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Last week’s title of my weekly was “It might be time for markets to take this trade war seriously” and for a day it looked like that might be right. But the mid week recovery which saw the losses in evidence Monday erased and some ephemeral sense of hope feed through markets seemed to me to smack of a real complacency.
Bloomberg’s John Authers put it best Friday with his headline “Irrational Equanimity Has Taken Over the Markets“. And I couldn’t agree more with his strap line, “Any number of metrics show investors are too relaxed about the potential for the trade wars to escalate”. And escalate they have as China said there is no point the US sending envoys at the moment, as it cancelled Pork shipments from the US even though the Chinese people desperately need the meat given problems at home, and as President Trump clears the decks by making nice, or at least less horrible, with allies in Mexico, Canada, Europe, Japan, and Turkey so – me and plenty of others are betting – he can focus on China.
Why else would he escalate with this week’s telecommunications bans aimed at Huawei and ZTE and buy time on these other issues like automobiles if he wasn’t going to have a laser focus on China.
Things are escalating and markets are showing irrational equanimity. Next week could be huge.
Now for the week ahead, let’s dive in.
Key Themes driving markets
Too calm by half…complacency or equanimity
I mentioned the John Authers’ article above because I think it perfectly sums up what a lot long term traders and investors are probably thinking – or at least wondering right now. That is, how is it after the very thing that markets and economists had feared – the escalation of tariffs between the US and China – that the initial weakness Monday morphed into the following three day’s rally.
There are some, who say that markets overreacted last Monday and the wipe off of valuation was excessive in relation to the actual cost of the tariffs. It’s clearly an idea that resonated with many in the market as Monday’s losses were wiped away with rallies in the S&P 500 and global benchmarks over the following three days trade.
But to me that Panglossian take makes little sense given the escalation in the trade war the market feared is finally upon us. The escalation that has the real chance to disrupt relations between the world’s biggest economies for more than just a few months and many seem still to think.
It’s as if we’ve moved from the Powell Put, to the Trump Put, to the G20 Put – as I heard someone refer to it on Bloomberg Surveillance Friday. That is the market has moved its expectation that it will be saved from the Fed, to President Trump’s desire to do a deal, to now a hope that the sidelines meeting between President’s Xi and Trump at the G20 will miraculously deescalate tensions.
It’s been Hope, hope, and now more hope. Complacency or equanimity, it doesn’t matter the outcome is the same. I agree with Peter Atwater who John Authers quoted in his article when he says, “Investor complacency is staggering. Forget Beyond Meat; we are now beyond words. This risk, however, is existential. If one of the risks identified above becomes real, it will be game over. When it comes to investors’ binary decision-making, it will be all or nothing. This is a market without a net. Back through Monday’s low a cascade could easily take hold. In the meantime, party on”.
Party on indeed, she’ll be right. Until it’s not.
Huawei and the lifting of North American tariffs signal Washington’s intent
I’ll get to the stocks and other market outlooks below. But before that I want to simply highlight that the US imposition of 25% tariffs on the existing list, the threat to the further $300 billion, the Chinese imposition of 25% tariffs on $60 billion, and then the US President Trump signed an order allowing U.S. to ban telecom gear from foreign adversaries. It was a measure aimed at China’s Huawei and ZTE and even though Reuters says the US Administration U.S. may scale back Huawei trade restrictions to help existing customers, it’s a clear escalation.
And it’s ignited a growing nationalistic fervour in China .
in many ways though it is China cancelling US and Canadian pork orders which goes to the nub of my view this is a genuine escalation and swiftly becoming an intractable one.
By any sense of the imagination it’s self harm on the Chinese side give there are estimates the Chinese pork herd has collapsed in such a spectacular fashion recently under the weight of the swine flu. But, if the New York Times story on How Xi’s Last-Minute Switch on U.S.-China Trade Deal Upended It has any semblance of truth then as I suggest in one of my daily notes last week President Trump too may have miscalculated China’s resolve.
Recall I recently wrote I thought the Chinese were backing away so as to not be seen as kow-towing? This from the NYT (my bolding):
“Several sources said the changes were discussed with other Communist Party leaders, which brought into focus worries that the proposed deal could make Mr. Xi and the party look as if they were bowing to pressure.
Soon after, the Chinese negotiators sent their American counterparts a version of the draft agreement in a Microsoft Word document, speckled with cuts and changes”.
So where does that leave us and the G20 put?.
I think the last two paragraphs of that New York Times article above sum things up nicely:
“Mr. Trump said Monday that he would meet Mr. Xi during a Group of 20 leaders meeting in Osaka, Japan, next month. But such a meeting would probably at best pave the way for more talks.
“It is very hard to think China will cave in or surrender to these pressures,” said Wang Yong, the director of the Center for International Political Economy at Peking University. “Public opinion definitely matters.”
Just like Brexit – almost intractable. Thucydides folks, his trap!
Stocks still had a down week after all
Using the S&P 500 as the global benchmark it’s fair to say markets dodged a bullet with the bounce back from last week’s lows which was coincident with my 30 week moving average. That suggests the upside is holding for now. It’s also consistent with the Jimmy R still pointing higher.
That’s important because a bullish biased JimmyR on the weekly S&P’s and other stocks and markets means the strategic or structural bias is still up but that tactical moves can be driven by the daily and weekly MACD systems – and on that count I’m short the S&P 500 on both time frames of the MACD system and have generated sell orders on the weekly Nasdaq 100 and Russell 2000.
Here though too you can see a different, harder, Chinese approach. Certainly I’d bet if the trade battle extends China will add fiscal stimulus and infrastructure spending to the economy. But they have used state mouthpieces to suggest they are ready and willing to weather the storm the battle would cause economically.
On this front it is worth noting the narrative always seems to come from the Western side of the discussion which suggests China is “emboldened” by its economic recovery…blah, blah and has only stood up and pushed back against teh USA and President Trump because of this economic recovery…blah, blah. But I don’t buy it. China is pushing back because it feels it needs to to be the nation and the People President Xi and his CCP envision.
And nowhere is that more starkly obvious than in the reality they’ve continued to let the Shanghai composite and other markets slide. It may not continue and the difference between the CNH and CNY rates at the moment are reflective of the market taking the Yuan weaker. But watch Chinese authorities and their approach to Chinese markets as an indicator of this trade war and where it’s headed.
Forex markets are backing a long battle and the USD is catching a bid.
The Yuan moves last week, along with that of the Aussie and Kiwi, not to mention the pulse lower in copper are all indicative of a move by forex and commodity traders to take a more nuanced view of the outlook for and impact of the escalating trade battle between the US and China than the one stocks traders seemed to take.
Not for forex traders is the notion of the G20 put. Rather forex markets seem to be pricing the intractability of this battle and a general impact of Chinese and global growth prospects. The most obvious recognition of this was both the vertical rise of the USDCNH rate and the impact this had on other EM forex markets. Equally though the big miss on China data last week also saw the CESI score for China and EM collapse, utterly.
That’s an almost 50 point turnaround in China and 40 point turnaround in the EM CESI scores on the back of weak data flow in the past week. That’s a big miss and reinforces the notion that China and its economy is under pressure.
The corollary of that thought, the one that flows instantly to top of mind for many traders and investors, is that China may let the Yuan weaken as a strategic initiative. It’s analogous to the bond market traders and investors fears China could weaponise it’s bond holdings by liquidating some or all of its $1 trillion horde.
So far while traders push the offshore Yuan rate (USDCNH) higher authorities are dragging their feet on the official (USDCNY) fixes over the past week. So a break and hold above the psycholgically important 7.00 isn’t guaranteed. But if we do see I’ve got 7.3 pencilled in as the next target. Remember the McKenna mantra though – respect levels unless or until they break.
But gee whiz this one looks like it is going to break – my system has been long USDCNH since April.
Turning to the USD Index and the Euro now.
It’s clear we are approaching very important levels. The DXY is back at 98 and the Euro at 1.1150ish. That’s a reflection of the reality that the uptrend in DXY and downtrend in Euro remain firmly intact. The big levels now in the frame are 98.90/99.00 and 1.1050 respectively.
That’s the levels I’d expect the probability of a reaction in the other direction to grow. But the trend is you friend and in that regard DXY 103/104 and Euro 1.04/05 seem only a matter of time.
These moves when they come will impact all forex and many other asset markets.
Bonds still heading lower
It’s the weekend so I don’t want to prattle on too much. But this chart of the US 10’s is worth noting. A break of 2.34% would usher in a very big rally into the 2.10% region. The level has to break first though and last time we saw a bounce back into the high 2.5% region. But watch the price action in teh 10’s closely – it’s important for other markets like USDJPY, gold, and risk assets.
And just quickly, the CFTC data
A big cut in the level of Yen shorts and a smaller reduction in Euro shorts were the primary driver of the fall in net USD longs over the past week. Pound shorts were cut as well which gives plenty of space for fresh GBPUSD selling now the cross-party talks seem to have broken down in the UK. Also noteworthy is the AUD position is getting shorter and close to recent cycle lows.
The market is still long of oil, and gold longs would have been hosed at the end of the week as the USDCNH/Y move likely caught some on the hop. Interestingly you can see that volatility shorts have closed a material portion of their positions too. That means there is less ammunition for a capitulation.
Monday kicks off the week with NZ services PMI and Japanese Q1 GDP. In Germany we get PPI while the EU current account along with the bundesbank Monthly report and in teh US we get teh little watched but still inflauential Chicago Fed national Activity Index. There are also speeches from the Fed’s harker, Williams, and Clarida while the Boe’s Broadbent is also speaking.
Tuesday is South Korean PPI, a speech by Fed chair Powell at 9am my time, teh minutes to the last RBA meeting as well as a speech from RBA governor Lowe at Lunchtime – while he reposition the RBA’s outlook, or give reasons why it is holding fire? Should be interesting. We also have a number of speeches from ECB, and Bundesbank members as well as Rosengren and Evans from the Fed. US existing home sales are out as well. API crude is out at the end of trade.
Wednesday sees the release of retail sales in NZ, Reuters Tankan, exports, imports, and machinery data in Japan. In Australia its the Westpac leading indicator of growth and the first of the partial GDP indicators with the release of construction work done. We get speeches from BoJ’s Harada along with the Fed’s Bullard and Bostic, and ECB president Draghi and chief economist Peter Praet. UK inflation data is out, along with Canadian retail sales, US mortgages applications and the EIA crude and other data.
Thursday is flash PMI day around much of the globes with the first estimate of Markit’s PMI data for the month of May. Final German Q1 GDP is out as well as the Ifo business data. The minutes from the last ECB meeting are out as are jobless claims, new home sales, and Kansas City Fed manufacturing index. There is also a speech fest around the middle of teh day NYC time when we hear from the Bundesbank’s Wuermeling, as well as the Fed’s Kaplan, Barkin, Bostic, and Daly.
Friday kicks off with Kiwi trade, Japanese inflation, before a couple of Bundesbank speeches, along with retail sales in the UK. In teh US we get durable goods to round out the week.
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