Markets Coiled Ahead Of "Most Important Week Of The Year"

For what has been widely accepted as "the most important week for markets of 2019", the market sure is taking its time to get excited, with overnight volumes subdued and global shares easing modestly on Monday with US equity futures hugging the unchanged line as the dollar shit a two-month high against a basket of currencies as markets began the 2-day countdown to a guaranteed rate cut in the US on Wednesday, with much riding on whether the Federal Reserve cuts 25 or 50bps and signals more cuts are to come.

Interest rate futures are fully priced for a quarter-point rate cut from the Fed on Wednesday, with a tiny chance of a half-point move.  As such any hawkish surprise by the Fed threatens to crash risk assets, something which Powell is now terrified of doing after the late 2018 near bear market. More important will be what the central bank flags for the future, given the market implies 100 basis points of easing over the next year or so. “The market has fully baked in a 25 basis point cut,” Eugenia Victorino, SEB head of Asia strategy, said on Bloomberg TV.

“The week is off to a mixed start which isn’t wholly surprising given just how much investors have to follow in what is typically a peaceful time of year,” said Craig Erlam, senior market analyst at OANDA. “There’s no summer lulls just yet, with the Fed about to embark on an easing cycle, the BoE (Bank of England) offering its first assessment since Boris Johnson became PM, a third of S&P 500 and a quarter of Dow companies reporting second quarter earnings, the US jobs report being released and trade talks restarting between the US and China. As ever, this is almost entirely spread over four days so today may be the calm before the storm.”

MSCI’s All Country World Index of stocks, down by as much as 0.2% on the day, erased some losses to trade 0.05% lower.

After initially opening lower, European shares moved into positive territory thanks to a surge for the U.K index after the London Stock Exchange Group’s investors backed its proposed $27 billion deal to acquire Refinitiv. Generic drugmaker Mylan NV surged and Pfizer was slightly higher in premarket trading after the companies announced plans to merge their off-patent drug businesses. Deutsche Telekom rose the most in almost 10 months after the U.S. Justice Department gave the green light for its T-Mobile US unit to acquire Sprint Corp. Automakers in Europe lagged as major carmakers prepare to report results this week, while Heineken NV shares fell after the brewer reported a hit to earnings growth. On the other side, the Stoxx 600 Automobiles & Parts Index (SXAP) fell as much as 1.2%, making it the worst performer on the broader Stoxx Europe 600. Both car and parts manufacturers dropped, dragging down the sub- index to its third consecutive day of decline. Robert Bosch GmbH warned of a 5% decline in automotive production this year, echoing Continental’s forecast last week. The sector’s retreat comes after a three-day winning streak last week when investors focused on good news.

In addition to the Fed, the other key event is the restart of US-China trade talks: negotiators from Washington and Beijing will meet in Shanghai this week for their first in-person talks since a G20 truce last month, but expectations are low for a breakthrough. Data on the weekend showed profits earned by China’s industrial firms contracted in June, fuelling concerns that the trade war will drag on economic growth. “The markets are now pricing in a protracted negotiation” on trade, said Victorino. “We don’t expect much breakthrough.”

“We remain cautiously optimistic that both sides can agree on a narrow agreement that addresses important trade-related issues, such as U.S. demands to increase exports,” said analysts at Barclays in a note. “That said, we are skeptical about the prospects of a broader agreement that includes the more challenging security-related issues.”

In Asia, MSCI’s broadest index of Asia-Pacific shares was half a percent lower as hopes for progress at U.S.-China trade talks failed to offset worries over Korean corporate earnings and civil unrest in Hong Kong. Most markets in the region were down, with South Korea’s Kospi Index declining 1.8% and Hong Kong’s Hang Seng Index falling 1%. South Korea is already North Asia’s worst performer this year, and its slump continued Monday due to a weaker earnings outlook. Hong Kong, where several demonstrations happened during the weekend, pared losses in late afternoon as China reiterated “one country, two systems” in the city. Other than regional issues, two days of trade talks between the U.S. and China remained the key event investors are watching closely this week. While it will mark the two countries’ first important meeting since the G-20 summit in Osaka, mixed signals and news indicated that neither side is showing an urge to compromise. READ: U.S.-China Talks Set to Resume as Neither Seems Eager for a Deal Australia’s benchmark closed at 6,825.8, near previous record close of 6,828.705 set Nov. 1, 2007. Thailand’s market is closed for a holiday.

In geopolitical news, thousands of Hong Kong protesters clashed with police over the weekend in which dozens were arrested as protests regarding the extradition bill continued. In response, China’s Hong Kong Affairs Office says no one should sit by and allow a few individuals to trample on the rule of law, and the central Government firmly support Chief Executive of Hong Kong Carrie Lam and the Hong Kong police.

Elsewhere, Iranian Official Araqchi said emergency meeting with parties related to 2015 nuclear deal was constructive and unresolved issues remain, while he added Iran will continue to reduce its nuclear commitments if the EU cannot save the deal. Iran Vice President says Iran's foreign policy is to protect multilateralism and confront US hegemony.

In FX, the dollar index - which measures the greenback against a basket of peers - was higher by 0.1% and at its highest since May 31. A stronger-than-expected U.S. GDP report on Friday gave the dollar wings, as it led some investors to doubt whether the Fed will continue easing this year after its Wednesday meeting. Elsewhere in currencies, sterling fell to a fresh 27-month low around $1.2325 amid reports the government of Prime Minister Boris Johnson was preparing the ground for a “no-deal” Brexit.

In the latest Brexit news, UK Cabinet Minister Gove stated the government will make intensive efforts to get a better Brexit deal, but added we must operate on assumption we will not and that there will be a no-deal Brexit which we must be ready for. Further reports suggest that PM Johnson is to launch the largest advertising campaign since WW2 to get Britain ready for a no-deal Brexit, with an unprecedented marketing blitz on billboards, radio and television. FT reports that UK chancellor of the exchequer, Sajid Javid, is preparing to announce more than GBP 1bln in increased funding for a no-deal Brexit, according to people familiar with the matter. Institute for Government (IfG) has warned that there is no such thing as a managed no deal, and that predictions of a clean break from the EU made by hard Brexiteers will not occur.

In bonds, euro zone bond yields dipped as jittery investors eyed more U.S.-China trade talks and waited for a likely U.S. Federal Reserve interest rate cut, after the European Central Bank’s dovish signaling last week disappointed some. The benchmark German 10-year Bund yield fell more than 1 basis point to -0.3910%, not far from the record low of -0.422% touched last week.

In commodities, oil prices fell as investors fretted over the outlook for global economic growth, while weekend talks between Iran and major powers ended on a generally positive note, suggesting an easing of tensions in the Middle East.Brent crude futures eased 0.74% to $62.99, while U.S. crude lost 0.34% to $56.01 a barrel. Spot gold was flat at $1,418.13 per ounce.

Today's economic data include the Dallas Fed Manufacturing Outlook. Scheduled earnings include Booz Allen Hamilton and J&J Snack Foods Corp.

Market Snapshot

  • S&P 500 futures little changed at 3,023.50
  • STOXX Europe 600 up 0.2% to 391.58
  • MXAP down 0.4% to 159.40
  • MXAPJ down 0.5% to 523.58
  • Nikkei down 0.2% to 21,616.80
  • Topix down 0.2% to 1,568.57
  • Hang Seng Index down 1% to 28,106.41
  • Shanghai Composite down 0.1% to 2,941.01
  • Sensex down 0.6% to 37,664.74
  • Australia S&P/ASX 200 up 0.5% to 6,825.80
  • Kospi down 1.8% to 2,029.48
  • German 10Y yield fell 1.7 bps to -0.393%
  • Euro down 0.09% to $1.1118
  • Italian 10Y yield rose 4.8 bps to 1.214%
  • Spanish 10Y yield fell 3.2 bps to 0.34%
  • Brent Futures down 0.3% to $63.29/bbl
  • Gold spot little changed at $1,419.19
  • U.S. Dollar Index up 0.1% to 98.06

Top Overnight News from Bloomberg

  • China’s economy continued to weaken in July, bolstering the case for greater policy support to shore up growth as talks over the trade dispute with the U.S. continue
  • ECB President Mario Draghi didn’t pull his punches when he said the economic outlook is getting “worse and worse”; this week, he’ll get more insight into how bad it really is out there
  • Mylan Co.’s EU1b 2024 euro notes surge 4.6 cents to 108.1 cents, the biggest daily increase on record, after reports that Pfizer plans to combine its off- patent drug business with Mylan
  • Almost three months after their trade talks broke down in acrimony, Chinese and American negotiators meet again in Shanghai this week amid tempered expectations for breakthroughs in their year-long trade war
  • U.K. Prime Minister Boris Johnson’s high-level Brexit cabinet holds its first meeting Monday, and will gather every day to ensure the country leaves the European Union on Oct. 31
  • Former Fed Chair Janet Yellen says she would have supported a 25bps interest cut at the FOMC meeting this week, because of global economic growth slowdown and low inflation, the Wall Street Journal reported, citing her speech in Aspen, Colorado
  • Oil traded near $56 a barrel as the U.K. deployed a warship to the Strait of Hormuz to help escort commercial ships, while U.S.-China trade talks are set to resume amid little expectations for a breakthrough
  • The Treasury Department is expected to hold its quarterly note and bond sales at record levels for the third straight time as Washington’s latest budget deal shows that the U.S.’s debt binge will continue
  • China’s top office for Hong Kong affairs plans a briefing on the city’s unrest, after a weekend of demonstrations

Asian equity markets began the week tentative as the upcoming slew of key risk events such as the resumption of US-China trade talks, heavy central bank activity including the FOMC and the latest US NFP jobs data, clouded over last Friday’s record highs on Wall St where tech earnings and better than expected US GDP underpinned stocks. As such, ASX 200 (+0.5%) and Nikkei 225 (-0.2%) were mixed with tech and telecoms front-running the gains in Australia to push the benchmark index to record all-time high, while Tokyo sentiment was subdued by a firmer currency and with earnings in focus. Hang Seng (-1.0%) and Shanghai Comp. (-0.1%) weakened amid modest expectations regarding the US-China trade talks in Shanghai this week and following a decline in Chinese Industrial Profits, with underperformance in Hong Kong after violent clashes over the weekend in protests that entered an 8th consecutive week. Finally, 10yr JGBs traded flat despite the weakness in Tokyo stocks, with demand for bonds subdued as participants were sidelined ahead of tomorrow’s BoJ policy announcement in which it is expected to maintain its policy settings of QQE with YCC control and NIRP at -0.10%. PBoC skipped open market operations for a net daily drain of CNY 50bln. (Newswires) PBoC set CNY mid-point at 6.8821 (Prev. 6.8796)

Top Asian News

  • India’s Finance Minister Seeks ‘Significant’ Rate Cuts from RBI
  • In Latest China Bank Rescue, Authorities Avoid a Takeover
  • Jack Ma’s $290 Billion Loan Machine Is Changing Chinese Banking
  • Swissport Plans to Refinance Outstanding Debt
  • Activist Calls on U.S. to Stop Selling Tear Gas to Hong Kong

European indices have largely started the week off mixed/flat [Stoxx 50 unch], though the FTSE 100 (+1.1%) is outperforming as sterling has continued to move lower throughout the session. Sectors are similarly mixed with some underperformance in the Auto sector, with auto names down in sympathy with Peugeot/PSA Group (-2.6%) afflicted by reports that the Co. are to move all production from their UK, Ellesmere Port to mainland Europe in the event that Brexit makes the plant unprofitable. Other notable movers include, Just Eat (+24.1%) and LSE (+14.9%) who are at the top of the Stoxx 600 and FTSE 100 after the confirmation of takeover discussions with and sources indicating that the merger with Refinitiv is to be finalised within a week respectively. In contrast, at the bottom of the Stoxx 600 are Heineken (-5.3%) after the Co. reported operating profits of EUR 1.78bln vs. Exp. EUR 1.90bln for H1, though consolidated beer volume increased by 3.1% for the period. Finally, Novartis (-1.4%) are lower after the Co’s Paragon study just missed the statistical significance levels on its primary endpoints. Pfizer (PFE) is expected to announce that they will combine their off-patent drug business with Mylan (MYL) resulting in a market value of around USD 9.5bln.

Top European News

  • LSE Soars on Bet $27 Billion Refinitiv Bid Will Boost Bourse
  • U.K. Starts No-Deal Brexit Meetings as It’s Now a Real Prospect
  • Sports Direct Falls as Shock Tax Bill Deepens Governance Worries
  • Rightmove Results Mask Worrying Trend as Agents Leave: Berenberg

In FX, another day of mild gains for the broad Dollar and index in a continuation from Friday’s GDP-induced momentum and ahead of an action packed week for the Buck, which will see the currency tackle US-China trade talks in Shanghai, the FOMC’s latest monetary policy decision, US ISM and jobs data. DXY gains more ground above 98.00 having eclipsed last week’s high (98.09) ahead of the YTD high at 98.37, meanwhile today’s docket sees a lack of Tier 1 data and no notable scheduled speakers (with the Fed on blackout until Wednesday evening)

  • GBP, EUR, JPY - The Pound has succumbed to further Brexit angst and has given up the psychological 1.2350 mark to the downside, with the move lower coinciding with usual punchy language from UK’s newly appointed Foreign Minister Raab, who reiterated hard lines on Brexit negotiations. As the prospect of a no-deal exit intensified, some desks are observing the declining GBP/USD 3-month risk reversals, which indicate that options skewing leans more towards Sterling weakness in the near-term. Cable has fallen to fresh 2yr lows and currently hovers just under 1.2325 with little by way of immediate tech levels to the downside. Elsewhere, the rising EUR/GBP cross has somewhat cushioned the single currency from Dollar headwinds, with EUR/GBP gaining further tractions above the 0.9000 level. Meanwhile, EUR/USD sees a cluster of options around 1.1100-10 (800mln) and 1.1135-50 (800mln) ahead of today’s NY cut. USD/JPY action is largely dictated by the Dollar ahead of this week’s key risk events and with the BoJ set to publish its latest monetary policy decision overnight. USD/JPY trades closer to the top of a 108.42-70 intraday range with 1bln in options expiring at strikes 108.95-109.05.
  • AUD, NZD - The antipodeans are somewhat resilient to an extent against the firmer Dollar and remain in tight intraday parameters following last week’s losses. Participants are keeping a close eye on US-Sino trade developments as delegates convene in Shanghai in an attempt to restart talks where it was left off, although officials from US have downplayed expectations of a breakthrough. AUD/USD currently trades a whisker away from 0.6900, with the next support level to the downside highlighted at 0.6890 ahead of the psychological 0.6850 while NZD/USD keeps its head above 0.6600.
  • TRY - Further gains for the Lira in the aftermath of the CBRT’s deeper-than-forecast rate cut as the prospect of a normalising economy seemingly materialises. Analysts at SocGen also speculate that yield-seekers may be bypassing G10 currencies and instead chasing EM yields. USD/TRY trades around 5.6370 and nearest to the bottom of a 5.6240-6710 parameter

In commodities, WTI and Brent are also posting a relatively subdued start to the week, with prices little changed though they have regained the USD 56.00/bbl and USD 63.00/bbl levels to the upside respectively after a brief dip in the complex took them below these levels this morning. Some are attributing this dip to comments from Iran referring to emergency talks on a nuclear agreement as ‘constructive’ which may indicate a easing of tensions in the region which; though the dip was short-lived as there is no sign of respite for UK-Iranian tensions as a second UK warship arrives in the Gulf after Iran seized a UK tanker last week. On the complex, PVM notes that due to the lack of a convincing bullish move on Friday, WTI still has a viable objective to the downside as such a move below near-term support levels in todays session would be sufficient to move the complex lower. In terms of metals, Gold (U/C) is unchanged but towards the bottom of the days range on a lack of catalysts thus far ahead of this weeks aforementioned risk events, similarly copper prices are little changed on the lacklustre risk sentiment.

US Event Calendar

  • 10:30am: Dallas Fed Manf. Activity, est. -5, prior -12.1

DB's Jim Reid concludes the overnight wrap

Welcome to the last few days of July, and a very important FOMC at month-end on Wednesday. If you’ve spent the weekend castigating your children for playing endless rounds of video games bear in mind that a packed Flushing Meadows in New York witnessed the Fortnite World Cup this weekend with the 16 year old winner taking home $3M. Indeed a British 15 year old boy took home $1.125m for finishing second in the pairs competition. To put things in perspective the Tour De France winner yesterday earned €450k in prize money after three weeks and a lifetime of pain and self denial. It really makes me wish I’d have progressed from being satisfied at getting an unbeatable world record in the Javelin on Daley Thompson’s Decathlon 30 years ago on the ZX Spectrum. With a bit more concentration on that and less on school work I could have been someone!

The FED will take care of the main market joystick this week and it’s hard to look past Wednesday’s FOMC conclusion when looking for the highlight of the week - if not the entire summer. Before we preview what will almost certainly be the first cut since 2008, the other main events are as follows. Staying with central banks the BoJ (Tuesday) and BoE (Thursday) sandwich the Fed this week with the no direct policy changes expected but with pressure on both to turn more dovish. The other blockbuster moment is the US jobs report (Friday) after a strong report last month dispelled some fears from previous months. Q2 Euro Area GDP (Wednesday) and the global manufacturing PMIs/ US ISM (Thursday) are the rest of the main data highlights. As all this occurs, we’ll see the resumption of US-China trade talks as the US delegation flies into China today, along with further earnings releases as 168 S&P 500 companies report.

Returning to the Fed, although a 25bps rate cut has been pretty much fully priced in, there is still a chance (or maybe a hope from many in the market) that it will be 50bps even if the Fed have done little to encourage such an assumption. Even to the point that when NY Fed President Williams perhaps did 11 days ago in a speech, the NY Fed took the unusual step of putting out a statement a few hours later downplaying any signalling.

DB’s US economists are expecting a 25bp cut, before further cuts in September and December. Powell’s press conference will be key to how much the committee signals further cuts though. The domestic data has held up ok recently so it will be a hard balance to out dove a market baying for stimulus. Maybe the ECB meeting last week serves as a warning on this front. I suspect we won’t know too much about what they’ll do next as they’ll keep maximum optionality and data dependency. It’s worth reminding readers that as we embark on a 19th Fed easing cycle since the 1950s, 9 have not been able to prevent the US economy moving into an imminent recession (see full report from our asset allocation team last week here ).

Turning to politics, this week will see the resumption of trade talks between the US and China, with the US team, including Trade Representative Lighthizer and Treasury Secretary Mnuchin, travelling to Shanghai today to meet their Chinese counterparts, with discussions starting tomorrow. Sticking with politics, this week will see the second round of the Democratic primary debates for the 2020 Presidential election, with the two debates taking place on Tuesday and Wednesday night. Meanwhile in the UK, there’ll be a parliamentary by-election on Thursday in the Welsh constituency of Brecon and Radnorshire which could easily reduce Boris Johnson’s majority to two (even including the DUP). The full day by day week ahead is at the end as usual for a Monday.

Asian markets have started the week on the back foot with the Hang Seng (-1.20%) and Kospi (-1.46%) leading declines. For the former the continued local protests, which started over the proposed extradition bill to China, are weighing while for the latter, weak earnings seem to be the issue. The Nikkei (-0.39%) and Shanghai Comp (-0.14%) are also seeing relatively modest declines. Elsewhere, futures on the S&P 500 are down -0.10% and the Chinese onshore yuan is trading -0.18% this morning at 6.8928. In terms of overnight data releases, Japan’s June retail sales came in at +0.5% yoy (vs. +0.2% yoy expected) with the previous month revised up by one-tenth to +1.2% yoy.

Staying with Asia, Bloomberg has reported overnight that three Chinese state-owned financial heavyweights, including Industrial & Commercial Bank of China Ltd., agreed to buy at least 17% of Hong Kong-listed Bank of Jinzhou Co. on Sunday. Bank of Jinzhou’s fate, which has been facing liquidity issues, has been a focus since China unexpectedly seized control of Baoshang Bank, earlier in May. Elsewhere, Bloomberg reported over the weekend that several Chinese companies have been approved to buy certain US farm goods tariff free.

Meanwhile here in the UK, PM Boris Johnson’s high-level Brexit cabinet will hold its first meeting today and will gather every day to ensure the country leaves the EU on October 31. Today’s meeting will be led by Michael Gove and he wrote in the Sunday Times that unless the EU agrees to re-open negotiations, “No deal is now a very real prospect, and we must make sure we are ready.” Sterling is trading -0.15% this morning at 1.2366. In other news, Turkey’s President Erdogan said after last week’s interest rate cut by the country’s central bank that, “This was what needed to be done,” while adding, “Even this cut is not enough. Cuts may continue gradually until year-end.”

Last week’s price action was dominated by the trend of US economic outperformance relative to the rest of the world. That trend was emphasized by the strong US GDP report on Friday, which showed a 4.3% expansion in consumption spending, though investment did subtract around 0.1pp from the headline GDP growth print of 2.9%. Net exports and inventories also dragged. That contrasts with Europe, where manufacturing PMIs were worse than expected and President Draghi failed deliver a comprehensively dovish message at the ECB’s press conference after what initially seemed a very dovish statement. There’s little doubt that major ECB easing is coming but it seems there remain a few hurdles in getting council agreement.

This divergence was evident in markets as well, with the euro weakening -0.85% versus the dollar (-0.19% on Friday) and bund yields falling -5.2bps (-1.3bps Friday) compared to a +1.5bps increase in treasury yields (-1.1bps Friday). US equities outperformed, with the S&P 500 and NASDAQ rallying +1.65% and +2.26% (+0.74% and +1.11% Friday) respectively, to both close at fresh all-time highs. The DOW gained a more modest +0.14% (+0.19%) as a few corporate earnings, especially Boeing (-8.57% on the week), weighed on the price-weighted index. However, overall, earnings reports were generally positive, with Alphabet (+10.05%), Texas Instruments (+9.30%), and UPS (+16.76%) some obvious highlights. In aggregate, S&P 500 earnings are beating consensus expectations by +5.3%, which is better than the historical average of around 3.4%. In Europe, the STOXX index gained +0.90% (+0.31% Friday) on the week, while the MSCI EM index fell -0.37% (+0.21% Friday).

In other markets, credit rallied in both the US and Europe, with indexes of cash HY spreads tighter by -13.5bps and -18.5bps in the US and Europe, respectively (-3bps and -1bps on Friday). As mentioned the fallout from the ECB’s policy meeting where they signalled imminent easing was mixed, and peripheral spreads to bunds widened by +1.4bps in Italy (+6.3bps Friday) and +3.7bps in Spain (+2.9bps Friday) with politics in both countries providing additional noise. On the other hand, inflation expectations rose, with the 5y5y inflation swap rate up +4.4bps (+3.9bps Friday) to its highest level in eleven weeks and around 20bps higher than pre-Sintra levels. Volatility remains subdued, with the VIX back down -2.3pts (-0.6pts Friday) to 12.16, right around its lowest level in a year.