move further out on the curve. While that may explain the demand for the two-year, it is not really a compelling narrative for the 10-year demand. China’s reserves rose by nearly $22 bln in July, and this did not seem to be bolstered by valuation as in July, as the other reserve currencies, like the euro, sterling, and yen, rose against the dollar.

We were skeptical when some economists shrugged off the terrible miss on last week’s retail sales report (-1.1% vs. median of -0.3% on the headline and -1.0% on the core vs. median forecast of -0.2%), claiming it reflected a shift toward services away from goods. Alongside the Richmond Fed’s manufacturing survey was a service revenue index. It fell from 19 in July to 15 in August.

Other services data point to slower growth, Friday, ahead of Chair Powell’s speech at Jackson Hole, July personal consumption expenditures will be reported. It is more comprehensive than retail sales. After rising 1% in June, the July increase is expected to moderate to around 0.4%. That was the average monthly increase in 2019. In 2018, it averaged a monthly gain of 0.3%.

The US reports its preliminary estimate of July durable goods orders today. Boeing reported it received 31 orders in July, the least since April, and follows a surge of 219 orders in June. The company made 28 deliveries in last month after 45 in June. This is partly why the durable goods orders tend to be volatile. Orders excluding transportation are expected to have matched June’s 0.5% increase, but the risk appears to be on the downside.

Canada’s economic calendar is light until next week. Mexico provides a final read on Q2 GDP. Quarter-over-quarter growth was estimated at 1.5%, and it might be revised slightly higher. Brazil IPCA August inflation is reported today, and another rise is expected. The year-over-year pace of 8.59% in July is likely topping 9% this month. The central bank meets next on September 22 and is widely expected to hike the Selic rate by 100 bp.

The US dollar peaked before last weekend near CAD1.2950. It posted a bearish shooting star candlestick and set a low yesterday, as stocks and oil rallied, near CAD1.2580, around the 20-day moving average and roughly where this month’s uptrend line is found. Below there, the 200-day moving average is near CAD1.2550. On the upside, resistance is seen by CAD1.2650.

The greenback traded between MXN20.1460 and MXN20.4565 before last weekend and remains in that range for the third session. This week, the dollar has been recording higher lows and lower highs, but it has not traded below MXN20.00 since last Wednesday. The dollar recorded a key reversal against the Brazilian real ahead of last weekend by making a new three-month high (~BRL5.4740) before reversing and falling through the previous session’s low. It settled near session-lows yesterday (~BRL5.2460). The next target is near BRL5.2070.

This article was written by Marc Chandler, MarctoMarket.