After legalizing marijuana, Canada is not the only place where market practitioners saw highs last week. U.S. Treasuries continued their ascent, with ten-year yields closing the week over four basis points higher at 3.195%. Higher rates, tariff concerns, and geopolitical risks were once again the main culprits behind the equity and bond markets’ swings. A hawkish tone underlying the Fed’s September meeting minutes with the potential rise in increased borrowing costs drove a selloff in equities.
Further, weak earnings from industrials (due to greater expenses and the impact of tariffs) contributed to the markets’ edginess. Increased geopolitical tensions between the U.S. and Saudi Arabia on the back of journalist, Jamal Khashoggi’s death, prompted U.S. Treasury Secretary Mnuchin to pull out of an investment conference in Saudi Arabia this week. Khashoggi’s disappearance was also cited as a risk to U.S. economic outlook, by Fed Official Raphael Bostic. Potential sanctions against Saudi Arabia could impact oil prices.
Concerns surrounding U.S./Saudi Arabia relations placed additional pressure on stocks, particularly defense companies. Geopolitical risks and higher rates were offset by relatively strong corporate earnings announcements. The S&P 500 ended the week almost flat. The Dow Jones closed the week slightly (0.4%) higher, the first time it closed in the green in three weekly sessions.
I. U.S. Economic Data/Markets
- Federal Open Market Committee’s September minutes had hawkish underpinnings.
- The committee unanimously voted for the September rate hike with a general consensus that rates should continue to move higher.
- The Fed removed “accommodative” in describing its monetary policy and replaced it with “restrictive” – which was perceived more hawkish.
- The minutes also suggested that the committee is not averse to hiking rates above the neutral level of 3% if the data warrants the move.
- Interest rate futures reflected an 83% probability of a Fed rate hike in December post report.
- Retail sales increased modestly in September, increasing 0.1% from August and 4.7% from a year ago, largely on the back of automobile purchases.
II. Trade Talk
- The Brexit Summit resulted in a standstill, although it was reported that the UK’s transition from the EU may be extended by a few months. The current plan is for the UK to leave the EU by the end of 2020. Issues surrounding the Irish border and the need for customs checks remains to be resolved. The pound saw downward pressure versus the euro given the summit’s inconclusive ending.
- The U.S. Treasury Department’s biannual currency exchange report concluded that the government has not been interfering with the renminbi’s devaluation.
- The report noted that China is not resisting depreciation of its currency through intervention, unlike the past. Secretary Mnuchin also noted concerns surrounding China’s lack of currency transparency.
- The Treasury Department will closely monitor “trading partners that account for a large and disproportionate share of the overall US trade deficit,” and mentioned that the Treasury is concerned regarding the depreciation of RMB and will pay close attention to its moves in conjunction with ongoing talks with the PBOC.
- Italy Concerns
- Moody’s downgraded Italy’s country rating to Baa3 from Baa2, a notch away from a junk rating, on the back of weakening fiscal strength. Italian bonds sold off on the back of the announcement, with increasing fears that there may be a contagion effect to other Southern European countries. For example, the gap between safe-haven German bonds and Spanish bonds were the widest since April 2017 with a spread of 121.2bps in 10-year government bonds as of this writing.
- Italy’s capital markets have since leveled off on Monday as Moody’s cited that the outlook was stable.
- EU voices concerns regarding Italy’s budget proposal.
- The EU’s budget chief noted that the Commission and member states are concerned regarding Italy’s spending plans that will lead to the country’s deficit to rise to an annualized 2.4% of GDP.
- The EU has limits for member states’ deficits and debt levels. While the 2.4% level is below the EU’s ceiling of 3%, it implies that the country’s debt will be over 130% of GDP which is higher than the 60% limit.
- China Economics
- China’s 3Q GDP growth surprised to the downside coming in at 6.5% y-o-y, the lowest level since 2009. The market was largely expecting a level of 6.6%. Slowing retail sales, rising corporate defaults and a scaleback in industrial production all attributed to the data.
- Retail sales in September remained buoyant rising 9.2% compared to a year ago, suggesting that the trade war with the U.S. has not impacted Chinese consumers as much as some economists have predicted.
- Chinese President Xi Jinping, on Monday, vowed “unwavering” support for the country’s private sector.
This week: Two major central banks meet this week, the Bank of Canada and the European Central Bank. The market is largely expecting the BoC to hike rates to 1.75% on the back of stronger inflation and increased business optimism. While the ECB signaled it would not raise rates until next year, a focus will be on any changes in sentiment and concerns surrounding the Italian budget. Finally, key U.S. data will be released throughout the week, with a keen focus towards the end of the week when PCE inflation data, the Fed’s preferred inflation gauge, and 3Q GDP data is released.
Key data/events include:
- JPY All Industry Activity Index (Monday)
- Chicago Fed National Activity Index
- German PPI (Tuesday)
- U.S. Redbook Index
- JPY Leading Economic Index (Wednesday)
- U.S./German/EU Markit PMI Services/Manufacturing data
- U.S. Housing Price Index
- U.S. New Home Sales
- U.S. Beige Book
- Bank of Canada rate decision/post-meeting press conference
- NZD trade data
- JPY foreign investments in domestic bonds/equities
- AUD unemployment data (Thursday)
- German IFO data
- ECB Bank Meeting/press conference
- U.S. durable goods
- U.S. pending home sales
- JPY CPI
- U.S. GDP (Friday)
- U.S. core personal consumption expenditures