Stocks And Bonds Tumbling Into The Weekend

The global capital markets are reversing hard into the weekend. Yesterday’s rally lifted US benchmarks to a record high fizzled even though most Asia Pacific markets (with Hong Kong and India being large notable exceptions) rose. Europe’s Dow Jones is ending a four-day advance. It is off around 0.4% near midday in Europe, while US futures indices are off after a three-day rally. The is particularly hard high (-1.7%) 

After fairly smooth auctions this week, US Treasuries have been sold, and the yield is hovering around 1.60%. Eurozone benchmark yields more muted with the ECB apparently stepping up its efforts, and most are up 1-2 bp. A better than expected UK January report weighs on Gilts, and the yield is up five basis points. The is broadly higher. Against most of the major currencies, it is 0.5%-0.8% higher.

The is faring the best, off less than 0.2%. Emerging market currencies are heavy, though a handful of Asian currencies have managed to post minor gains. The liquid and accessible emerging market currencies, like the , , and , are around 1% lower.

, which flirted with $1740 yesterday, has been sold through $1700, but is straddling that area near midday in Europe. prices remain firm, and April WTI is hovering around $66.

Asia Pacific

The has appreciated by almost 10% since early November’s pivot in terms of the US election and vaccine. However, the country seems to be struggling with the shifting sands of the global political economy. Its foreign policy antagonizes its largest trading partner. It took the lead in trying to make the transmission of the news part of the internet fairer. It is trying to negotiate a free-trade deal with the EU.

The problem is that the EU is adopting more environmentally sustainable policies faster than Australia. This gives Australian producers a competitive advantage (they don’t have to pay for the negative externality, free-rider problem). This week the EU Parliament moved closer to demanding a carbon levy on products from countries said to be lacking substantial efforts to reduce pollution. The legislation is still be worked out but could be ready by the end of Q2. While the tariff’s size is important from a competitive point of view, the mere imposition is significant. It reflects the failure of a multilateral approach (e.g., OECD). It also illustrates how a global issue like the environment can strengthen nationalist/regional responses.

There is a general concern about the US presence in Asia as there seems little chance that Trump’s decision to pull out of the Trans-Pacific Partnership will be reversed anytime soon. As its share of trade in the region falls, the US will have to increasingly rely on other channels to project its power. The Biden Administration’s first diplomatic thrust begins today. Biden will virtually attend the first Quad (for Quadrilateral Security Dialogue) meeting that includes India, Australia, and Japan.

This will be followed in short order by Secretary of State Blinken and Defense Secretary Austin visiting South Korea and Japan. It is not coincidental that South Korea agreed earlier this week to a six-year agreement for funding of US troops stationed there, which the State Department had called an “unnecessary irritant.” Reports indicate that South Korea’s offer was a little sweeter than the one made to the previous administration.

Toward the end of next week, Blinken and the head of the National Security Agency Sullivan will meet with senior Chinese officials in Anchorage. A two-prong strategy is evident. On the one hand, the rhetoric of techno-democracies and techno-authoritarianism, the elevated status Taiwan is being given, maintaining tariffs, and other sanctions of the Trump era is confrontation. Indeed, reports indicate that the US has formally notified Huawei suppliers that conditions on “previously approved export licenses” will be tightened to prohibit the sales of components that could be used in 5G, including semiconductor chips, antennas, and batteries. India is expected to block Huawei under rules that are due to be implemented in June.

On the other hand, those very actions ironically may help find an area or two of cooperation. At the very least, normalizing military contacts minimize the risk of accidents. It would probably also be helpful to resume a regular dialogue. Movement toward an arms control for cyber-warfare may be beyond the pale.

The dollar forged a base in recent days in the 108.30-JPY108.40 area, and a $1.6 bln option at the lower end of the range expires today. The dollar held below JPY108.80 in the first part of the local session before pushing above JPY109 in late turnover. It has remained above JPY109.00 in the European morning but held below the high set earlier this week, a touch shy of JPY109.25. The high from last June was near JPY109.85, and psychological resistance is offered by JPY110.00.

The Australian dollar stalled after recovering around half of the losses seen since reversing after testing $0.8000, which came in near $0.7815. The  $0.7720 area may attract as an option for nearly A$1 bln is struck there and expires today. The dollar has traded on both sides of yesterday’s range against the , and it is poised to finish the week above CNY6.50. It is rising for the first time in three sessions. The PBOC set the dollar’s reference rate closest to the bank models anticipated in a few days (CNY6.4845 vs. CNY6.4853). Note:  China put Tencent on notice as it continues to crack down on fintech, and its high-frequency reports (e.g., retail sale, industrial output, fixed-asset investment, unemployment) may be reported before markets open on Monday.

Europe

Around two months after Greenspan became the head of the Fed in August, he had to deal with the October ’87 equity crash that saw the fall by a fifth in a single day. Lagarde, who became the President of the ECB in November of 2019, has had her own baptism by fire. Yesterday’s may have been her best performance thus far. She deftly handled difficult questions and was patient with reporters, which made her repeat herself a few times. There were a few takeaways.

First, it will immediately boost its bond-buying “significantly.”  It is not clear what “significant” means, and Lagarde was not about to specify it. Strategic ambiguity maximizes the central bank’s flexibility. Buying will be stepped up for the next three months when the Governing Council will reassess based on inflation, financial conditions (understood “holistically” and “multi-faceted”). Market participants should not confuse size with impact. Consider that in Jan-Feb, the Fed’s balance sheet expanded by 1.1% of GDP, and the US 10-year yield rose by almost 50 bp. The ECB’s balance sheet increased by 0.9% of GDP, and the yield of Italy’s bond rose by 22 bp while the German Bund rose by 30 bp.

Second, the central bank was not deterred by the likelihood that the regional economy contracts in Q1. It tweaked its growth forecast to 4% from 3.9% this year and shaved it to 4.1% from 4.2% next year before slowing to 2.1% in 2023 (unchanged from the December forecast). The ECB’s staff now see inflation accelerating to 1.5% this year. Previously, it forecast a 1.0% rise. Next year’s inflation forecast is seen easing to 1.2%. In December, it had forecast a 1.1% increase. The 2023 HICP forecast was left at 1.4%. The signal, reiterated by Lagarde, is that the near-term rise in price pressures is mostly technical and will not be sustained.

Third, the ECB seemed more confident that the worst has passed. It recognized that the risks were more balanced. Lagarde concurred with the OECD recent assessment that large fiscal stimulus will have some positive knock-on effects for the eurozone. Growth can be helped through the trade channel, for example, while at the same time boosting the inflation outlook. Lagarde noted that the new forecasts do not include the US fiscal package’s impact, but June forecasts will. The ECB President also recognized that the European Recovery Fund will lag a little behind the US stimulus, but it will be forthcoming. 

The UK economy contracted by 2.9% in January, which was not quite as bad as the 4.9% drop in output economists expected in Bloomberg’s survey. The better showing was the result of a smaller decline in services (-3.5% rather than -5.5%), a rise in construction (0.9% vs. -1.0%), and a smaller trade deficit (-GBP1.6 bln vs. -GBP4.6 bln). These made up for the larger than expected 1.5% slump in industrial output,  led by a 2.3% plunge in manufacturing output. The implementation of new border controls under Brexit appears to have reduced trade volumes.

The three-day rally that saw the advance from around $1.1835 to nearly $1.2000 yesterday has been stopped cold in its tracks. In the European morning, the euro has been sold through $1.1930, which housed an expiring billion euro option. There is another option at $1.1900 for about 575 mln euros that also expires today. The $1.20-level corresponded to important retracement levels, and the setback undermines the technical tone, and a close below $1.1900 today would darken the outlook.  poked above $1.40 for the first time this week before reversing lower and falling through yesterday’s low (~$1.3920). A close below yesterday’s low (outside down day) has bearish implication and suggest a move to $1.38 (and likely below) in the coming days.

America

The US reports February . The year-over-year rates likely accelerated even though the monthly headline and core increases will slow. The preliminary may be worth a quick look, but the growing sense of confidence is palpable. The $1400 checks in the US, and importantly, if not discussed as much, the tax credits, coupled with the accelerating vaccinations, are boosting confidence and lifting expectations.

Yesterday’s report showed that US household net worth surged 5.6% or nearly $7 trillion in Q4 20 on the back of rising equities and house prices. The value of equity holdings rose by almost $5 trillion, while real estate valuation rose by $915 bln. While savings also rose, households took on more debt. Debt rose at a 6.5% annualized pace, the most in 13 years.  

Canada is expected to have last month for the first time since November. Recall the sequence of events. When the pandemic struck, and policy responded, three million people lost their jobs in Canada. From May through November 2020, a little more than two million people returned. However, in December and January, 265k jobs were lost. These were all part-time positions, as full-time jobs grew, albeit slightly (~55k). Central bank Governor Macklem expressed concern that it will take some time for the labor market to recover from the pandemic shock. 

The US dollar had looked poised to challenge the multiyear low recorded against the late last month (~CAD1.2470), but instead has come back firmer and is rising for the first time in four sessions. Still, the Canadian dollar is showing some resilience, and the greenback needs to resurface above the CAD1.2580 area to squeeze some of the late US dollar shorts. Above there, the first target is near CAD1.2620.

The US dollar set a high at the start of the week near 21.6350 and yesterday, had fallen to about MXN20.5850. The risk-off move ahead of the weekend has seen the greenback jump above MXN20.8800. Yesterday’s high was near MXN20.93, and a move above there would likely signal additional dollar gains at the start of next week. The MXN20.99 area is the first retracement (38.2%) of this week’s dollar decline, and the (50%) mark is near MXN21.11.

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