Overnight Sentiment (And Markets) Drifting Lower

In what may be a first in at least 3-4 months, instead of the usual levitating grind higher on no news and merely ongoing USD carry, tonight for the first time in a long time, futures have drifted downward, pushed partially by declining funding carry pairs EURUSD and USDJPY without a clear catalyst. There was no explicit macro news to prompt the overnight weakness, although a German 10 year auction pricing at a record low yield of 1.28% about an hour ago did not help. Perhaps the catalyst was a statement by the Chinese sovereign wealth fund's Jin who said that the "CIC is worried about US, EU and Japan quantitative easing" - although despite this and despite the reported default of yet another corporate bond by LDK Solar, the second such default after Suntech Power which means the Chinese corporate bond bubble is set to burst, the SHCOMP was down only 1 point. The Nikkei rebounded after strong losses on Monday but that was only in sympathy with the US price action even as the USDJPY declined throughout the session.

Regarding China, the FT reports that a senior Chinese auditor and vice-chairman of China’s accounting association has described the local government debt situation in the country as “out of control”. The comment comes after the recent warnings from Fitch and Moody’s about the risks of China’s local government debt. The auditor says his firm has stopped signing off on bond sales by local governments as “most don’t have very strong debt servicing abilities”. Keep a close eye on China which for the bast 4 years has been abnormally quiet. Once this region too blows up, all bets are off, as China will be the true black swan, which everyone sees, but nobody expects the local communist government can ever lose control of the situation. That may not be the case for much longer.


Curiously, gold has outperformed equities for the first time in day, with the spot price trading above $1380 at last check on news of frantic physical buying in India, Australia, the US mint (which sold a massive 33,000 oz of gold on April 16) and across precious metal vendors in the US, which shows demand for physical gold and silver has hardly popped.

Somewhat facilitating this increase was the Shanghai Gold Exchange which once again lowered margin requirements for gold and silver to 10% and 13% respectively after Monday's hike.

In other news, we learned from the Cypriot finance minister that the country's gold sale was a Troika mandated decision, as most had known by now, and that the local central bank must and will ratify the decision in the next few months. How this disposition of gold will happen without a parliamentary vote is not exactly clear.

Finally, it is worth noting that just like in 2011, Goldman's Jan Hatzius, so bullish entering 2013, is finally starting to throw in the towel. We will report on that in a later post.

SocGen provides a quick and dirty recap on the recent inverse correlation between the surge in gold vol and equities, which appear to have been forcibly broken compared to previous instances:

A sense of calm returned to metals markets yesterday as investors grappled with the brutal jump in volatility and subsequent (marginal) pullback in an attempt to establish whether the liquidation has run its course or has further to run. After jumping from 14.47 on Friday to a 35.39 high on Monday, 30-day volatility of CBOE gold ETF fell back to 30.44. A similar run-up in volatility occurred in the summer of 2011, but took place over several weeks compared to the massive lurch of the last three days. It then took over four months for it to normalise. Whether we are in the throes of something similar today is impossible to tell as we still try to establish why the stampede occurred in the first place. Talk of gold selling by Cyprus as a means to raise bailout funds is said to have initiated the move, but what followed had nothing to do with what's happening in Nicosia. Nor is the price action justified by radical change in inflation expectations, or covering up of long equity trades that went sour. US core CPI was reported to have slowed to 1.9% in March and the Fed's 5y forward breakeven inflation rate has been hovering at just above 2.70%. The S&P snapped a two-day losing run yesterday and trades within 2% of last Friday's close. This pales with the corrective price action of 2011 and even with that of summer 2012.

The full overnight recap from DB's Jim Reid

Gold rebounded (+1.4%) a bit yesterday and the wider commodity complex recouped some of the losses of the previous sessions. Copper, natural gas and silver rallied 1%, 0.6% and 2.8% respectively, but Brent remained under some pressure (-0.72%) as it hovered near 9 month lows. The S&P500 (+1.4%) managed to recover most of its Monday losses buoyed by Goldman Sachs, Coca-cola and Johnson & Johnson who all reported better than expected results on both the top and bottom line. More broadly yesterday saw nine out of 12 companies report EPS ahead of consensus, although only half managed to beat revenue estimates. We’ll provide a more comprehensive earnings season tracker later this week as more companies report. Yesterday’s gains were broadbased with all but 39 stocks in the S&P500 finishing higher on the day and all ten industry sectors trading firmer. A number of security scares at Boston’s Logan airport, various New York airports and New York City itself failed to significantly dampen the trading pattern in equities. In credit markets, the CDX IG index finished 4bp firmer, essentially erasing the widening seen on Monday. The European Crossover and IG indices were basically unchanged, outperforming the weakness seen in European equities that saw the Stoxx600 close 0.8% lower. The Euro continued to gain on the USD, adding 1.1% yesterday in its strongest one day gain in a month.

Yesterday also saw some decent data out of the US, headlined by the strong housing starts (+1036k vs +930k expected) in March, after a 51k upward revision to the prior month. Housing starts managed to print at the highest annualised rate since mid-2008. Industrial production for March also surprised to the upside (+0.4% vs +0.2%) though mostly driven by an increase in utilities production from the unseasonably cold weather last month. On a less positive note, building permits were marginally below expectations at 902k (vs 942k expected). On the inflation side, headline CPI dropped to -0.2% (vs 0% expected) in March off the back of the recent volatility in energy prices which fell -2.6% in the month. As a result, the year-on-year rate of change in the headline dipped to +1.5% from +2.0% in the previous month. Core CPI rose +0.1% (vs. +0.2% previous and expected). DB’s US economists have upgraded their Q1 GDP growth estimate to +3.4% following yesterday’s data which suggested higher inflation-adjusted output last quarter than expected.

Aside from the data there was a fair amount of Fedspeak yesterday which on balance was tilted to the more dovish side. Fed Vice Chair Janet Yellen said she favours holding rates “lower for longer”. She also said that there was no “pervasive evidence of rapid credit growth” but that there are signs that some parties are reaching for yield which the Fed is monitoring carefully.

Interestingly, Yellen said the Fed “has not taken off the table” that it might have to react to an asset bubble. Elsewhere, the NY Fed’s Bill Dudley suggested that the labour market had yet to show substantial improvement – a view which was shared by the Minneapolis Fed’s Kocherlakota who advocated a 5.5% unemployment threshold for the Fed to tighten policy.

Turning to overnight markets, Asian equities are trading with gains on the back of the positive close in the US. Gains are being led by the Nikkei (+0.9%) which has been helped by the 0.75% depreciation in the yen against the greenback. The KOSPI (-0.1%) is underperforming after news that North Korea has rejected South Korean business owner’s requests to visit the Gaeseong joint industrial zone. North Korea said that talks with the US are possible once it has sufficient nuclear deterrents to ward off an attack (Bloomberg). There is solid buying in Asian bonds with cash and synthetic credit about 2-3bp tighter overnight.

Staying in the region, the FT reports that a senior Chinese auditor and vicechairman of China’s accounting association has described the local government debt situation in the country as “out of control”. The comment comes after the recent warnings from Fitch and Moody’s about the risks of China’s local government debt. The auditor says his firm has stopped signing off on bond sales by local governments as “most don’t have very strong debt servicing abilities”. On a related note, there has been some focus on Chinese corporate defaults after Chinese solar company, LDK Solar, reportedly defaulted on a bond on Monday. This follows last month’s default of its peer Suntech Power, which was once the world’s largest solar-panel maker by capacity.

It will be a relatively quiet day ahead for data both in Europe and the US. The minutes from the BoE’s last meeting are due as is the latest UK employment report. The Fed publishes its Beige Book. Companies scheduled to report earnings today include Bank of America, eBay, American Express and Tesco.


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