The first week of a new month was off to a brisk start today with China’s PMI releases, very much a game of two halves. The weekend releases of the official Manufacturing and Services PMIs for October caused some early palpitations as both underperformed, falling to 49.2 and 52.4 respectively. However, the privately complied Caixin PMI, rose unexpectedly to 50.6, providing some relief for regional markets.
Elsewhere, Markit Manufacturing PMIs from across ASEAN, and the Jibun Manufacturing PMI in Japan showed impressive improvements, lifting Asian recovery sentiment. The exception was South Korea, whose Markit PMI fell to 50.2 from 52.4 in September. Part of the answer for the fall lies in their also released Balance of Trade. Exports grew 24% YoY, roughly as expected, but Imports surged by 40.10%, suggesting that price hikes in imported energy and raw materials are biting, although domestic demand is returning as vaccinations increase.
Japanese markets were on fire today with the Nikkei 225 up 2.0% in early trade. The weekend elections were behind the surge, as the ruling LDP retained its outright, if slightly slimmer, majority in the lower house. Pre and post the Aber-era, being the Japanese Prime Minister was as secure a position as being the Turkish Central Bank Governor. The election is an endorsement for the new Prime Minister Kishida, and markets were once again pricing in his promised fiscal stimulus package. At the periphery, the Jibun PMI outperformance will also have lifted spirits that Japan Inc.’s recovery remains on track.
Down under, Australia reopened international borders today, if you were Australian and vaccinated. But it’s the thought that counts, much like Scott Morrison’s climate pledges. That was reason for cheer and to some extent, had offset disappointing Home Loans data for September, which fell by 2.70%. Some were saying that is a sign Australia’s housing market has peaked.
I say that over the last three decades, that’s as dumber trade as shorting the Hong Kong dollar anticipating the peg breaking, or shorting Japanese JGB’s anticipating the return of inflation in Japan. (Side note, the author shorted the HKD quite aggressively during the Asia financial crisis in his former trading desk life, and lost.) Home Loan’s though, have been offset by a very impressive ANZ Jobs Advertisements MoM for October, which rose by a mighty 6.20%. Even stripping out lockdown effects in Victoria and New South Wales, the data was undeniably positive.
This will give the Lucky Country’s Reserve Bank of Australia food for thought at tomorrow’s policy meeting. It will add further torment to participants in Australia’s financial markets. Tomorrow is Melbourne Cup Day, and for decades the RBA has refused to move its meeting, from just before the race to another day. It believes its policy meeting is more important than a horse race, the rest of the country disagrees.
Tomorrow though, everyone will need to be at their desk as the RBA today, appeared to have capitulated on its 0.10% 2024 bond yield target. Those yields exploded to 0.50% on Friday and today, the RBA has instead bought bonds in the 5 to 7-year tenors. A day of high drama beckons as markets wait to see if the RBA’s no rate-hike before 2024 ultra-dovish guidance is officially changed. Being short the Australian dollar in the first half of this week could be a perilous trade.
This week really is the show with everything but Yul Brynner. Much of Europe was on holiday today, and Russia for the whole week, but Germany released Retail Sales today and in the US, ISM Manufacturing PMIs. Tomorrow, we have the RBA policy decisions outlined above and pan-Europe Manufacturing PMIs. Wednesday is a Japanese holiday while Thursday sees much of Asia, including India and Singapore, on holiday for Diwali.
That is unfortunate timing, as the latest US FOMC policy decision will have been released a few hours earlier. On Friday, the US Employment Cost Index shot higher, making the transitory inflation argument a bit harder to justify. I expect the FOMC to formally announce the start of its taper of its quantitative easing, with the real question being, how much per month will it reduce, and will it show some spine and stay the course, even if markets correct lower. I do not believe the Fed taper has been priced into markets and as US earnings season winds down, the US dollar and US yields may rise, and equities may struggle to maintain their rarefied valuations, at least for the rest of Q4.
The Bank of England announces its latest policy decision on Thursday, with markets locked and loaded for a 15 basis point hike and hawkish forward guidance. That may still occur, but I would suggest the risks are that the BOE disappoints on this front and tempers the expectations of the inflationistas. Long sterling has become another crowded trade in anticipation, and despite last Friday’s month-end US dollar rally, probably still is.
Post-FOMC, another monthly US Non-Farm Payrolls has rolled around. So anyone thinking of putting their feet up post FOMC should probably think again. We’ll deal with that later in the week, but needless to say, the crown noise will continue right until the stadium lights are finally turned off on Wall Street at 5 PM Friday. The Democrat spending Bill continues to be negotiated and could yet impact markets, depending on its size or how watered down it will be. I shall avoid comment until I see a piece of paper with its final contents.
Finally, the travails of China’s property sector may have gone quiet, but haven’s gone away. Evergrande (HK:3333) made some very last moment offshore coupon payments last week, but that’s hardly the sign of a company that is in recovery, is it? Units of Evergrande have more payments due this week on Nov. 6, but the sector in general has around $2 billion in offshore payments due this month.
I would direct readers to an excellent piece from Bloomberg on the subject here, Bloomberg China Property, which features a comprehensive breakdown of who has to pay what and when. The executive summary there are a lot of payments due this morning to offshore instrument holders from a number of Chinese developers.
A very mixed day for Asian equities
Wall Street unwound an intra-day selloff late in the session, on what I suspect, were month-end flows, to finish modestly in the green on Friday. The S&P 500 rose 0.19%, with the NASDAQ climbing by 0.33%, while the Dow Jones finished 0.25% higher. In Asia, US index futures were around 0.20% higher, lifted by a strong start in Japan. South Korea shrugged of mixed trade data to see the KOSPI rise 0.55%.
The story in China was a completely different one. The PBOC this morning started withdrawing the recent liquidity injections. The Shanghai Composite fell by 0.50%, with the CSI 300 edging 0.25% lower. In Hong Kong the selloff was more entrenched, the Hang Seng tumbling by 1.25%.
The mixed day continued in ASEAN where Singapore rose by 0.85%, with Jakarta 0.20% higher and Bangkok unchanged as borders reopened today to international visitors. Meanwhile, Kuala Lumpur tumbled by 2.10% after the government announced a one-off extra tax on large companies over the weekend. Australian markets shook on pre-RBA nerves, as US index futures climbed in Asia and international borders reopened today. Strong ANZ jobs data lifted sentiment further with the ASX 200 rising 0.70%, and the All Ordinaries rising by 0.35%.
Much of Europe was closed for a holiday today, but German and UK markets should be able to divorce themselves from China nerves to open slightly higher this afternoon. Further falls in European natural gas prices should also be a tailwind, especially for UK markets.
US dollar sees month-end surge
The US dollar surged on Friday, thanks to month-end flows and US employment cost data leaping by 1.30% QoQ, its biggest rise since 1996. Given that the measure is closely followed by the Fed, alarm bells started ringing about faster tightening of monetary policy. Nevertheless, given that US yields eased slightly across the curve, I suspect month-end flows were the main driver, combined with a short-term spec market that had got itself short.
The dollar index rose by an impressive 0.83% to 81.13, unwinding all its week’s losses. In Asia, the dollar index continued rallying, rising by 0.14% to 94.26. With the transitory inflation story ringing increasingly hollow, and FOMC taper, and a potential and long-overdue recovery in US Nonfarm Payrolls potentially on Friday, risks are now skewed to the topside for the US dollar. The dollar index could test 94.60 this week.
With the ECB in lower forever mode, despite rising European inflation, the euro took the brunt of the US dollar rally as rate expectations rose in the US. EUR/USD retreated 1.05% to 1.1560 before easing to 1.1545 in Asia. EUR/USD was within shouting distance of support at 1.1520, failure of which signals more losses to 1.1400.
Sterling’s fall from grace was more modest, GBP/USD retreating 0.80% to 1.3685, where it remained this morning. If the Bank of England is not as hawkish as hoped on Thursday, sterling could well retest the 1.3400 region later in the week. It had initial resistance at 1.3700 and 1.3750.
USD/JPY rose by 0.30% on Friday, lower US yields taking the edge of the strong US dollar story. In Asia, it rose again, climbing another 0.35% to 114.30 after the LDP win over the weekend, and a fiscal stimulus package to follow, and a Bank of Japan showing no signs of tightening monetary policy. USD/JPY had support at 113.40 while a rise through 114.70 signals more gains above 115.00. A hawkish FOMC opens up a test of 116.00.
AUD/USD and NZD/USD fell only modestly, both retreating around 0.40% to 0.7500 and 0.7165 as of today. The commonwealths were spared the US Dollar steamroller elsewhere as global investor sentiment remained positive. A change in the ultra-dovish RBA monetary policy guidance tomorrow, potentially signaled by their no show in the April 2024 bonds today, leaves AUD open to potentially quite substantial gains this week. That is more likely to be reflected in higher AUD/NZD, AUD/JPY or lower GBP/AUD, then a higher AUD/USD. Nevertheless, a return to 0.7700 cannot be ruled out in that circumstance.
That same positive investor sentiment seemed to be sheltering Asian currencies from the worst of US dollar strength today as well, as they closed out Friday with only moderate losses. USD/KRW, USD/MYR were up 0.20% today while USD/THB and USD/IDR were 0.45% higher, bringing losses to around 0.75% for both sessions.
The Asian FX outperformance was being helped by some quite strong recoveries in Asian PMIs this morning and an underlying trend of still modest inflation across the region. Another neutral fixing by the PBOC in USD/CNY remained supportive. Volatility will increase in the Asian FX space this week as we get to the US FOMC and US Nonfarm Payrolls. A tapering FOMC and more hawkish guidance, and/or decent Nonfarm data will lift US bond yields and the dollar and will probably see weakness return to the Asian currency space, where nobody in the region looks close to tightening monetary policy.
Oil faces challenges this week
Brent and WTI prices diverged on Friday with Brent easing 1.05% to $83.60, while WTI rose by 0.30% to $83.30 a barrel. Brent crude was capped by the US dollar rally on Friday, as well as stories circulating that OPEC+ could spring a surprise production increase at the week’s meeting on the 4th. By contrast, the rundown in stocks at the Cushing Hub, and US EIA data showing US daily production had shrunk by 150,00-bpd was supportive of WTI prices.
In Asia, both contracts moved in lockstep, opening lower today on weak weekend China PMI data, before rallying on firmer Caixin PMI and pan-Asia Markit PMI data. That rally quickly ran out of steam though, leaving Brent crude and WTI 10 cents lower from Friday’s close.
The oil rally faces some headwinds this week and I note Brent crude's downside breakout on Friday from a technical perspective. Although I do not believe OPEC+ will succumb to pressure and raise production quotas by the more than the previously agreed 400k barrels, they have surprised markets before. If they do raise production, the kneejerk sell-off could see oil fall by up to 10%.
A hawkish FOMC is another potential headwind, but the immediate threat is natural gas. Much of oil’s recent rally has been driven by the international squeeze in natural gas prices. With domestic storage now full, President Putin has directed Gazprom (MCX:GAZP) to start filling its European storage hubs. Spot prices for European natural gas collapsed on Friday by over 20%. Although the energy crunch remained real across China, India and Europe, and alleviating signs were likely to flow into weaker crude prices in the near term.
Brent crude fell through trendline support at $84.10 on Thursday, and this line capped its rally on Friday, leading to a weekly close under the trend line, a bearish signal. Brent crude now has resistance at $84.00, $84.50, and then $86.00 a barrel. Support was at $82.20, and fail could see it retest $80.00 a barrel. WTI looked more constructive, holding trendline support, today at $81.80, three times last week. It had resistance at $83.70 and then $85.50 a barrel. Below $81.80, $80.50 was a critical area of support, followed by $79.50.
Ominous price action for gold
Gold fell heavily on Friday, thanks to a powerful US rally on month-end flows and higher employment cost data. Gold crashed 0.85% to $1783.50 an ounce before edging slightly higher in Asia to $1784.75 an ounce. The undeniable fact now is that gold has failed to maintain gains into the $1810.00 region in four out of the last six trading sessions, and that was despite US yields moving lower. Gold, it seemed, was now back to its inverse correlation to the US Dollar.
With a heavy week of data and event risk ahead, the balance of probabilities has now shifted back to the downside for gold, unless the US dollar was, for some reason, to collapse this week. Time and again, gold investors have shown little to no appetite or ability to wear even the slightest pain on long positions above $1800.00 an ounce.
Gold now has resistance in the $1810.00 to $1815.00 an ounce region, with the far more formidable, and critical, $1832.00 to $1835.00 remaining far from reach for now. On the downside, gold fell through its one-month trendline support at $1787.60 on Friday, and its 100 and 200-day moving averages. The long capitulation saw gold fall to $1772.00 an ounce intra-day on Friday, and that formed initial support now. That was followed by $1760.00 and $1745.00 an ounce. Ahead of the FOMC, I expect a choppy $1770.00 to $1810.00 to prevail.