Despite China reporting solid economic data on Monday, with beats across the board in everything from retail sales, fixed asset investment, industrial production and GDP printing at 6.9% and on track for its first annual increase since 2010…
… despite the biggest net liquidity injection by the PBOC since mid June after the central bank injected a net 130 billion yuan, and despite yet another rebound in the Yuan, overnight China’s Shanghai Composite slumped by 1.4%, the most since December as a result of a plunge in the small-cap ChiNext index, which tumbled by 5.1%, and is now down 16% in 2017 to levels not seen since January 2015 following a fresh round of broad deleveraging amid concerns about tougher regulations and more IPOs following a high-level conference over the weekend attended by President Xi Jinping in which China hinted at the formation of a “super-regulator”.
Yields on long-term government bonds are climbing across the world as major central banks signal an end to the era of easy money, possibly leaving the Bank of Japan fighting a lonely battle against deflation.
German long-term rates topped 0.49% early Monday to reach the highest level in roughly three and a half months. Long-dated U.S. Treasurys reached a one-and-a-half-month high of 2.3%.
European Central Bank President Mario Draghi sparked the trend by hinting at an early reversal of ultraloose policy. “The threat of deflation is gone,” he said June 27. Bank of England Gov. Mark Carney soon followed, indicating a possible rate hike in the U.K.
Speculation that Europe is following in the footsteps of the U.S. by pulling back from monetary easing quickly spread among investors. Although Europe and Japan both languish amid weak inflation rates, growth in the manufacturing sector in the eurozone is giving the ECB room for tightening.
Rising yields are reaching other parts of the world. In Australia, long-term interest rates have surged since June 27 to hit a one-and-a-half-month peak Monday.
EM FX ended the week on a mixed note, as investors await fresh drivers. US jobs data on Friday could provide more clarity on Fed policy and the US economy. Within EM, many countries are expected to report lower inflation readings for June that support the view that most EM central banks will remain in dovish mode for now. We remain cautious on the EM asset class near-term.
Caixin reports June China manufacturing PMI Monday, which is expected at 49.8 vs. 49.6 in May. Official manufacturing PMI was already reported at 51.7 vs. 51.2 in May. While the two series often diverge, we warn of upside risk to the Caixin reading. For now, markets are comfortable with China’s macro outlook.
Thailand reports June CPI Monday, which is expected to remain flat y/y. This remains well below the 1-4% target range. Bank of Thailand meets Wednesday and is expected to keep rates steady at 1.5%. Indeed, with no price pressures to speak of, we believe rates will remain steady into 2018.
Indonesia reports June CPI Monday, which is expected to remain steady at 4.3% y/y. This remains well within the 3-5% target range. Bank Indonesia next meets July 20 and is expected to keep rates steady at 4.75%. While the bank has signaled an end to the easing cycle, we do not see any tightening in 2017.
If there was any confusion why the Fed intends to keep hiking rates, even in the face of negative economic data and disappearing inflation, it was put to rest over the past 2 days when not one, not two , not three, but four Fed speakers, including the three most important ones, made it clear that the Fed’s only intention at this point is to burst the asset bubble.
First there was SF Fed president John Williams who said that “there seems to be a priced-to-perfection attitude out there” and that the stock market rally “still seems to be running very much on fumes.” Speaking to Australian TV, Williams added that “we are seeing some reach for yield, and some, maybe, excess risk-taking in the financial system with very low rates. As we move interest rates back to more-normal, I think that that will, people will pull back on that,
Then it was Fed vice chairman Stan Fischer’s turn, who while somewhat more diplomatic, delivered the same message: “the increase in prices of risky assets in most asset markets over the past six months points to a notable uptick in risk appetites…. Measures of earnings strength, such as the return on assets, continue to approach pre-crisis levels at most banks, although with interest rates being so low, the return on assets might be expected to have declined relative to their pre-crisis levels–and that fact is also a cause for concern.”
Fischer then also said that the corporate sector is “notably leveraged”, that it would be foolish to think that all risks have been eliminated, and called for “close monitoring” of rising risk appetites.
Earlier today, NY Fed president Bill Dudley sparked a hawkish storm in the markets, when in a bizarre statement he doubled down on the Yellen’s “hawkish hike” rhetoric, and made it seem that easing is now perceived by the Fed as a bad thing:
FED’S DUDLEY: HALTING TIGHTENING CYCLE NOW WOULD IMPERIL ECONOMY
Then moments ago, today’s second Fed speaker of the day, Chicago Fed’s dovish, FOMC voter Charles Evans delivered a Dr. Jekyll and Mr. Hyde statement, where first, in his prepared remarks and during the subsequent Q&A in New York he sounded rather hawkish, while speaking to reporters after the event he flipped at emerged as his usual old dovish self.
First, here are the highlights from the dovish Evans:
“I think where we are with the funds rate right now is kind of in line with my outlook.”
“US fundamentals are good, no reason this won’t continue”
Evans sees a “high threshold to change the Fed’s balance sheet unwind plan”
Evans said there are only “small differences” in whether the FOMC hiked rates 2, 3, or 4 times in 2017.
Evans says he didn’t dissent last week because “we’re at a point where the real economy is really doing quite well”
Evans agreed with Yellen and others that the reductions in the balance sheet should gradual and like “watching paint dry”.
“I can’t just sort of say, it’s without risk to continue with very accommodative low interest rates”
“Beginning to adjust the balance sheet is one of the easier, more natural things to do, soon, sometime this year”
The International Monetary Fund will introduce a framework to mitigate currency crises by ensuring easy access to dollars without requiring the onerous structural reforms that have marked pastrescue programs.
This arrangement is intended mainly to deal with capital-account crises — currency collapses triggered by severe capital flight. With money likely starting to return to the U.S. as the Federal Reserve pivots from monetary easing, the IMF worries that corresponding outflows from emerging economies could drag down their currencies. Collapsing currencies can give rise to financial crises as foreign-debt loads soar. The situation could be made worse, if speculators take advantage of the situation to make quick profits.
A country dealing with a capital-account crisis must intervene frequently in foreign exchange markets to prop up its currency by selling dollars. The new arrangement being developed by the IMF will help countries borrow greenbacks, mainly via short-term loans maturing in a year or less.
The IMF will evaluate potential borrowers under normal conditions, looking at such data as their current-account and fiscal balances, and let them join the framework if they are deemed sufficiently healthy. Loans will be limited based on each country’s capital contribution to the fund, among other factors.
1. Don’t Fight the Tape – the trend is your friend, go with Mo (Momentum that is)
2. Don’t Fight the Fed – Fed policy influences interest rates and liquidity – money moves markets.
3. Beware of the Crowd at Extremes – psychology and liquidity are linked, relative relationships revert, valuation = long-term extremes in psychology, general crowd psychology impacts the markets
4. Rely on Objective Indicators – indicators are not perfect but objectively give you consistency, use observable evidence not theoretical
5. Be Disciplined – anchor exposure to facts not gut reaction
6. Practice Risk Management – being right is very difficult…thus, making money needs risk management
7. Remain Flexible – adapt to changes in data, the environment, and the markets
8. Money Management Rules – be humble and flexible – be able to turn emotions upside down, let profits run and cut losses short, think in terms of risk including opportunity risk of missing a bull market, buy the rumor and sell the news
9. Those Who Do Not Study History Are Condemned to Repeat Its Mistakes
China’s holdings of US Treasuries rose for the third straight month in April, reaching the highest level since October 2016 at $1.09tn, as weakness in the country’s currency has begun to show signs of stabilising.
It comes after a period of sustained selling by Beijing, with 2016 marking the largest cut to China’s treasury holdings on record. The cut to China’s holdings came as Beijing sought to support the renminbi and manage capital flight by intervening in foreign exchange markets.
So far this year the renminbi has strengthened and China has tentatively returned to the Treasury market, buying $41.1bn of securities since January, with $4.6bn added in April. Still, the country’s holdings remain well below levels at the same time last year of $1.24tn, leading to it slipping into second place behind Japan as the largest foreign holder of Treasuries.
Japan cut its holding by $12.4bn in April to $1.11tn. Belgian holdings, seen by some as a proxy for China due to speculation that China executes through the European sovereign, fell to $96.4bn – below $100bn for the first time since August 2011.
Overall, foreign holders shed $28.6bn bring the total foreign ownership of Treasuries to $6.07tn.