REALITY CHECK: IT’S TIME FOR THE MARKET TO TAKE A CHILL PILL
The broad market was getting ready to enjoy the refreshing effects of a massive liquidity wave by the Federal Reserve up until the jobs report was released on Friday afternoon. According to the pricing implied by the Fed funds future, the broad market foresaw a cumulative 100bp worth of rate cuts over the course of the next 12 months, and even toyed with the thought of a greater-than-25bp rate cut in July. The actual June US (un)employment numbers, however, were at odds with the market’s overly bearish expectation.
In the aftermath of the jobs report release, the market has started to recalibrate its expectations for the Fed funds rate. On Monday morning, the pricing implied a 25bp cut with very high certainty in July and 50bp additional easing for the next 6-9 months. In conclusion: a release of liquidity vis-à-vis Fed funds rate cut could give the broad market a sugar rush in the short-term but would not have a long-lasting positive effect.
S&P 2,990 -0.29%, 10yr Treasury 2.02% -4.89bps, HY Credit Index 338 +0bps, Vix 13.28 -.32Vol
Investor sentiment was positive in the US stock markets during the week, as the major stock indices gained: the S&P500 increased 1.7%, whilst the Nasdaq Composite rose 2%. As a result, the S&P500’s year-to-date gain adds up to a whopping 19.3%. By the end of the trading week, the broad USD index (DXY) rose 1.2%, whilst the Treasury curve shifted upwards on the back of an unexpectedly strong jobs report. Consequently, the short-end of the curve exhibited a significant increase, i.e. Fed funds futures price now a cumulative 75bp rate cut for the next 6-9 months vs. 100bp just a week ago. The 2-year Treasury yield jumped 10bp to 1.84%, whilst the 10-year edged up 3bp to 2.01% by the end of the Friday.
The June jobs report released on Friday was stronger than the ADP report on Wednesday implied and definitely more robust than the market consensus. Non-farm payrolls increased by 224,000 in June, bouncing from 72,000 in May. The strengthening of employment was broad-based. Meanwhile, unemployment rate rose 0.1ppt to 3.7% in June, due to the fact that labour force participation increased to 62.9%, i.e. a number of inactive unemployed people returned to the formal labour market seeking a job. Most importantly, nominal earnings growth was stable at 3.1% YoY in June, which means that in the context of softening consumer price inflation, real wage growth further accelerated.
Eurostoxx 3,465 +3.80%, German Bund -0.30% -3.00bps, Xover Credit Index 253 -19bps, USDEUR .879 -1.17%
European stock markets were sluggish. The Italian benchmark delivered the strongest performance out of the four largest Eurozone economies, as the index rose 2.3% in USD. In contrast, the Spanish index was up 0.2%, the German index gained 0.1%, whilst the French one declined 0.3% (all in USD). Sovereign yields further declined in the Eurozone after it was announced that the Christine Lagarde, the IMF’s current Managing Director, was nominated to take over the premiership of the European Central Bank. According to the market moves, the broad market expects policy continuity under Mrs. Lagarde, i.e. cutting interest rates and restarting the asset purchase programme. By the end of the trading week, the 2-year German Bund yields was -0.75%, whilst the 10-year Bund yield slipped 4bp to -0.36%.
HSCEI 10,706 -0.36%, Nikkei 21,513.18 -0.28%, 10yr JGB- 0.15% 0bps, USDJPY 108.300 +0.36%
Asian stock markets delivered a mixed performance during the week. Pakistan’s stock market was among the strongest performers, as the country’s stock index rose 4%, followed by Vietnam 3% and Sri Lanka 2.9% (all in USD). Major markets such as Chinese “A” and “H” shares increased 0.7% and 0.3% in USD, respectively. In contrast, the South Korean (-2.5% in USD), the Thai (-0.2% in USD) and the Taiwanese market (-0.1% in USD) underperformed.
The Finance Minister of India announced the cornerstones of the Indian budget on Friday. According to the Minister, the budget deficit was set to 3.3% of GDP for FY2020, 0.1ppt lower than in the previous fiscal year. The measures include increasing the threshold for highest corporate income tax key (to INR 400,000 per annum), an allocation of INR 700bn (about 0.3% of GDP) for bank recapitalisation, expanding the government-funded pension scheme to include employees of up to 30mn small retailers, etc.
Inflation in the Philippines slowed to 2.7% YoY in June, as the disinflation of food prices (such as rice and corn) carried on. In addition, the declines in fuel and education costs contributed to the lower headline inflation figure. According to the central bank governor, ‘there is a lot of monetary policy space’ for easing financial conditions and added that inflation will stay within the inflation target range of 2-4% in 2019 and 2020.
Inflation in South Korea remained depressed in June, as the headline gauge was 0.7% YoY, whilst the core measure reached 0.9% YoY.
Weak domestic price pressures in South Korea are increasingly likely to trigger rate cuts by the central bank soon.
MSCI Lat Am 2,910 -1.24%
The majority of Latin American stock markets performed well during the week. The Brazilian market delivered a very strong performance of 3.1% in USD, as the pension reform bill was passed by the Lower House Special Committee. The Brazilian market was followed by the Colombian (+1.7% in USD) and the Mexican market (+1.4% in USD). In contrast, the Chilean market underperformed, as the country’s stock index declined 0.6% in USD.
The Bolsonaro-led government’s flagship pension reform bill was passed by the Lower House Special Committee. The bill now proceeds to the Lower House floor, where the government expects a vote before the 18th July, when Congress breaks for recess.
Investment activity in Mexico remained underwhelming, as the growth of investments was 2.5% MoM in April despite the low base. Meanwhile, private consumption rose 1.3% MoM in April.
Domestic drivers of Mexico’s GDP growth have been losing momentum. Both monetary and fiscal policymakers have limited room to provide stimulus to the frail Mexican economy.
The monthly GDP proxy index in Chile indicated the underlying economy expanded 2.3%% YoY in May, bringing the year-to-date growth to 1.8% YoY. The headline figure was primarily driven by non-mining activities, as mining output contracted in May.
MSCI Africa 813 -0.68%
Investor sentiment in the African space deteriorated. As a result, the vast majority of the African stock indices declined: the Egyptian benchmark decreased 0.6%, the South African index was down 1.8%, whilst the Nigerian benchmark declined 2.5% (all in USD).
Purchasing manager indices (PMIs) in Africa were promising in June. The respective Kenyan and Nigerian PMIs improved to 54.3 and 54.8, signalling that confidence related to future industrial activity became more positive and the majority of respondents expect industrial output to increase over the course of the next few months. Meanwhile, PMIs in Egypt and South Africa were 49.2 and 49.7 in June, signalling that industrial activity could stagnate or slightly weaken. On the bright side, both the Egyptian and South African PMIs strengthened compared with the May values.
The South African government announced that it was planning a new rescue plan for Eskom, the country’s troubled electricity company. According to government officials, no decision has been made yet whether the state will provide further subsidies or take over some portion of Eskom’s debt (total amount is about 9% of GDP).
An actual sustainable resolution to Eskom’s deep financial issues would be more than welcome, as business and industrial confidence got stuck at depressed levels largely due to domestic structural deficiencies, such as the unreliable electricity supply.
Real GDP growth in Morocco moderately slowed in 3Q, to 2.6% YoY. The slowdown was due to a moderation in the growth of household demand as well as a contraction in agricultural output, as the lack of rain significantly weighed on cereals production.
This week’s global market outlook is powered by Alquity www.alquity.com