Dow 25,000 In Sight As Tax Cuts Are "Priced In" One Last Time

Dow futures are up some 80 points this morning after early on Wednesday morning the Senate passed the Tax Reform bill in a party-line vote, and is now set to become law after a follow-up vote in the House and Trump's signature some time on Wednesday afternoon. The good news is that the biggest political drama of 2017 will then be over. The bad news is that once the bill becomes law, the market will no longer be able to "price it in" every single day as it has for the past year.

As reported overnight, and as expected, the Senate approved the tax-cut legislation in a 51-48 party line vote, bringing President Donald Trump to the brink of his first major legislative victory. The bill now moves to the House of Representatives for a final vote Wednesday. With corporate and individual tax rates set to drop, the measures are largely anticipated to add to growth over the next year or two, though they will also swell the budget deficit. 

And while S&P 500 futures extended modest gains on the bill news, they have so far fallen short of yesterday’s high, in somewhat tepid reaction to the passage of the U.S. tax bill in the Senate, suggesting there is only so many times an endlessly regurgitated piece of news can be "priced in for the first time."  MSCI’s world equity index was little changed and holding just below record highs hit on Monday.

Overnight, European bonds were mixed as U.S. Treasury yields edged lower after yesterday’s jump, sparked by hawkish comments from central bankers...

... and recovered from a brief dip following the Senate tax news, while the U.S. dollar comes under renewed pressure versus its G-10 peers as investors await a second House vote on the bill.

“Last week the reaction of bond markets was one of ambivalence about the likelihood of these measures getting passed,” said Michael Hewson, chief market analyst at CMC Markets in London. “However, U.S. yields have jumped sharply higher in the last two days as the prospect of higher inflation and growth prompted some positioning adjustments in anticipation that the measures, if passed, could prompt conditions that might see rates have to rise faster than expected next year.”

In global equities, the feel-good factor from U.S. tax reform faded in Europe on Wednesday, with stocks struggling for traction after a mixed session in Asia and the dollar trading little changed.

Most European stocks weakened, led by Spain ahead of a regional Catalan election on Thursday. Basic resources sector among the biggest gainers as industrial metals rebound in London trading. German debt again leads core euro-area government bonds lower, with notable underperformance in the front end driving yield curve bear-flattening.

Europe's Stoxx 600 Index drifted little changed, down fractionally, with Spanish equities underperforming before tomorrow’s Catalan poll. Utilities and telecoms dropped, while miners gained as the Bloomberg Commodity Index advanced for a sixth day. Steinhoff shares crashed 30% after the furniture retailer said lenders have started to cut off support as reported yesterday. RWE leads Germany’s DAX Index higher after the departure of Innogy’s CEO sparked speculation around the company’s strategy

Earlier, Japan’s Topix index closed at its highest level since November 1991, while stocks in Hong Kong and China declined. ASX 200 (+0.1%) and Nikkei 225 (+0.1%) eventually traded positive on what was a choppy session with corporate scandals clouding over Japan including the maglev bid collusion, while Subaru was the worst performer after allegations it may have falsified mileage data. Chinese stock markets fared no better as both Hang Seng (-0.1%) and Shanghai Comp. (-0.3%) traded with a lacklustre tone, amid mild profit taking from recent gains. Finally, 10yr JGBs were flat as prices failed to benefit from the sombre risk tone or Rinban announcement valued at JPY 840bln in maturities across the curve, as the BoJ also kick-started its 2-day policy meeting today.

The euro got a lift from higher euro zone rates, gaining 0.5 percent on Tuesday, when central bank governors of Estonia, Slovakia and Germany all discussed the need to shift the debate from bond purchases to other tools such as interest rates.

“That’s re-igniting the debate about ECB tightening, so despite the outlook for the U.S. tax bill passage, euro-dollar is strong right now,” Masafumi Yamamoto, chief currency strategist for Mizuho Securities in Tokyo.

Against a basket of six rival currencies, the dollar was a touch lower on the day at 93.418 . The greenback edged down 0.2 percent to 113.11 yen, while the euro was a touch firmer at $1.1850.

Elsewhere, U.S. crude oil futures extended gains, helped by a North Sea pipeline outage, OPEC-led supply cuts and expectations that U.S. crude inventories had fallen for a fifth week. WTI and Brent crude futures remain supported by the larger than expected drawdown in crude stockpiles via last night’s API release (-5.22mln vs. Exp. -3.5mln). Elsewhere, the latest reports suggest that Ineos are pressing ahead with repairs on the Forties crude pipeline with their preferred repair option. In metals markets, gold was marginally higher on a tepid greenback, while copper was uneventful overnight and held near this month’s highs. Elsewhere, Chinese iron ore futures were seen lower by 1% overnight after steel prices hit a two-week low.

Market Snapshot

  • S&P 500 futures up 0.3% to 2,692.25
  • Brent Futures up 0.05% to $63.83/bbl
  • MSCI Asia Pacific up 0.08% to 171.74
  • MSCI Asia Pacific ex Japan down 0.01% to 558.57
  • Nikkei up 0.1% to 22,891.72
  • Topix up 0.3% to 1,821.16
  • Hang Seng Index down 0.07% to 29,234.09
  • Shanghai Composite down 0.3% to 3,287.61
  • Sensex down 0.02% to 33,830.46
  • Australia S&P/ASX 200 up 0.06% to 6,075.62
  • Kospi down 0.3% to 2,472.37
  • Gold spot up 0.2% to $1,264.57
  • U.S. Dollar Index up 0.01% to 93.45
  • STOXX Europe 600 down 0.1% to 390.63
  • German 10Y yield fell 0.5 bps to 0.374%
  • Euro up 0.03% to $1.1843
  • Brent Futures up 0.05% to $63.83/bbl
  • Italian 10Y yield rose 10.9 bps to 1.646%
  • Spanish 10Y yield fell 4.2 bps to 1.443%

Top Overnight Headlines from BBG

  • Senate Republicans passed the most extensive rewrite of the U.S. tax code in more than 30 years, a bill that delivers a deep, permanent tax cut for corporations and shorter-term relief for individuals
  • Before reaching President Trump’s desk, the bill must return to the House for one final vote Wednesday. After that, the president said, he’ll hold a news conference at the White House
  • European Commission says the U.K. will be a third country as of March 30, 2019 and transition period to end Dec. 31, 2020; U.K. officials fear Spain will threaten to veto a Brexit transition phase if the British prime minister refuses to negotiate a separate deal with the government in Madrid that covers the disputed territory of Gibraltar
  • Sweden’s central bank formally ended a program of bond purchases after almost three years, but pledged continued support for the nation’s benchmark debt market into 2019 in a step designed to ensure a smooth retreat from record stimulus
  • With elections in Catalonia on Thursday seen unlikely to give a clear majority to the separatist bloc demanding the region’s secession, bargain hunters are being lured to Spanish shares as the IBEX 35 Index trades near its cheapest relative to the Euro Stoxx 50 Index in more than seven years
  • Uber Technologies Inc. lost a battle over its stance that it differs from traditional taxis, after the EU Court of Justice said the car-hailing app should be regulated as a transport service. The ruling can’t be appealed
  • Bonds and equities in developing countries will continue to streak ahead in 2018, outpacing their developed-nation peers into next year, according to a Bloomberg survey of 20 investors, traders and strategists while currencies could struggle
  • China says monetary policy will be prudent and neutral next year while fiscal policy will be proactive; will keep basic yuan stability at reasonable level, according to statement from Xinhua News released after top officials’ planning meeting
  • BOE Agents’ Summary 4Q: pay growth edged up, expected to be higher in 2018; manufacturing supported by past decline in sterling

Asia equity markets traded with an indecisive tone after the Santa rally stalled on Wall St. where the majors retreated from record highs as participants sold the news of the House passing the tax reform bill, although the passage was later nullified after some provisions broke Senate rules. ASX 200 (+0.1%) and Nikkei 225 (+0.1%) eventually traded positive on what was a choppy session with corporate scandals clouding over Japan including the maglev bid collusion, while Subaru was the worst performer after allegations it may have falsified mileage data. Chinese stock markets fared no better as both Hang Seng (-0.1%) and Shanghai Comp. (-0.3%) traded with a lacklustre tone, amid mild profit taking from recent gains. Finally, 10yr JGBs were flat as prices failed to benefit from the sombre risk tone or Rinban announcement valued at JPY 840bln in maturities across the curve, as the BoJ also kick-started its 2-day policy meeting today.

Top Asian News

  • China Reiterates Prudent, Neutral Monetary Policy
  • Noble Group Is Said to Seek RCF Waiver Extension to May
  • Bank of India Placed Under Corrective Action Plan; Shares Drop
  • Fosun to Buy Asahi Stake in Tsingtao for $847m
  • Only Thing Yen Experts Agree On Is U.S. Rates Will Drive It

European equities trade modestly lower as US tax optimism fails to make its way into Europe after the Senate approved the Republican tax bill with the House due to re-vote on the issue later today. As has been the case throughout the week, European macro newsflow remains particularly light as traders eye the festive period. Sector specific moves have been relatively broad-based with little in the way of outliers. Individual movers include Stada (+8.9%) at the top of the Stoxx 600 after signing an agreement with Bain/Cinven, with troubled German-listed Steinhoff (-30.0%) at the bottom of the pile after reports that lenders have severed credit lines to the Co. Bunds were already on the turn as Gilts re-joined the fray, but it was the scale of the gap down in UK bonds and follow-through selling off the Liffe open that appeared to catch the Eurex benchmark cold and nudge it to a fresh 162.20 low (-18 ticks vs +10 ticks at best). The 10 year UK debt future slumped to 124.51 (-45 ticks), partly in corrective trade given due to different closing times, before dip buyers stepped in to push prices back up to 124.85, and this looks like some psychological resistance in the cash market ahead of the 1.25% marker. However, bears or vigilantes are still directing moves at the current juncture amidst more curve re-steepening, while seasonally light volumes are also exacerbating price action with market contacts noting that a mere 200 lot sale in Bunds pushed the contract down 3 ticks.

Top European news

  • Billionaire Niel Takes Iliad to Ireland With Eir Takeover
  • Steinhoff Slumps to New Lows After Investors Sue in Germany
  • Italy Elections Projected to Produce Hung Parliament: Corriere
  • As Shell Gambles on Gas, Leaks Loom Over Clean Credentials
  • SEB Says Riksbank’s First Rate Hike Now More Likely In 3Q
  • New Areva Seeks Nuclear ‘El Dorado’ in Asia as Europe Declines
  • Don’t Fear Amazon, Say Backers of Revival for European Grocers

In FX markets, SEK has been a key focus in European trade following a well-managed release by the RIksbank which initially saw pressure on EUR/SEK after the Bank announced their plans to bring forward reinvestment of redemptions. Thereafter, the cross returned to unchanged levels as the Riksbank left the door open to further easing; other key aspects of the release included the Bank maintaining their repo path. Elsewhere, the USD-index trade flat despite events Stateside with the DXY unable to breach the 93.50 level with some analysts attributing upside in USD/JPY to spread widening between USTs and JGBs. Elsewhere, the remainder of FX markets trade with little in the way of notable direction as volumes continue to recede.

In commodities, WTI and Brent crude futures remain supported by the larger than expected drawdown in crude stockpiles via last night’s API release (-5.22mln vs. Exp. -3.5mln). Elsewhere, the latest reports suggest that Ineos are pressing ahead with repairs on the Forties crude pipeline with their preferred repair option. In metals markets, gold was marginally higher on a tepid greenback, while copper was uneventful overnight and held near this month’s highs. Elsewhere, Chinese iron ore futures were seen lower by 1% overnight after steel prices hit a two-week low.

Looking at the day ahead, expect Brexit headlines to continue with the European Commission due to publish its directives for the Brexit transition phase and heads of mission from EU member states due to meet to discuss Brexit. Away from that, data releases include November PPI in Germany, December CBI retail sales in the UK and November existing home sales in the US.

US Event Calendar

  • 7am: MBA Mortgage Applications, prior -2.3%
  • 10am: Existing Home Sales, est. 5.53m, prior 5.48m
  • 10am: Existing Home Sales MoM, est. 0.91%, prior 2.0%

DB's Jim Reid concludes the overnight wrap

One can’t wind down too much though as a lot happened yesterday and the rest of the week still has important news-flow ahead. Not only did the tax reform bill take another big step forward but we saw a huge sell off in Government bond yields around the globe, making it one of the worse days of the year for fixed income.

Firstly on US tax reforms. As we type, the Senate has just passed the bill by 51-48 in a post midnight US vote. Earlier the House voted 227-203 to pass it. However, later on, the House Majority Leader McCarthy noted the House may have to vote again on Wednesday morning (US time), as the Senate found three provisions in the House bill that don’t comply with the Chamber’s budget rules. This is not expected to change the outcome though and with the Senate news just in, today should be the day that the bill progresses towards Mr Trump’s desk.

Before this, yesterday was all about the moves in bonds. This was led by a sudden sell-off in Europe. 10 year Bunds (+6.9bp) and BTPs (+10.8bp) both had their worst day for 5.5 months while OATs (+7.5bp) had the worst for c1 month. Treasuries (+7.0bp) and Gilts (+5.7bp) were also higher with 10yr Treasuries (2.464%) at their highest yield since March 17.

There seemed to be several contributing causes that encouraged the sell-off. i) Firstly the hawkish comments from three ECB central bankers. The ECB’s Makuch said ECB “discussions are increasingly moving from asset purchases to the eventual future use of interest rates to regulate the economy”. Then the Bundesbank’s Weidmann reiterated his call for a definitive end date for QE, he noted “a faster conclusion of net asset purchases and a clearly communicated end date would have been reasonable” and that increased capacity utilisation will lead to “somewhat higher wage pressure”. Finally, the ECB’s Hansson noted that it’s important the ECB “moves gradually when adjusting policy guidance”, but should consider moving to communication that draws attention to multi-faceted aspect of monetary policy in 1H. ii) Secondly, the German Finance Agency Head Tammo Diemer has confirmed that Germany will issue more long debt issuance and some investors are also expecting increased supply of US government bonds next year, which appears to be weighing on bonds, and finally iii) the less liquid pre-Christmas trading period may have also exaggerated the moves.

Following on, the US 2s10 has steepened from its record low of 51.6bp, rising 9.4bp over the past two days to 61bp, which marks the largest consecutive increase since President Trump was elected. On the topic of yield curves, our US economists recently took a different approach to investigate the relationship between the yield curve slope and future growth. They note that more than half of the flattening this year has been driven by the term premium and that their results suggest that the yield curve is signaling only a modest slowdown in the year ahead. Overall, they do not think the yield curve flattening should be a source of great consternation, at least not yet.

This morning in Asia, markets are mixed but little changed. The Nikkei (+0.19%), Kospi (-0.27%), Hang Seng (-0.07%) and China’s CSI 300 (-0.28%) are trading sideways. Treasuries are slightly firmer with UST 10y yields down 1.6bp this morning.

Now recapping other markets performance from yesterday. US equities softened from record highs as investors awaited the full passage of the tax bill. The S&P (-0.32%), Dow (-0.15%) and Nasdaq (-0.44%) all traded modestly lower. Within the S&P, losses were led by the real estate (-1.89%) and utilities sector, with partial offsets from consumer staples and energy stocks. European markets were broadly lower, partly reversing the prior day’s gains, with the Stoxx 600 (-0.42%) and DAX (-0.72%) lower while the FTSE bucked the trend and rose +0.09%. The VIX rose for the second consecutive day and was up 5.3% to be above 10 again (10.03).

Turning to currencies, the US dollar index weakened 0.25%, while Sterling was broadly flat and the Euro gained 0.49%. In commodities, WTI oil rose 0.59% ahead of API data expected to show a fifth consecutive week of shrinking US crude inventories.

Away from the market and onto Fed speak. The Fed’s Kaplan has also cautioned on the flattening yield curve, he noted that “it limits the Fed’s operating flexibility…in terms of how fast and how much we can raise rates”. He also added that the history of inversions tends to be a pretty reliable forward indicator of recessions, while this time may be different, but he “wouldn’t count on it”. Elsewhere, the Fed’s Kashkari noted that only a few contacts in his district suggest the upcoming tax reforms will lead to substantial changes in business behaviour, so for him the tax bill is not expected to result in a dramatic gain in investment or hiring.

Turning back to Brexit, the UK’s PM May has confided with her cabinet and then reiterated her desire for a bespoke trade deal after Brexit even though EU Chief negotiator Barnier noted earlier there should be no “cherry picking” of rules. Her office released a statement noting “we should be creative in designing our (Brexit) proposal” and that the UK would be seeking a “significantly more ambitious deal than the EU’s agreement with Canada”.

Finally over at Italy, President Mattarella is expected to dissolve parliament midnext week and call for a general election on 4th or 11th of March next year, as per an unnamed government official who spoke to Bloomberg. The timing is broadly in line with prior press reports.

Before we take a look at today’s calendar, we wrap up with other data releases from yesterday. In the US, the November housing starts were above market (1,297k vs. 1,250k expected), with this month’s rise led by a 5.9% mom increase in single family starts to the highest level since 2007. Housing permits also slight beat at 1,298k (vs. 1,270k expected). Elsewhere, the 3Q US current account deficit was slightly narrower than expected at -$110.6bln (vs. -$116.2bln). As a proportion of GDP, the deficit in 3Q amounts to 2.1%.

In Germany, the December IFO current assessment was above expectations at 125.4 (vs. 124.7) – marking the second highest reading since 2007. The IFO business climate edged down 0.4pts to 117.2 from last month’s post-unification high (vs. 117.5 expected) but remains solid. Finally, the IFO expectations index was a tad softer than expectations at 109.5 (vs. 110.7). Elsewhere, labour cost inflation in the euro area slowed to 1.6% yoy in 3Q from 1.8% in 2Q. By country, labour costs rose 2.2% yoy in Germany, 1.7% yoy in France and 0.5% yoy in Italy.

Looking at the day ahead, expect Brexit headlines to continue with the European Commission due to publish its directives for the Brexit transition phase and heads of mission from EU member states due to meet to discuss Brexit. Away from that, data releases include November PPI in Germany, December CBI retail sales in the UK and November existing home sales in the US.

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