Rally Fizzles As Trade Tensions Mount But Central Banks Say “Buy, Buy, Buy”

US equity futures and European market advanced on Thursday, ignoring the latest slump in Chinese stocks, as the hope of easier monetary policy continued to help fuel a rebound in stocks. The euphoria of recent days was gone, however, as German bond yields plumbed new record lows on Thursday and U.S. treasury yields resumed their fall as renewed trade tensions re-emerged overnight.

Sentiment soured on a lack of progress in talks between U.S. and Mexican officials and after President Trump issued a fresh threat to hit China with tariffs on “at least” another $300 billion worth of Chinese goods. The latest escalation followed a mixed bag of economic data that sparked fresh recession fears, but was also offset by expectations that central banks will ride to the rescue.

As a result, the MSCI index of Asia-Pacific shares ex-Japan and the Nikkei eased a touch, the pan-European STOXX 600 rose 0.6%, with Germany’s DAX up 0.5% while France’s CAC gained 0.7%. US equity futures were up 8 points, tracking European gains.

Early in the session, Chinese stocks fell despite the PBOC’s 500 billion yuan cash injection via a 500 billion MLF, to offset a maturing 463 billion yuan loans. This however was seen as insufficient by the market, and the Shanghai Composite dropped 0.5% and Shenzhen Comp loses 1.2%.

European stocks shrugged off losses in Chinese equities to rise for a fourth straight day, pushing the Stoxx 50 up 0.7%, however gains in Europe were driven by defensive sectors such as utilities, real estate and consumer staples rather than riskier sectors. Much focus was also on the auto sector after Italy’s Fiat Chrysler Automobiles MV abandoned its $35 billion offer for Renault SA, the latter seeing its shares tumble as much as 8%, and depressing automakers which were among the laggards.

“We are still caught in this whirlwind of conflicting economic and corporate stories… we are getting mixed political signals, and quite mixed economic news,” said Andrew Milligan, head of global strategy at Aberdeen Standard Investments. “We have not seen people move away from safe haven assets.”

Meanwhile in rates, a buy on dips mentality continues to dictate price action in bond markets, with most European sovereign yields steady to 4bps lower across the curves. The 10-yr BTP/bund spread was 1bp wider at 271bps, as the yield on Germany’s 10-year government bond fell to new all-time lows ahead of the EBC’s June meeting.

At the same time, the two-year Treasury yields struck their lowest since December 2017, while futures have priced in around 70bps of easing by December. the 10Y Treasury remains firm with 10-year yield off 3bps at 2.10%; Aussie curve steepens for fourth day on 3-year strength. JGB futures retrace about half of Wednesday’s rally. Dalian iron falls 2.4%; WTI crude near $51.80

European yields are likely to slide even more after the ECB tries to boost the eurozone economy and may even set the stage for more action later this year as an escalating global trade war saps growth and unravels the benefits of years of ECB stimulus. In a long-flagged move, the ECB is likely to unveil the TLTRO, offering to pay banks if they borrow cash from the central bank and pass it on to households and firms.

In currency markets, the safe-haven yen was rose, nudging the dollar down 0.2% to 108.21. The dollar lingered against a basket of currencies to trade at 97.234, having bounced from a seven-week low overnight. The euro traded at $1.1240 after briefly stretching as high as $1.1306 on Wednesday. “We expect the ECB to turn more dovish and push the euro lower,” said CBA FX analyst Joseph Capurso. “We expect the ECB to change their forward guidance on interest rates and to trim their macroeconomic projections and modify their forward interest rate guidance because of low inflation and heightened uncertainty about global trade.”

Meanwhile Mexico’s peso plunged as much as 1.3% under a double whammy from trade woes and ratings agency Fitch downgrading the country’s credit rating to BBB, while Moody’s changed its outlook to negative from stable. All of this saw the dollar jump 0.7% against a beleaguered Mexican peso. 

In commodity markets, the non-stop chatter of rate cuts helped lift gold to 15-week highs and the precious metal was last trading at $1,332.71 per ounce. Oil prices flatlined after diving overnight when the Energy Information Administration (EIA) reported the largest build in crude oil and oil product inventories since 1990. WTI was at $51.94 a barrel after having hit its lowest since January, while Brent crude futures stood at $60.91.

Expected data include trade balance and jobless claims. J.M. Smucker, Saputo, and Beyond Meat are among companies reporting earnings

Market Snapshot

  • S&P 500 futures up 0.3% to 2,836.00
  • STOXX Europe 600 up 0.6% to 376.21
  • MXAP down 0.2% to 153.58
  • MXAPJ down 0.1% to 501.50
  • Nikkei down 0.01% to 20,774.04
  • Topix down 0.3% to 1,524.91
  • Hang Seng Index up 0.3% to 26,965.28
  • Shanghai Composite down 1.2% to 2,827.80
  • Sensex down 1.1% to 39,628.42
  • Australia S&P/ASX 200 up 0.4% to 6,383.00
  • Kospi up 0.1% to 2,069.11
  • German 10Y yield rose 0.3 bps to -0.223%
  • Euro up 0.2% to $1.1239
  • Italian 10Y yield fell 4.5 bps to 2.1%
  • Spanish 10Y yield fell 1.9 bps to 0.61%
  • Brent futures up 0.6% to $60.99/bbl
  • Gold spot up 0.5% to $1,336.71
  • U.S. Dollar Index down 0.1% to 97.23

Top Overnight News from Bloomberg

  • President Trump said “not nearly enough” progress was made in talks with Mexico to mitigate the flow of undocumented migrants and illegal drugs, raising the likelihood the U.S. will follow through with tariffs
  • U.S. and Mexican negotiators are set to resume talks Thursday with time running short to avert Trump’s threat to impose tariffs next week. The U.S. president, who’s traveling overseas, said that “not nearly enough” progress was made during a 90- minute meeting between Mexico’s foreign minister and top American officials
  • Trump also reiterated that the U.S. is prepared to place tariffs on another $300 billion of Chinese imports and asserted Beijing “wants to make a deal badly”
  • China unveiled a stimulus plan to help spur demand for automobiles and electronics as the escalating tensions with the U.S. threaten to hurt the economy. Measures announced by the National Development and Reform Commission on Thursday include banning local governments from placing any new curbs on car purchases or limits on usage of new energy vehicles
  • The contest to succeed Theresa May as U.K. prime minister quickly shifted into high gear as rival candidates battled over the rights and wrongs of forcing through a no-deal Brexit. Ex-Brexit Secretary Dominic Raab riled moderates suggesting he could suspend Parliament to deliver Brexit
  • The three top players in Italy’s bickering populist coalition have come together to defy European Union budget rules as the bloc’s executive arm started disciplinary proceedings against Rome
  • India’s central bank cut its benchmark interest rate for a third time this year and paved the way for more policy easing to support an economy growing at the slowest pace since 2014
  • U.S. Treasury Secretary Steven Mnuchin aims to talk about including a currency clause in a bilateral trade deal when he meets Japanese Finance Minister Taro Aso on the sidelines of the G-20 conference in Japan this weekend, Asahi reports
  • U.S. economy broadly expanded in recent weeks and the business outlook remained “solidly positive,” according to a Fed’s Beige book
  • Tory leadership hopeful Michael Gove says he’s open to a further Brexit extension — but Dominic Raab rules one out
  • Denmark’s nationalists had their worst drubbing ever in Wednesday’s election with Mette Frederiksen set to become next prime minister
  • The three top players in Italy’s bickering populist coalition came together Wednesday to defy European Union budget rules as the bloc’s executive arm started disciplinary proceedings against Rome

Asian equity markets traded somewhat mixed with the region cautious after hopes of an agreement to avert Trump tariffs on Mexico have so far failed to materialize, although officials will continue discussions on Thursday. Nonetheless, ASX 200 (+0.4%) and Nikkei 225 (U/C) remained afloat as Australia continued to ride the wave of the lower rate environment and amid broad gains across the sectors aside from mining names, while the Japanese benchmark was also higher but with gains capped amid an indecisive currency, as well as weakness in automakers including Nissan and Mitsubishi Motors after Fiat abruptly withdrew its merger proposal for Renault. Hang Seng (+0.3%) and Shanghai Comp. (-1.2%) were mixed ahead of their extended weekend with initial weakness seen as Chinese press continued to point the blame on the US for the breakdown of negotiations and with Chinese agencies said to be collecting opinions on further countermeasures against the US. However, some of the losses were later pared after the PBoC announced CNY 500bln in 1-year MLFs and reiterated to keep liquidity in the banking system ample. Finally, 10yr JGBs pulled back to below the 153.50 level amid mild gains in Japanese stocks and as yields recovered from multi-year lows, while the enhanced liquidity auction for longer-dated JGBs also showed slightly weaker demand.

Top Asian News

  • China Unveils Stimulus to Help Sales of Cars, Electronics
  • Taiwan Central Bank Surprises With Comments on Currency Market
  • India Cuts Rate to 9-Year Low and Signals More Easing Ahead
  • Black Market in $2b of Meat Severed by Pig Fever Battle

European equities are higher across the board [Eurostoxx 50 +0.8%] as sentiment somewhat diverges from the mixed handover in Asia ahead of the ECB monetary policy decision. Sectors are mostly higher, although European Telecom names underperform with the likes of Vodafone (-3.0%) weighing on the sector as they are ex-dividend. Notable movers include Renault (-7.3%) after Fiat Chrysler (Unch) withdrew its merger offer after the French state, Renault’s largest shareholder, requested discussions be put off to a later date; albeit the French Budget Minister did note that future merger talks between the company may happen. The news of the break-up in talks saw most European autos open lower, although Renault competitor Peugeot (+2.0%) spiked to the top of the CAC. Elsewhere, the FTSE reshuffle is due to take place on June 24th, with confirmation that easyJet (+0.5%) and Hikma Pharmaceuticals (Unch) will be demoted, whilst JD sports (-0.4%) and Aveva (+1.1%) will be added to the blue-chip index. Furthermore, in Italy, the FTSE MIB will see Nexi (+1.1%) replace Banca Generali (+0.1%).

Top European News

  • German Factory Orders Unexpectedly Gain in Sign of Resilience
  • Russian Rate Cut Is Possible Next Week, Nabiullina Says
  • Rolls-Royce Transfers $5.8b of Pension Assets to L&G
  • Hillhouse Said to Near Deal to Acquire Scotch Brand Loch Lomond

In FX, the Dollar is off recovery highs, but the index is consolidating above the 97.000 axis after rebounding from sub-96.500 at one stage on Wednesday when Fed rate cut fever rose on the back of dovish leaning speeches from Brainard and Evans (latter changing tune somewhat from the previous day), hot on the heels of a dismal ADP survey (albeit partly corrective perhaps). Subsequent comments from Kaplan advocating the current wait-and-see policy and a solid looking services ISM helped the Greenback regain composure and the latest Beige Book also maintained a relatively upbeat tone. Hence, the DXY is holding within a 97.344-198 range ahead of more potentially pivotal US data and Fed commentary.

  • JPY/NZD/AUD/EUR – Usd/Jpy looks pretty tethered to the 108.00 level after another rally on improved risk sentiment and a resultant rebound in US Treasury yields fizzled out ahead of 108.50. However, the headline pair may now be hostage to option-related flows given a mass of mega expiries ranging from 108.00 to 109.00 and totalling 10.5 bn. Meanwhile, the Antipodean Dollars are both firmer vs their US counterpart, albeit not breaking fresh ground after recent RBA and RBNZ policy actions and guidance, with Aud/Usd and Nzd/Usd meandering between 0.6983-64 and 0.6633-18 respective parameters. Note, little net reaction to Aussie trade data overnight as a sub-forecast surplus was partly compensated by an encouraging rebound in exports. Elsewhere, the single currency is also fairly contained vs the Buck and generally eyeing the upcoming ECB policy meeting and press conference to see how dovish or not President Draghi is and anticipating details of TLTRO3 – see our Research Suite for a full preview. Eur/Usd is currently hovering around 1.1230 and also close to decent option expiry interest lying at 1.1220-30 in 2 bn and 1.1200-10 in 1.5 bn.
  • NOK/SEK – The Scandi Crowns have both bounced off worst levels to retest technical and psychological resistance vs the Euro around 9.7850 and 10.6000 respectively, with the former propped by an uptick in Norway’s 2019 mainland GDP forecast from the Stats office which also sees the Norges Bank hiking this month in line with official guidance.
  • CAD/GBP/CHF – All relatively flat vs the Usd, but the Loonie could derive some independent impetus from Canadian trade later and deviate from 1.3400-30 bounds, while Cable hovers just below 1.2700 and the Franc near 0.9950.

In commodities, WTI (+0.1%) and Brent (+0.5%) futures are higher on the day, but with gains capped as the benchmarks hold onto most of yesterday’s supply-sparked losses following the barrage of bearish numbers including record high US production and a mammoth surprise build in stockpiles. WTI tested resistance around the USD 52.00/bbl broke the level in a short-lived move, whilst its Brent counterpart briefly breached the USD 61.00/bbl to the upside. In terms of implications ahead of the OPEC gathering, concerns about the rise in US inventories were flagged by oil producers at the JMMC meeting, and this was reinforced by OPEC and allies yesterday in which OPEC Secretary General Barkindo noted that they will take the current “economic bearishness” into account when they meet in the coming weeks.  In terms of the meeting date, Russian Energy Minister Novak noted that he is discussing postponing the OPEC+ gathering to July 2nd/4th, ahead of a meeting with his Saudi counterpart on June 10th. Elsewhere, gold (+0.5%) extends on recent gains and remains near three-month highs as trade tensions show no signs of abating as US-Mexico talks failed to conclude with an agreement; albeit dialogue is expected to resume today. Meanwhile, copper declined to a two-year low amid the bleak demand outlook whilst Dalian iron ore futures were pressured by anticipation of increased supply.

US Event Calendar

  • 7:30am: Challenger Job Cuts YoY, prior 10.9%
  • 8:30am: Trade Balance, est. $50.7b deficit, prior $50.0b deficit
  • 8:30am: Nonfarm Productivity, est. 3.5%, prior 3.6%; Unit Labor Costs, est. -0.9%, prior -0.9%
  • 8:30am: Initial Jobless Claims, est. 215,000, prior 215,000; Continuing Claims, est. 1.66m, prior 1.66m
  • 9:45am: Bloomberg Consumer Comfort, prior 60.8
  • 12pm: Household Change in Net Worth, prior $3.73t deficit

DB’s Jim Reid concludes the overnight wrap

Morning from Berlin where I held a CEO dinner at our big DB Access German conference last night. Basically the theme of my dinner speech was that Germany had done wonderfully well from globalisation and was now in need of a revised business model to deal with what is a potentially vastly different world order going forward due to de-globalisation, the competitive threat of China, the tech revolution and Europe’s problems. Interestingly there wasn’t a huge push back from major business leaders in Germany. I flew to Berlin after opening our 23rd annual Leverage Finance conference back in London. I started my speech by asking the audience five question to gauge the mood and I thought I’d share the results for interest from a room that had several hundred investors.

  1. Where will European Crossover trade by YE 2019? (290 at the time). A) Sub 250 – 5%. B) 250-275 – 11%. C) 275-300 – 23%. D) 300-325 – 30%. E) 325-350 21%. F) Over 350 – 9%.
  2. For predicting the next US recession would you trust a US Economist or the Yield Curve more? A) Definitely a US Economist – 3%. B) More a US Economist but I would worry if the YC started to signal a recession and Economists didn’t – 12%. C) The Yield curve is usually a good indicator but I acknowledge that this time might be different as most US economists think – 50%. D) Definitely the Yield Curve – 34%.
  3. When will the next US recession occur? A) 2019 – 4%. B) 2020 – 27%. C) 2021 – 43%. D) 2022 – 20%. E) To infinity and beyond – 6%.
  4. Will President Trump get re-elected in 2020? A) YES – 74%. B) NO – 26%.
  5. Will a 10yr Italian BTP pay back par AND in Euros? A) YES – 67% B) NO – 33%.

The answers I found most interesting were those for the yield curve and Italy. Indeed the yield curve remains a favourite of investors as a predictive tool for the business cycle. Probably much more than economists trust in it. As for Italy, I did the same poll last year and the number expecting Italy to pay back its debt in full dropped from 79% to 67%. So it’s quite remarkable that in a two trillion Euro plus market, one thirds of investors expect there to be a haircut of some kind within a decade.

Anyway more on Italy later but plenty to get through this morning following a fairly action packed last 24 hours. Before we recap and comment on events there’s the not-so-small case of an ECB meeting to look ahead to today. Our economists expect today’s meeting to be more about signals than actions and beyond a 20bp discount on TLTRO3, think the focus will be on forward guidance, not tiering. We’ll also get new staff forecasts which should show some downgrades. Our colleagues ultimately expect the ECB to focus on preserving the easy policy stance by ensuring the market believes it has credible options to ease the stance further if necessary and protect the transmission mechanism from impairment. See their full summary here .

Back to markets where, one day after the biggest gain for US equities in months and a big sell-off in rates, we’re back to a slightly more measured tone for risk and another big repricing lower at the front end of the Treasury curve after a volatile day in rates. Indeed the MOVE index increased +3.16% again and stretched new 29-month highs. Two-year yields rallied -4.1 bps (down a further -3.4bps this morning) but they retraced off their early morning lows of -11.5bps. The initial catalyst for the sharp move was the worst ADP employment change reading (27k vs. 185k expected) since 2010 or more specifically since the recovery took hold which had the market once again debating rate cuts. However, a better than expected ISM non-manufacturing (56.9 vs. 55.4 expected) and one that included a much stronger 58.1 employment component reading slammed the breaks on the rally and helped yields rise again.

That being said, the July FOMC meeting is now priced in for 21bps of cuts, with 88bps of cuts priced in for the next 12 months. The market is still priced for a very dovish shift in policy. Friday’s jobs report is looking ever-more pivotal for the Fed and for markets. Despite the firming market expectations for rate cuts, the 2s10s curve actually bull steepened to 27.7bps (over 30bps intra-day and 28.8bps this morning) and to the steepest since November last year with 10y yields down a more modest -0.9bps (down a further -2.5bps this morning though). In three days the curve has actually steepened more than +8bps and it continues to defy inversion unlike most of the other common yield curve measures in the US. As we’ve mentioned numerous times this remains our favoured yield curve measure for predicting recession. Meanwhile the end result of all that for equities was a +0.82% and +0.64% move for the S&P 500 and NASDAQ respectively, while the USD was a touch stronger at +0.28% and US HY spreads narrowed -2bps. A decent move lower for WTI oil (-3.25%) post the latest inventories data, which showed another big build in US crude stockpiles, helped ensure that energy was the only industry sector in the red.

Of course we also had our daily dose of trade headlines yesterday. White House trade advisor Navarro said on CNN that Mexico still has time to stop US tariffs going into effect so long as the country addresses steps necessary to take asylum seekers and also heighten security at the border. Interestingly, he declared that the newly announced measures will be “good for the markets.” The tariffs are planned to take effect in four days, barring a change in policy from the White House. Meanwhile, President Trump has said overnight that “not nearly enough” progress was made in talks with Mexico which are set to continue today. He further added that “If no agreement is reached, Tariffs at the 5% level will begin on Monday, with monthly increases as per schedule,” while saying, “The higher the Tariffs go, the higher the number of companies that will move back to the USA!” The Mexican Peso flipped between gains and losses yesterday, ultimately ending -0.16% weaker and is down a further -0.92% this morning.

This morning in Asia markets are trading mixed as sentiment has been dampened by the US and Mexico failing to reach a deal yesterday. Chinese equity markets – the CSI (-0.20%), Shanghai Comp (-0.46%) and Shenzhen Comp (-1.16%) are all down while the Hang Seng (+0.22%) and Nikkei (+0.19%) are up. Futures on the S&P 500 are trading fattish (-0.04%). Markets in South Korea are closed for a holiday. In other overnight news, the PBOC added CNY 500bn to the financial system, its second-largest cash injection on record, likely in a move to ease liquidity concerns after a surprise takeover of a local lender last month.

Back to yesterday and mixed US data wasn’t the only big story in markets. In Europe, we got confirmation from the EU that they are taking the first steps of disciplinary action over Italy’s swelling debt issues. The risks around this issue were certainly rising, however our economists had thought that escalation was going to be more gradual, with an EDP more likely in Q4 after the draft 2020 budget. They have an updated note here . It certainly makes today’s ECB meeting more interesting, especially with regards to the TLTRO eligible collateral base and whether or not to increase it, as our colleagues noted yesterday. In any case the next thing to watch is to see if the EFC decide whether or not to back the EU’s decision, with a two-week or so timeframe to do so.

Thereafter the Commission has to prepare a report for ECOFIN, possibly for their 9 July planned meeting, so this is likely to rumble on for a while yet with the ultimate focus still being the draft 2020 budget in September. Italian assets underperformed yesterday with the FTSE MIB falling -0.36% (versus a +0.29% gain for the STOXX 600) and Italian Banks down -1.70%. Nevertheless, BTPs actually ended up rallying -4.6bps, reversing an intraday rise of +11.4bps, possibly boosted by Commissioner Moscovici’s conciliatory comment in an interview that “we are not talking about fines” and “we want to lead to a common future.” Bund yields fell -2.0bps to another fresh record low but taking the BTP-bund spread to 270bps, right near the middle of its recent range.

It wasn’t just Italy facing the wrath of the EU with Spain also getting a warning from the Commission that it faces a “significant risk of deviation from its 2019 and 2020 fiscal goal”. The details didn’t offer much new however with the Commission having also previously flagged concerns at the time of the failed budget negotiations in Spain at the end of 2018. It’s worth noting that Spain is also coming out of an EDP which therefore offers a bit more flexibility over the next few years with a headline deficit for example of likely closer to 2% of GDP in 2019 (versus 2.5% in 2018). One to watch however. It’s worth noting that the IBEX closed +0.36% yesterday however Spanish yields were still -3.4bps lower.

We also had some commentary from Fed officials again yesterday, with Governor Brainard and regional presidents Kaplan and Evans all speaking (all are voting members of the FOMC this year), plus the beige book of economic conditions. Brainard, viewed as near the center of the committee’s thinking, toed the same line as Clarida and Powell yesterday, saying that trade is a downside risk and that the Fed is prepared to adjust policy to sustain growth if needed. She also emphasised that she will be watching payrolls data closely, though she won’t read too much into any single months’ print. Separately, Dallas President Kaplan said that he would rather “be patient here” since it “its early to make a judgment” on whether a cut will be warranted. Chicago President Evans leaned more dovish, as he usually does, saying that low inflation “by itself could be a reason for a little more accommodation,” even before thinking about trade risks. Finally the beige book suggested that the economy continues to grow modestly but positively, though there were some signs of slowing activity and elevated uncertainty.

As for the remaining data yesterday, in the US the services PMI in May was unrevised at 50.9, leaving the composite also at 50.9. In Europe the services PMI for the Euro Area was confirmed at 52.9 and up 0.4pts versus the flash. That was partly as a result of a 0.4pt upward revision for Germany while Italy (50.0 vs. 49.8 expected) surprised on the upside. Italy’s composite (49.9 vs. 49.3 expected) remained in contraction for the sixth time in the last eight months however.

Before we recap the day ahead, Nick from my team published a new slide pack yesterday which provides a comprehensive overview of the supply and demand dynamics within the EUR non-financial HY market. We explore trends in issuance, redemptions, coupons and fund flows as well as taking a look at rating transitions between HY and IG. Click on the link here to read more.

To the day ahead now, where datawise this morning we have April factory orders and the final Q1 GDP revisions for the Euro Area. That data comes just before the aforementioned ECB meeting before we get Q1 nonfarm productivity and unit labour cost revisions, claims and the April trade balance data all in the US. We’re also due to hear from the BoJ’s Kuroda this morning, the BoE’s Carney and then the Fed’s Kaplan and Williams this afternoon. President Trump is also expected to meet with French President Macron while Chinese President Xi Jinping delivers the keynote address at an international economic forum in Russia.

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Author: Tyler Durden

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