Global Markets Slide As Trade War Fears Return, EM Crisis Grows

The rally that saw US stocks hit a record high for 4 consecutive sessions took a breather overnight as S&P futures and European stocks followed Asian shares lower on Thursday, as trade and geopolitical concerned re-emerged, hurting bullish sentiment.

Stock markets and major government bond yields rose in recent weeks on hopes that a global trade war could be averted, particularly with the leaders of the United States and Canada optimistic they could reach new North American Trade Agreement by Friday. Trump said earlier talks with Canada on overhauling Nafta are going well, while Canadian PM Trudeau said his government his trying to reach an agreement with the U.S. this week but won’t sacrifice its goal of getting the right deal

But with tariffs beginning to hurt the Chinese economy, Asian stocks lost some of their gains and European shares followed suit on Thursday on concerns over trade relations between the world’s two largest economies.

"In all honestly, the NAFTA situation probably reflects a desire to get the agreement over the line before elections in Mexico and the mid-term vote in the U.S.,"said OANDA analyst Craig Erlam. “It doesn’t mean the U.S. will look for a quick solution with China. There’s still a long way to run with these trade situations, and I wouldn’t be surprised if we see more tariffs on more goods before it gets better.”

Indeed, while NAFTA may be resolved as soon as Friday, the US-China trade is only set to worsen as US tariffs on another $200 billion of Chinese goods are expected to take effect next month.

Geopolitical fears also creeped back in, with the Korean Peninsula once again back in the headlines after President Trump accused  China of undermining U.S. efforts to pressure North Korea into giving up its nuclear weapons, indicating his trade war with Beijing is starting to exacerbate geopolitical tensions.

As a result, the mood turned sour in Asia first, where the MSCI index of Asia-Pacific shares ex-Japan dropped 0.3%, with broad gains across the region offset by losses in China which dropped the most in nearly 2 weeks. The Shanghai Composite Index slid 0.9%, closing at session lows and set for its biggest fall since Aug. 17, as tech shares slide and the National Team was clearly absent; The ChiNext Index of small-cap and tech stocks -1.3%, while shares in Hong Kong also fall, with Hang Seng Index -0.9%; Tencent lost 1.3% as biggest drag on the measure.

Earlier, a Reuters poll showed activity among China’s manufacturers probably slowed for the third straight month in August.

“Investors are relatively pessimistic and cautious for now amid low levels of trading volume, as there are still concerns over the development of the Sino-U.S. trade spat,” said Yan Kaiwen, an analyst with China Fortune Securities.

After a serious of aggressive interventions last week by the PBOC halted the Yuan slide, the offshore Yuan has resumed its slide in recent days. The CNH slid even though the PBOC strengthened the yuan fixing by 0.06% to 6.8113 per dollar, stronger than average estimate; central banks skips open-market operations. As Bloomberg reports, offshore yuan turnover jumped to a record in July on the CBOE global markets platform, spurred by President Trump’s attack on Chinese currency practices and the trade war

In Europe equity markets open lower and sell off further, real estate stocks lag after negative comments on the sector by Morgan Stanley; the Europe Stoxx 600 index dropped 0.4 percent on Thursday, dragging the MSCI world equity index off a five-month high. Miners led the retreat as most sectors fell on. Treasuries and most European bonds edged higher.

Today's profit taking is not unexpected: equities have rallied as August draws to a close, with an index of world stocks heading for a second weekly gain. Central-bank support in China has gone some way to stabilizing the currency and stemming a rout in Shanghai stocks, though worries remain concerning the U.S.-China trade spat and the pace of monetary tightening in the U.S. Looking at the future, sellside analysts are increasingly seeing only upside.

Back to the overnight market, Asia was also the center of some of the biggest overnight currency volatility after the Australian dollar slumped after second-quarter business investment and building approvals were much worse than expectations, while New Zealand’s currency tumbled as business confidence hit a 10-year low. Australia’s currency may fall to 71.6 U.S. cents over next few months as investment conditions in the nation deteriorate, according to Kyle Rodda, market analyst at IG Group in Melbourne

It wasn't just Asia, however, with broad risk-off sentiment emerging across all markets before tentative stabilization into the North American crossover. While there was no real catalyst cited for the moves, EM weakness was prominent again especially in currencies, as the USDZAR spiked higher through 14.50, driven partly by weakness in local stock market as MTN falls 18% due to Nigeria demanding a $8.1b refund.

The British pound extended its gains against the euro after recording its biggest gain in seven months on Wednesday. The gains came as European Union negotiator Michel Barnier signaled an more accommodative stance toward London in ongoing talks. "It is a slight change in tone from Barnier and a sign that the EU is very aware of the Brexit deadline and they don’t want a no-deal Brexit any more than we do,” said OANDA's Erlam.

The euro struggled to sustain an early advance as German regional inflation data for August showed slowing price growth in some areas compared with the previous month, as noted. German Regional CPIs y/y (National Est. 2.0%): Saxony 2.0%, Brandenburg 2.0%, Bavaria 2.2%, Baden Wuert. 2.1%, Hesse 1.7%, NRW 2.0%; additionally Saxony Core CPI 1.4% vs 1.5% prev. The common currency failed for a second day to overcome supply above $1.1700 that comes both on a take-profit basis and on fresh positioning, according to two traders in London and Europe

The dollar pared its weekly loss as month-end pressure subsided.

The Turkish Lira accelerated its drop for the 4th day, sending the USDTRY higher by 2.7% and bringing this week's decline to 9%. Today's drop was precipitated after Erdogan said that Turkey " is not without alternatives" and warning that "It’s not possible to make us back down with threats." Taking another hit at the US, Erdogan said that “some do not hesitate openly stating the fact that they are trying to drive us into a corner through the economy. There are surely structural issues in the Turkish economy. We know these issues and are working to fix them.”

Judging by the plunge in the lira, the market does not seem convinced:  the Lira closed last night -3.0% at 6.469 which is now weaker than where it was on the Friday 3 weeks ago (6.4323) when the panic spread across the market. The only softer closing level was on the following Monday (6.884) but that actually included a big intra-day rally back from the Asian wides. Yesterday was the third day in a row the Lira has weakened (post domestic holidays) while Turkey’s 5yr CDS was also +14.4bps wider and touched 500bps again (recent high was 535.0 on Aug 13).

Meanwhile, yet another emerging market currency is under scrutiny, this time Argentina’s, after the country asked the International Monetary Fund for early assistance, alarming investors and hurting the peso and the country’s bond prices. The IMF said it was studying the request from Argentina to speed up disbursement of the $50 billion loan. The Argentinian peso dropped more than 7 percent on Wednesday, its biggest one-day decline since the currency was allowed to float in December 2015. Yields on Argentina’s 100-year bond issued last year rose to its highest level yet at 9.859 percent overnight.

Elsewhere, WTI and Brent futures trade higher following the larger than expected draw in DoE crude inventories while concern looms of tightening supply by year-end. According to the WSJ, Iran’s oil exports are expected to drop from 2.7mln BPD in June to 1.5mln BPD in September ahead of US sanctions (coming into effect on November 5th). Otherwise, news flow for the complex has remained light thus far. Elsewhere, gold is lower on the day, having tested USD 1200/oz to the downside and currently close to the lower end of the range, while copper is on the backfoot amid underperformance in its largest consumer, China.

Expected data include personal income and spending, and jobless claims. Campbell Soup, Dollar General, and Lululemon are among companies reporting earnings.

Market Snapshot

  • S&P 500 futures down 0.2% to 2,909.00
  • STOXX Europe 600 down 0.4% to 384.92
  • MXAP down 0.3% to 166.05
  • MXAPJ down 0.4% to 538.60
  • Nikkei up 0.09% to 22,869.50
  • Topix down 0.03% to 1,739.14
  • Hang Seng Index down 0.9% to 28,164.05
  • Shanghai Composite down 1.1% to 2,737.74
  • Sensex down 0.2% to 38,648.80
  • Australia S&P/ASX 200 down 0.01% to 6,351.76
  • Kospi down 0.07% to 2,307.35
  • German 10Y yield fell 1.4 bps to 0.39%
  • Euro down 0.2% to $1.1681
  • Italian 10Y yield fell 6.1 bps to 2.852%
  • Spanish 10Y yield fell 1.2 bps to 1.452%
  • Brent futures up 0.4% to $77.45/bbl
  • Gold spot down 0.4% to $1,202.35
  • U.S. Dollar Index up 0.1% to 94.69

Top Overnight News

  • President Trump said talks with Canada to overhaul the North American Free Trade Agreement are going well, expressing optimism the two countries could reach a deal this week
  • Trump: “necessary and appropriate” to maintain a 25% tariff on steel imports and 10% on aluminum; allowing some product exclusions for South Korea, Argentina and Brazil
  • New Zealand business confidence extended its decline with sentiment about the general economy sinking to the lowest in a decade. Australian business investment unexpectedly dropped last quarter despite the broader economy showing solid growth and hiring
  • German Regional CPIs y/y (National Est. 2.0%): Saxony 2.0%, Brandenburg 2.0%, Bavaria 2.2%, Baden Wuert. 2.1%, Hesse 1.7%, NRW 2.0%; additionally Saxony Core CPI 1.4% vs 1.5% prev.
  • Euro-area economic confidence continued its slide in August as risks from trade tensions to politics weigh on momentum. The European Commission’s index of household and business sentiment fell for an eighth month to the lowest in a year
  • The IMF said it will consider Argentina’s request to speed up disbursements from a $50 billion credit line as the government seeks to restore investor confidence
  • Barclays Plc has moved its head of Asia Pacific fixed income syndicate to Hong Kong, as China gains more prominence in the region’s dollar-bond market
  • August has historically been a cruel month for emerging markets. A Bloomberg currency index that tracks carry-trade returns from eight emerging markets, funded by short positions in the dollar, suggests this year has been the worst on record
  • Sweden is increasingly under attack by forces trying to influence and disrupt the election in 10 days, Swedish Radio reported
  • The International Monetary Fund said it will consider Argentina’s request to speed up disbursements from a $50 billion credit line as the government seeks to restore investor confidence as peso tumbles
  • The U.K. government said the European Union should compromise or risk a “no deal” Brexit, as the timeline for reaching an agreement slipped back. Michel Barnier, the EU’s chief negotiator, said the EU was prepared to offer Britain an unprecedented partnership
  • The U.S. exempted South Korea, Brazil and Argentina from metal tariffs

Asian equity markets traded mixed as the initial impetus from Wall St where the S&P 500 and Nasdaq posted a 4th consecutive day of records and where sentiment was underpinned by better than expected US GDP data as well as NAFTA optimism, was eventually clouded by weakness in China. ASX 200 (flat) was initially led by outperformance in telecoms on confirmation of the TPG Telecom-Vodafone Hutchison M&A deal although upside in the index was capped by weakness in financials and following disappointing capex data, while Nikkei 225 (+0.1%) gapped above the 23k level at the open which it then failed to sustain. Elsewhere, Shanghai Comp. (-1.1%) and Hang Seng (-0.9%) were subdued amid continued PBoC liquidity inaction and the ongoing US-China trade dispute, while President Trump also blamed China for the difficulties related to North Korea. Finally, 10yr JGBs were lower amid the mild gains in Japan and after the 2yr JGB auction failed to spur demand despite stronger results. PBoC skipped open market operations for a net neutral daily position.

Top Asian News

  • Erdogan Says Turkey Won’t Back Down, Has Alternatives: Anadolu
  • Downloads of Chinese Ride App Didi Tank After Passenger’s Death
  • Varde, Birla Group Create $1 Billion Venture for Stressed Assets
  • Vodafone Shackled Down Under as Unprofitable Venture Joins TPG

European equities are largely on the backfoot (Eurostoxx 50 -0.7%). Germany’s DAX 30 (-1.0%) is underperforming its peers with the likes of German auto names, Deutsche Bank, Commerzbank and heavyweight Bayer pressuring the index. Sector wise, telecom names underperform despite Bouygues (+3.16%) taking a spot at the top of the Stoxx 600 following earnings, with the likes of Vodafone and Telecom Italia weighing on the sector. Material names are also a laggard, in-fitting with price action in the base metal complex, while Elekta (-8.8%) shares plummeted on disappointed figures.

Top European News

  • Panasonic Plans Post Brexit Move From London to Amsterdam
  • Astaldi Bonds Fall After Report Lenders Seeking Restructuring
  • German Unemployment Drops Further as Companies Signal Optimism
  • French Minister Calls for Patience on Impact of Macron Reforms

In Currencies, the GBP saw some loss of momentum on less positive Brexit talk from Germany’s Finance Minister who is unsure whether there will be a withdrawal agreement and doesn’t rule out a disorderly UK departure from the EU, but Sterling remains supported and not too discouraged by weaker than expected mortgage and consumer credit data. Cable is holding around the 1.3000 level vs just shy of 1.3050 at best, while Eur/Gbp has continued its retreat from close to 0.9100 peaks on Wednesday through 0.9000 and testing the 21 DMA around 0.8977. CAD - The Loonie continues to benefit from NAFTA deal prospects and a possible Friday accord along the lines of the US-Mexico agreement, while firm crude prices are also supportive as Usd/Cad trades within a 1.2935-00 range ahead of Canadian GDP data for Q2. EUR - The single currency has retreated after another rally above 1.1700 vs the Greenback on broadly benign German state CPI and Spanish inflation data, but remains underpinned at the top of a daily cloud formation between 1.1655-81. EM - Another day, but more misery for the region’s 2 whipping boys as the Lira and Rand  depreciate further – Usd/Try now over 6.6000 and Usd/Zar around 14.6500. Elsewhere, the Peso has pared some of its NAFTA-related gains to trade below 19.0000 vs the Buck, but its Argentine counterpart is sharply underperforming even though several forms of intervention were deployed on Wednesday to try and stop the rot – Usd/Ars closed almost 8% higher yesterday just under 33.8980.

In commodities, WTI and Brent futures trade higher following the larger than expected draw in DoE crude inventories while concern looms of tightening supply by year-end. According to the WSJ, Iran’s oil exports are expected to drop from 2.7mln BPD in June to 1.5mln BPD in September ahead of US sanctions (coming into effect on November 5th). Otherwise, news flow for the complex has remained light thus far. Elsewhere, gold is lower on the day, having tested USD 1200/oz to the downside and currently close to the lower end of the range, while copper is on the backfoot amid underperformance in its largest consumer, China.

Looking ahead to today we’ve got arguably the most significant data release of the week with the July personal income and spending reports. As part of that, we’ll get the core PCE reading where the market expects a +0.2% mom outturn to result in the first +2.0% yoy (+1.99% unrounded) reading since April 2012. For previously dovish-leaning policymakers such as Chicago Fed President Evans, hitting the Fed’s official inflation target would be an important milestone and add to their confidence that the Fed can continue on its gradual course of rate increases. So worth watching out for.

US Event Calendar

  • 8:30am: Personal Income, est. 0.4%, prior 0.4%; Personal Spending, est. 0.4%, prior 0.4%
    • Real Personal Spending, est. 0.2%, prior 0.3%
    • PCE Deflator MoM, est. 0.13%, prior 0.1%; PCE Deflator YoY, est. 2.3%, prior 2.2%
    • PCE Core MoM, est. 0.2%, prior 0.1%; PCE Core YoY, est. 2.0%, prior 1.9%
  • 8:30am: Initial Jobless Claims, est. 212,000, prior 210,000; Continuing Claims, est. 1.73m, prior 1.73m
  • 9:45am: Bloomberg Consumer Comfort, prior 58.6

DB's Jim Reid concludes the overnight wrap

The US equity market continues to devour all that’s put in front of it and hatching new records on a regular basis. This week it seems no news continues to be good news with the S&P 500 (+0.57%) and NASDAQ (+0.99%) climbing to fresh new highs last night and the DOW (+0.23%) cutting the gap to the all-time highs to less than 2%. It’s hard to know if this is just liquidity slowly coming back to markets post the holidays or something else completely but there’s hardly  been a plethora of newsflow for markets to feed off this week aside from the few bits and bobs we’ve touched on below. In fact the moves are coming despite a weak session for EM and specifically Turkey and Argentina with the Lira and Peso both depreciating sharply again.

Indeed the Lira closed last night -3.0% at 6.469 which is now weaker than where it was on the Friday 3 weeks ago (6.4323) when the panic spread across the market. The only softer closing level was on the following Monday (6.884 but that actually included a big intra-day rally back from the Asian wides. Yesterday was the third day in a row the Lira has weakened (post domestic holidays) while Turkey’s 5yr CDS was also +14.4bps wider and touched 500bps again (recent high was 535.0 on Aug 13). In fairness there didn’t appear to be one obvious catalyst for yesterday’s move, although the weakest economic confidence reading since 2009 didn’t help, and likewise the CBT’s move to reinstate borrowing limits on overnight transactions failed to inspire confidence.  Instead of addressing its fundamental imbalances by executing orthodox policies like conventional rate hikes and/or going to the IMF, the CBT continues to tweak its other, unconventional policy tools. The move to tighten interbank liquidity comes only two weeks after the central bank took the exact opposite step.

However, the tough day for the Lira was overshadowed by the steep depreciation in the Argentine Peso, which dropped 7.55% versus the dollar to a new all-time low of 33.97. The currency traded at 18.6 at the end of last year - a 45.3% depreciation to now. The immediate catalyst was President Macri’s request for the IMF to speed up disbursements under its current bailout program. Argentina had received $15bn in June and is due for another $3bn next month, but it is now unclear if that will be enough to stabilize the government’s finances amid persistent reserve drain. Policy interest rates are at 40.0%, but, with inflation rising to 31.2% in July, real rates are not tight enough to encourage capital inflows.  The economy is likely to contract this year, and the benchmark Merval stock index is down 27.6% since its January peak in local currency terms, and over 56% in USD terms.

This morning in Asia, equities are trading mixed after paring back earlier gains. Across the region, the Nikkei (+0.16%) and Kospi (+0.05%) are modestly up while the Hang Seng (-0.61%) and Shanghai Comp. (-0.81%) are down as we  type. Futures on the S&P and treasuries are little changed. Meanwhile the US / Canada NAFTA talks seems to be tracking relatively well, with Canadian Foreign Minister Freeland indicating she had productive discussions with US trade representative Lighthizer and there was “a lot of goodwill” from both sides. She added that officials from both sides “will be meeting until very late tonight”. Earlier on, the Canadian PM Trudeau was also cautiously upbeat as he noted “…there is a possibility of getting (a deal) by Friday”, while adding the caveat that “…it’ll hinge on whether or not there is ultimately a good deal for Canada”. As for data, Japan’s July retail sales rose for the ninth straight month and was above market at 1.5% yoy (vs. 1.2% expected).

Looking ahead to today we’ve got arguably the most significant data release of the week with the July personal income and spending reports. As part of that, we’ll get the core PCE reading where the market and our US economists expect a +0.2% mom outturn to result in the first +2.0% yoy (+1.99% unrounded) reading since April 2012. As our colleagues noted, for previously dovish-leaning policymakers such as Chicago Fed President Evans, hitting the Fed’s official inflation target would be an important milestone and add to their confidence that the Fed can continue on its gradual course of rate increases. So worth watching out for.

It would be nice if that data wakes bond markets up as we stumbled upon a fairly interesting stat yesterday about Treasuries. The 10y yield has traded in a remarkably low 21bps intraday range so far this quarter which is tracking to be the lowest for a quarter since 1965 when we only had closing level data. For some perspective the average quarterly range since 2010 is 62bps. This is slightly biased by yields being as low as they are and us only being 2/3rds of the way through the quarter but the MOVE index, which should adjust for low yields, backs up the point somewhat with the index only a few points off the YTD low at 49.9 (low was 45.3 last month in this quarter) compared to the average of 53.8 in 2018 and all-time low of 44.0 made in November last year.

To be fair, Treasuries and wider bond markets were a bit weaker yesterday. The 10y Treasury closed 0.4bps higher at 2.884% while yields in Europe – with the exception of Italy (more on that shortly) – were 2 to 3bps higher.

Coming back to Italy, the relative outperformance for BTPs (-6.2bps) and the FTSE MIB (+0.68%) yesterday appeared to be down to a flurry of headlines initially reported in Italian press La Stampa suggesting that the Italian government  was reaching out to the ECB for a new round of QE designed to defend Italy’s debt from financial speculation (according to Bloomberg) and also avoid a downgrade. The story was later downplayed by Deputy PM Di Maio although this does follow the recent Bloomberg story about Conte winning a pledge from US President Trump about also buying up Italian debt. To be fair these stories feel like a distraction and noise with the much bigger near term issue for markets being the budget proposal next month.

Elsewhere, the other relatively big mover in FX yesterday was Sterling which rallied as much as +1.39% from the lows before closing +1.19% higher. This followed comments from EU Brexit negotiator Michal Barnier that "we are ready... to propose a partnership like there has never been before with any other third country." This is consistent with the existing EU offer from March and the readout from Barnier’s meeting last week with UK Brexit Minister Raab. It isn’t new news as the EU still has red lines that haven’t changed. Nevertheless, the market took the news as a positive signal that it lowers the odds of a no-deal Brexit scenario. UK rates sold off as well, as the positive rhetoric raised the odds of further BoE action. The market moved up its pricing for the next rate hike to May from August 2019. Meanwhile the German Finance Minister Scholz seems to have maintained his conciliatory tone as he hopes “we can proceed fast” in negotiating a “manageable exit”.

Meanwhile, the main data print yesterday came in the US with the Q2 GDP revised up 0.1 pp to 4.2% qoq saar. Capital expenditures and net exports both improved slightly, more than outweighing a slight downward revision to consumer spending. This confirms the strong trend in the first half of the year, and our economists maintain their forecast for 3.1% qoq growth this quarter. Separately, pending home sales declined 0.7% mom in July and MBA mortgage applications fell last week. Both are noisy series and shouldn’t detract from the economy’s strong underlying trends.

Looking at the day ahead, apart from the aforementioned US core PCE print, we’ll also get flash August CPI for Germany at 13:00 London today (2.1% yoy expected). That will be preceded by German regional CPI data and the official August unemployment rate. At 10:00 London time, the final Eurozone consumer confidence reading for August will be released by the European Commission.

In the UK, we’ll get mortgage, money supply, and consumer credit numbers for July. Second quarter Canadian GDP growth will print later this afternoon, and is expected to show healthy growth of 3.1% qoq saar. Away from the economic data, EU foreign affairs ministers are due to meet at a conference (continuing into Friday) to discuss topics including the Middle East, trans-Atlantic relations, the Iran nuclear deal and North Korea.