Futures Rebound Following Yesterday's Rout

It was all up to the Japanese banana market to fix things overnight: after the biggest tumble in US equities in months, and Asian markets poised for their third consecutive weekly drop, the longest streak since February, Japan reported CPI numbers that despite still surging (for example, in August TV prices soared 9.5%, but "down" from 11.8% the month before), when "adjusting" for the effects of the April tax hike, missed across the board. As a result the USDJPY was at the lows and threatening to break the recent parabolic surge higher which has helped move global equities higher in the past few weeks when the usual spate of GPIF-related headlines, because apparently the fact that Japan will and already has begun sacrificing the retirement funds of its citizens just to keep Abe's deranged monetary dream alive for a few more months has not been fully priced in yet, sent the USDJPY soaring yet again. To wit:

GPIF TO CONDUCT SOME REFORMS WITHIN EXISTING LAW, SHIOZAKI SAYS
CREATING GPIF LAW DIFFICULT TASK, SHIOZAKI SAYS

As a result, the USD/JPY rose 0.3% to 109.08 after falling as much as 0.3% earlier. Still, as Bloomberg reminds us, the pair’s 14-day RSI turning higher at 80, in overbought territory. As in super overbought, but with the BOJ now clearly providing "liquidity" support and collecting CME 6J liquidity rebates, what's not to like?

So thanks to Japan, yesterday's market slide has been halted with US equity futures now up a modest 2 points, even as Stoxx Europe 600 declined led be declines in the U.K., German, and Swiss bourses. 10-year bond yields for largest Eurozone economies fall. Dollar trades near 4-month high as oil falls.

The shake-up in risk assets yesterday extended into the Asian session overnight. Chinese equities are holding up relatively better at broadly flat but other bourses around the region are all suffering. Key equity benchmarks in Japan, Korea, Australia and Indonesia are down -0.9%, -0.1%, -1.3% and -1.6%, respectively. Asian stocks fall with the Shenzhen Composite outperforming and the ASX 200 underperforming. MSCI Asia Pacific down 0.9% to 142.1; third consecutive weekly drop is longest streak since Feb. Nikkei 225 down 0.9%, Hang Seng down 0.4%, Kospi down 0.1%, Shanghai Composite up 0.1%, ASX down 1.3%, Sensex down 0.1% All sectors decline with materials, health care underperforming.

European equity markets trade slightly higher, with little conviction from traders to commit to longer-term positions after yesterday's sharp sell-off shook out the majority of short-term trades. Technically, the DAX-future remains in very close proximity to the much-eyed 50DMA at 9499. Nonetheless, markets have lifted Italian and Spanish equities to be the modest outperformer as markets short-cover peripheral banking shares which traded markedly weaker yesterday. Further small UK firms have added their names to the ever-extending list of profit warnings, as waste management firm Shanks Group and money printer De La Rue both publish stark forecasts for their upcoming earnings. Both firms have traded lower by over 10% this morning. 4 out of 19 Stoxx 600 sectors rise; banks, real estate outperform, retail, personal & household underperform. 38% of Stoxx 600 members gain, 62% decline. Eurostoxx 50 little changed, FTSE 100 -0.3%, CAC 40 +0.1%, DAX -0.2%, IBEX +0.1%, FTSEMIB +0.5%, SMI -0.2%

In terms of today we have further revisions to Q2 US GDP and the final reading of the UoM consumer sentiment for September. In Europe, consumer confidence readings in Germany and France are the notable ones. Overall we expect a relatively quiet day ahead and trading desks could be lightly staffed given the second of the two-day Rosh Hashanah celebrations for the Jewish community.

Market Wrap

S&P 500 futures up 0.1% to 1963.5
Stoxx 600 up 0.2% to 342.2
US 10Yr yield flat at 2.5%
German 10Yr yield down 2bps to 0.95%
MSCI Asia Pacific down 0.9% to 142.2
Gold spot up 0.2% to $1223.9/oz

Bulletin Headline Summary from Bloomberg and RanSquawk

US stock futures indicate a slight stabilisation of yesterday’s losses, as Europe take the opportunity to buy at lower levels and cover short-positions
US 10yr yields traded below 2.5% for the first time since early September for much of the European morning, however a spell of profit taking in both stocks and bonds pushed the rate slightly higher ahead of the CBOT open
Looking ahead, final US GDP is expected to be revised higher to 4.6% from 4.2%, with University of Michigan Confidence data following shortly afterwards
Treasuries head for second weekly gain amid stronger U.S. dollar, equity weakness and global growth concern; price moves may be exaggerated by Rosh Hashanah absences and quarter-end volume and liquidity.
High Yield Master II OAS +15bps to new YTD wide of 433bps amid yesterday’s risk-off move, spurred in part by prospect Russia will seize foreign state assets; YTD low 335
67 HY deals for $35.75b have priced in Sept., second busiest month year to date; IG issuance $156.86b MTD, approaching January’s YTD high $157.9b with three sessions remaining
Draghi’s plan to channel as much as EU1t into the euro region’s economy is running into a blockage: some companies in the countries hardest hit by the crisis don’t want the money
London house prices fell for the first time in almost two years this month as declining demand led to a weakening of the property market across Britain, Hometrack Ltd. said
Iraq’s government is struggling to win over enough Sunni tribal leaders to support the air campaign and deliver the militants a major defeat, said Michael Knights, of the Washington Institute for Near East Policy
Over 190 U.S. strikes in Iraq have contributed to militants abandoning some territory they have seized since June, according to figures released by the Pentagon
British airstrikes on Islamic State positions in Iraq may start within days, a government official said, if the House of Commons approves military action after being recalled for an emergency vote today
Catalan President Artur Mas is being pressured by his allies to stage a show of defiance should Spain’s Constitutional Court block his plans for a vote on independence, according to two people briefed on the conversations
Attorney General Eric Holder’s resignation leaves Obama trying replace one of his most trusted confidants in a critical job at a time when his dealings with Congress are bound to become more difficult
Sovereign yields lower. USD strengthens to four-year high. Asian, European stocks mostly lower. U.S. equity-index futures fall. WTI crude lower, gold and copper higher

US Event Calendar

8:30am: GDP Annualized q/q, 2Q final, est. 4.6% (prior 4.2%)
Personal Consumption, 2Q, est. 2.9% (prior 2.5%)
GDP Price Index, 2Q, est. 2.1% (prior 2.1%)
Core PCE q/q, 2Q, est. 2% (prior 2%)
9:55am: UMich Confidence, Sept. final, est. 84.8 (prior 84.6)

FIXED INCOME

Amid thin volumes, Bund futures have squeezed higher throughout the morning, opening above yesterday's best levels as the German curve flattens - echoing the bias seen in the US curve late yesterday. US 10yr yields had briefly broken below 2.5% for the first time since early September, taking the lead from US equity indices, which have now erased the entirety of this month's gains. Bonds were pulled off the best levels of the day on profit-taking, however this also coincided with reports that the EU are not looking install further sanctions on Russia at this point in time. Nonetheless, large European and UK month-end extensions could keep a floor under bond prices heading into Tuesday, particularly in France, who are the biggest contributor to the month-end extensions in September – larger than both German and Spain combined.

Pan Euro Agg month-end extensions +0.08yrs (Prev. +0.03yrs), 12-month average +0.07yrs (IFR)

EQUITIES

After being yesterday's most volatile asset class, FX markets have had a far more muted morning, with the major pairs trading well within yesterday's ranges. The JPY's weakness has resumed, with the pair reclaiming the 109.00 handle after buying from Tokyo based banks and Japanese importer names was spurred by month/quarter end demand. Additionally, soothing comments from the Japanese Health Minister assisted proceedings, as he reassured markets that GPIF reform is on track, countering reports yesterday that it was not a priority. EUR/USD trades in very close proximity to an extremely large option expiry at the 1.2750 level – said to be to the tune of 2.7bln.

COMMODITIES

WTI and Brent crude futures trade toward the upper end of the week’s range, however WTI remains approximately USD 1.00/bbl off Thursday’s best levels. Despite the modest recovery in both gold and oil off the week’s best levels, copper has seen no reprieve as the metal is on track for losses of over 1.5% on the week. Longer-term commodities demand took another blow overnight, as the Sydney Morning Herald eyed a release from The China Iron and Steel Association whose figures show China’s steel demand fell in August for the first time in 14 years.

* * *

DB's Jim Reid completes the overnight recap

So which is the better route? Aggressive multi-year QE or great monetary restraint and a focus on pushing for meaningful structural reform. Well there's only one way to fight it out and that's on a golf course in Scotland. Today Europe and USA's best golfers start a 3-day battle to decide. I'm a huge golf nut and was looking forward to watching it this weekend. However I won't be able to now and the reality is that I'm perhaps lucky to be alive this morning. I got home last night to chaos as 30 minutes before hand our Satellite TV box exploded and caught fire sending plumbs of smoke across the TV room. My wife heard a big bang from next door and screamed which alerted the builders (who fortunately for once are over-running massively and still ever present). They ran into a room full of toxic smoke and bravely unplugged everything before other things could catch alight. The other equipment was shaking apparently. The net result is a house smelling of burning plastic and all my other TV equipment short circuiting and dead! So no Ryder Cup, no Merseyside Derby, no Newsroom (our new box set of choice) and more fortunately no X-factor. I'll be re-learning the art of conversation this weekend where we can maybe discuss how lucky we are that this didn't happen while we were asleep. The last bit of the story is so bizarre to not be believable but it really is true. An hour before the explosion my wife had an insurance valuer around reappraising our house in lieu of the new building works. His main remark was that we should have a fire extinguisher. Very spooky. Anyway, am a bit shaken this morning but will manfully plough on.

The shake-up in risk assets yesterday is extending into the Asian session overnight. Chinese equities are holding up relatively better at broadly flat but other bourses around the region are all suffering. Key equity benchmarks in Japan, Korea, Australia and Indonesia are down -1.0%, -0.3%, -1.2% and -1.6%, respectively. This follows the S&P 500 (-1.62%) having its biggest one day correction in nearly two months spurred by headlines that Russian courts could receive approval to seize foreign assets on Russian territory under a draft law that is seen as a response to sanctions from the Western world over the Ukraine crisis ( Bloomberg). There were also reports that Iraqi intelligence was informed of an alleged terrorist plot to attack subways in the US and Paris although the US officials have said the government is unaware of that (NY Post). On the company front, Apple shares fell -3.8% on iOS glitches and complaints of bending issues with the new iPhone’s casing when pressure is exerted. Apple’s performance weighed on the broader market but overall the S&P 500 was led by losses in IT (-2.28%), Financials (-1.65%), and Health Care (-1.58%). US HY credits finished on a weaker note with most bonds ending the day between 0.75-1.5pts lower. The CDX HY index dropped about half a point on the day and is now lower than the lows we saw in early late July/early August. The VIX had its biggest one day spike since July but the flight to quality bid saw Treasuries bull-flattened on the day. The 10yr yield fell by about 6bps to 2.50% whilst the Dollar continues to edge higher.

Back to HY, the latest credit fund flow numbers are out overnight with another week of outflows seen albeit a much slower pace that what was experienced last week. For the week ended 24 September, EPFR reported outflows of US$28m from US HY mutual funds. Whilst this is significantly lower than the outflows of US$2.19bn last week and US$1.31bn in the week prior to that, it marks the fourth consecutive week of outflows. Indeed for the US, since the first meaningful outflows in late June, 11 of the last 15 weeks have now seen outflows. In USD terms these outflows have exceeded $20bn which is a cumulative outflow of around 8% of NAV. Last year around the time of Bernanke's testimony to the JEC, North America HY funds saw 6 out of 7 weeks of outflows for a net cumulative amount of nearly $14bn or 5.4% of NAV. Retail flows were better though with Lipper data reporting US$584m of ETF inflows into US HY over the same week.

For European HY the flow picture turned better as the asset class received its first weekly inflow in September. About USD$40m came through for the week ending 24 September, although we still saw net outflows of USD$450m over the month. For European HY, 8 of the last 11 weeks have now seen outflows totalling just over $2.6bn (net) or around 6.5% of NAV. This compares to the outflows of last June (2013) when we saw 5 consecutive weeks of outflows for a combined total of $1.2bn or 5.6% of NAV.

This has clearly showed up in performance. The iBoxx EUR Non-Fin Single-B index hit its cycle tights of 428bps on 20 Jun before widening out to 577bps by 08 Aug. Since then spreads tightened back in to 522bps by 26 Aug but as of last night's close the index was at 575bps, and within a couple of bps of its widest level since Oct/Nov last year. BBs have not been hit so badly with the index hitting its tights of 252bps on 20 Jun before widening to 328bps by 08 Aug. The index has tightened into 284bps as recently as last week and is only around 11bps off these levels at last night's close.

As we discussed in our credit strategy update earlier in the week we do think volatility is picking up in the asset class and will continue to do so due to weaker technicals (Fed exiting QE, high issuance in 2014, low trading liquidity and lower cash balances at funds). However given the extremely low default rate and stable forward looking indicators of fundamentals, we think the cheaper valuations will win out to ensure notably tighter spreads by year end. However this stage of the credit cycle will likely be more 2-way than that seen over the last two years and there will be more volatility. This is why the note was called "A two-step back, one-step forward market".

Back to yesterday, dovish comments by Fed’s Lockhart might have helped on a different day as he sees the first rate hike by mid-2015 or “a bit later”. It was a broadly consensual day as far as US data was concerned. The weekly initial jobless claims and continuing claims were modestly lower than expected at 293k and 2439k respectively with the durable goods orders headline falling slightly more than expected (-18.2% v -18.0%) with a payback for the surge in July. The underlying trends beyond the headline were quite constructive though. Our US economists noted that the level of August nondefense capital goods orders excluding aircraft, which is the subcomponent that is considered to be the core of the report, is up nearly 15% annualized compared to its Q2 average. Elsewhere, the Kansas Fed Manufacturing Activity was in line with consensus.