Rates as of 05:00 GMT


Market Recap

It’s really hard to predict the markets when so much of the price action comes down to what some crazy guy in Washington says on Twitter. Trump unexpectedly put off new tariffs on many Chinese goods, including cellphones, laptop computers and toys, until Dec. 15 – well after the start of the Christmas shopping season. “Just in case they might have an impact on people, what we’ve done is we’ve delayed it so that they won’t be relevant for the Christmas shopping season,” he said.

US stocks jumped 1.5% and all but one of the Asian indices is in the plus category this morning. That engendered a big “risk on” sentiment in the FX market, resulting in higher commodity currencies and lower JPY and CHF. AUD in particular jumped on the announcement --- there was basically only that one move in the currency over the last 24 hours.

The Treasury market also reacted strongly. Two-year Treasuries retraced Monday’s rally to end about 8 bps higher, while 10-years were up 6 bps. Bonds not only faced the switch in sentiment but also a stronger-than-expected US CPI (+1.8% yoy vs +1.7% expected, core +2.2% vs +2.1% expected). As a result, the market is now pricing 57bps of Fed rate cuts this year, down from 66bps as of Monday. The change contributed to a flatter yield curve – the 2yr/10yr spread is now just 4 bps, having hit less then 1 bp during the New York session yesterday. This spread is one of the market’s favorite recession indicators, so its continued flattening is a serious warning.

US economist Paul Krugman makes an interesting point:  why does the stock market react so strongly to these announcements? The movement in stock prices is way out of proportion to the direct economic impact of the tariffs. He explains that the markets take tariff announcements as indications of the broader decision process: “to be blunt, how crazy Trump is. Hard-line announcements suggested more radicalism to come, softer announcements more rationality.” But this time the move is obviously just a way to avoid politically damaging price hikes before Christmas and “not a change in Trump’s world view or improvement in his decision-making. So why respond so strongly?” I can only speculate that in this case, investors are hoping that electoral logic and pressure from business will restrain him from similar disastrous policy moves in the future. We can only hope, although there’s little basis for that hope.

Meanwhile, Chinese officials are reportedly sticking to their plan to visit Washington in September for face-to-face trade meetings, which suggests that talks remain on track for now. However, it appears that the Chinese are not very optimistic about making any progress. In particular, China is not likely to make any concessions in the run-up to Oct. 1, the celebration of the 70th anniversary of the founding of the PRC. So we can expect more trade talks, but can’t expect any solution. That’s a glass half full/half empty problem and nowadays, the market seems to be more worried about the empty half.

The Italian Senate rejected the League's call for a no confidence vote in parliament today and are to debate the no-confidence motion in parliament on August 20th. That should give the euro some respite, although it looks as if the market isn’t paying much attention to it nowadays.


Today’s market

The European day starts with German GDP, but I discussed that yesterday and you probably already know what the result of that one was anyway.

British inflation data is forecast to show a mild slowdown in inflation, with prices falling a bit from the previous month and the yoy rate of inflation ticking down one notch.

With the various measures of inflation just below the Bank of Engand’s 2% target, they could in theory take a more hawkish view on the assumption that the high level of wages growth (yesterday’s average wages ex bonuses were stronger than expected at +3.9%, far outpacing inflation) combined with the fall in sterling will push up prices sooner rather than later. But of course their main concern is Brexit, and there’s no chance that they’re going to hike rates while the government heads inexorably towards national suicide, so the figure is probably neutral for GBP.

The EU-wide preliminary GDP figures are rarely revised from the advance figures, and if they are, it’s normally just ±10 bps or so, so this figure is probably irrelevant.

Overnight, Australia’s employment data is an important indicator for that market, as the Reserve Bank of Australia (RBA) has basically said that its goal is to get unemployment down further. Back in May, when the RBA described the labor market as “strong,” they also said that “a further improvement in the labour market was likely to be needed for inflation to be consistent with the target.” Since then the unemployment rate hasn’t budged and the monthly increase in employment has slowed, even while the RBA changed its tune to say that “the Australian economy can sustain a lower rate of unemployment” than it has at present. It now estimates that the sustainable non-inflationary level of unemployment is well below 5%. The market consensus forecast for no change in unemployment would imply further easing is necessary and therefore be negative for AUD. 

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Marshall Gittler

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