DXY took off last night as EUR lifted and CNY crashed:
Bizarrely, the Australian dollar rocketed back up:
Metals hung on:
Miners were flushed:
EM stocks remain at the cliff’s edge:
Yield curves were crushed everywhere:
Stocks repaired about half of the damage:
Westpac has the wrap:
The slump in German business confidence extended yet further in August, the IFO survey slipping to 94.3 from 95.8, its lowest levels in seven years.
US factory orders for durables goods posted a healthy 2.1% gain in July but volatile transportation goods accounted for much of the upside surprise; bookings excluding transportation fell 0.4%. Meanwhile core durable goods shipments, a close proxy for business investment slipped 0.7% (est +0.1%) and the previous month was revised lower, signaling overall ongoing caution in capital spending.
Factory activity in the Dallas area picked up pace in August, the Dallas Fed manufacturing index rising to +2.7 from -6.3.
Australia: RBA Deputy Governor Debelle speaks on “A Balance of Payments” in Canberra at 12:50 pm.
Europe: ECB Vice President de Guindos and BOE member Tenreyro speak on policy.
US: Aug consumer confidence index is expected to decline to 129.3 from 135.7 – a still above average level but trade policy uncertainty has tentatively started to weigh on household sentiment. Jun FHFA house prices and S&P/CS home prices data are released.
All thanks to a few words from El Trumpo, via Bloomie:
U.S. President Donald Trump said China wants to make a deal as he praised comments by the country’s chief negotiator for trade, offering a more conciliatory tone after escalating tensions in recent days.
“They want to make a deal very badly,” Trump said during a press conference from the Group of Seven meeting in Biarritz, France. “The tariffs have hit them very hard.”
Trump also noted remarks made earlier Monday by China’s top trade negotiator, Vice Premier Liu He. “He wants to see a deal made, he wants it to be made under calm conditions,” Trump said. “He used the word ‘calm,’ I agree with him.”
That there is no deal to be done does not seem to worry anybody, at least not today.
So, which is right? A crashing yield curve that is a very bearish signal for growth and profits . Or equities that just don’t care about the yield curve? Anatole Kaletsky has a go at it at Gavekal:
Now that my holiday is over, I must sadly switch on the news feeds. But what I find is that nothing much has really changed since a month ago, or even a year ago. The US and China are still engaged in trade war, but both of their domestic economies are doing fine. Europe is still sinking into stagnation and political paralysis, but nobody is even thinking about a change of course. The US, Israel and Saudi Arabia are still trying to strangle Iran, but not quite succeeding. And Britain is still on the edge of a precipice, contemplating national suicide, but not quite willing to take the plunge.
What has changed since early summer is the market’s response to these chronic conditions. Since early June, 10-year bond yields have collapsed in the US from 2.1% to 1.5%, in Britain from 0.9% to 0.4% and in Germany from a ridiculous -0.2% to an incredible -0.7%. In roughly the same period, the pound has fallen against the US dollar by -4%, the euro by -1%, the renminbi by -2% and the oil price by -6%. One asset class, however, has not suffered at all: the S&P 500 is up 5% and Nasdaq by 6%, China’s CSI 300 has risen by 2% and even MSCI EMU is 0.5% higher than its close on May 31.
In my view, the equity market’s behavior makes good sense; the bond and currency markets’ rather less so. Specifically, it is worth considering the market responses to four unexpected events that happened over the summer: (i) the inversion of yield curves in the US and other bond markets, (ii) the prospect of a “no deal Brexit” rupture between the UK and its former European partners, (iii) the ratcheting-up of the trade confrontation between the US and China, and (iv) clear evidence of a recession in the eurozone to which the European Union authorities seem unable or unwilling to respond.
…Since there has been no major weakening in US economic data this year, and there is no reason to expect a weakening in the months ahead, especially given the reductions in interest rates, are other explanations possible for an inverted yield curve? The answer is obviously, yes.
These include effects from liability-driven investment, quantitative easing, bank regulation, demographics and negative interest rates in Europe and Japan. All these add up to produce what in technical terms is called a low or negative term premium. In simple language, the combination of LDI and QE creates a situation in which bond investors are only concerned about trading ahead of the next monetary policy decision, and neither know nor care what may happen to interest rates, growth and inflation in the next year or decade any more than the proverbial monkey with a dartboard. In other words, what matters for long-term bond yields is not the outlook for the economy, but market expectations about the decisions and statements of central bankers. And if the outlook for the economy is now of limited significance in determining bond yields, then by definition the behavior of the bond market must be a poor predictor of economic growth.
This brings me to the final, and possibly most convincing reason, why equity investors should disregard the bond market’s apparently bearish message. Let us suppose that all the arguments above are wrong—that bond markets really do know more than equity investors or economic forecasters about the economic outlook and that yield curve inversion actually is a reliable indicator of recession. In that case, the Fed and other central banks around the world are certain to keep cutting interest rates, or if their rates are already zero or negative are certain to restart QE. And, even more importantly, both short-term and long-term interest rates are certain to remain near zero for the next ten years or more. In that case, even if the world does experience a recession, the discount rates applied by equity markets to cyclically-adjusted corporate profits, the cap rates assumed by property investors and hurdle rates used by business managements, are bound to keep falling and will eventually end up near zero. In other words, if bond markets are right in predicting a world in which interest rates will stay forever near zero, then US equities on a cyclically adjusted price-earnings ratio of 29—equivalent to an earnings yield of 3.4%—are still quite cheap.
My own view is the reverse. That bonds are trading advancing deglobalisation risks that pose a massive deflationary shock if China is forced to go ex-growth, while equities are besotted with stimulus such as QE and all manner of unconventional monetary happiness.
I guess that such polarised interpretations are possible is why the AUD is proving to so volatile.
Even so, on a day when CNY crashes so, I can see no reason to so strongly bid the AUD.
Lower still to come.
He is also a former gold trader and economic commentator at The Sydney Morning Herald, The Age, the ABC and Business Spectator. He is the co-author of The Great Crash of 2008 with Ross Garnaut and was the editor of the second Garnaut Climate Change Review.
Latest posts by Houses and Holes (see all)
- Bill Evans on how the RBA should do QE - November 22, 2019
- Why you should ignore Goldman on Aussie interest rates - November 22, 2019
- How much lower is China’s growth than it says it is? - November 22, 2019