Investors Take PMI Crash in Stride

The Nikkei rose for the first time this week, and its 1.5% gain led the region. Europe’s Dow Jone Stoxx 600 is little changed as it continues to move sideways in a 320-340 range. US shares are slightly firmer.  In the bond market, the rally in the European periphery is the standout, as the ECB liberalized its collateral rules further. The US 10-year year is virtually unchanged at around 62 bp. In the foreign exchange market, the dollar is mixed.
The Norwegian krone is surging more than 1%, and the dollar bloc is also firmer, while the euro complex (euro, Swiss franc, and Danish krone) are nursing small losses. JP Morgan’s Emerging Market Currency Index is snapping a three-day slide. Gold, which approached $1660 earlier this week, is extending its recovery to press against $1725. Oil continues to recover from this week’s epic sell-off.  June WTI is a little below $16, and June Brent is a little above $22 a barrel.

Asia Pacific

 
Japan’s preliminary PMI fell further, though the market reaction was minimal. The manufacturing PMI eased to 43.7 from 44.8, and the service PMI fell to 22.8 from 33.8.  This saw the composite slide to 22.8 from 36.2. The BOJ meets next week. While it is unlikely to cut rates deeper into negative territory, many expect the BOJ to announce new efforts to ensure bank lending.
Australian’s preliminary PMI also fell. The composite slumped to 22.4 from 39.4. It is the sixth decline in the past seven months. Manufacturing slipped to 45.6 from 49.7, while the services component nearly was halved to 19.6 from 38.5.
 
South Korea’s economy contracted 1.4% in Q1 from the end of last year. It was largely in line with expectations.  It offset the 1.3% expansion in Q4 19. Household consumption fell 6.6% on the quarter. During the Asian financial crisis in the late 1990s, consumption crashed twice as much. Imports fell more than exports, which means that the net export component contributed to GDP. Public spending rose a little less than 1% on the quarter after a 2.5% jump in Q4 19. The risk is still on the downside this quarter.
Hong Kong Monetary Authority intervened for the third consecutive session to sell Hong Kong dollars and buy US dollars. It appears to have bought nearly $1 bln this week so far. The relatively wide interest rate differential of around 90 bp boosts the demand for HKD.
The dollar is in less than a 20 tick range on either side of JPY107.70. It has not moved off the JPY107-handle this week yet. Large option expirations today may reinforce the narrow band. There are about $3.6 bln in options struck between JPY107.25 and JPY107.50 that expire today. On the topside, are options for about $1.3 bln placed between JPY107.90 and JPY108.00.
The Australian dollar is firm within the range established earlier this week between roughly $0.6250 and $0.6400. It fell in the first two sessions this week and is edging up today for the second session. Net-net, it is off slightly on the week. The greenback drifted a little lower against the Chinese yuan.  It has gained once in the last five sessions.

Europe

 
The flash PMI readings were worse than expected. The broad story is the same, nearly everywhere. Manufacturing fell while service activity imploded. The composites reflect the importance of the latter. German manufacturing PMI fell from 45.4 to 34.4. France’s fell to 31.5 from 43.2. The service PMI fell to 15.9 in German (from 31.7) and to 10.4 in France (from 27.4).
The composite reading was halved in Germany to 17.1 (from 35.0) and even more in France (11.2 from 28.9). The composite reading for the eurozone as a whole stands at 13.5, down from 29.7. The UK’s reading was similar. The manufacturing PMI is at 32.9 from 47.8. The service PMI fell to 12.3 from 34.5, while the composite stands at 12.9 (down from 36.0).
Ahead of next week’s meeting, the ECB announced yesterday that it would accept as collateral bonds that had been rated investment grade before April 7. The concern is that in the period ahead, some companies, and perhaps some sovereigns, may lose their investment-grade status, which would further disrupt the ECB’s transmission mechanism by adversely impacting the ability of banks to borrow from the ECB.
The Federal Reserve indicated that it would buy some bonds that recently lost their investment-grade ratings. The ECB has not indicated it would purchase such instruments, but it did leave the door open for a future move. S&P announces the results of its review of Italian debt tomorrow. It is expected to cut it by one notch, which would leave it at its lowest investment grade reading. Recall, the ECB takes the highest rating of the top four agencies (including DBRS).
The EU leaders meet today to find an agreement on a larger assistance package. The size and modalities are not clear. Two things seem likely. First,  a compromise will be on the EU level, not the eurozone. Second, a substantially larger budget and an EU debt instrument look likely. The European project, as it were, is shaped by its responses to crises, and although many argued that it was mutualization of debt or bust, a compromise that falls shy of it,  is likely.
 
The euro has been sold below $1.08 for the first time in a couple of weeks today. It has tested the month’s low near $1.0770. Last month’s low was near $1.0635. There are large options that expire today that may influence the price action. There are 3.2 bln euro in options between $1.0800 and $1.0810 and an option for 525 mln euros at $1.0790.
There is a billion-euro option at $1.0750. On the upside, there is a two-billion euro in options struck in the $1.0830-$1.0840 area. The intraday technicals are overextended for the euro as the North American session is about to start. Sterling is trading quietly inside yesterday’s range, which was inside Tuesday’s range. It has spent most of the past 24-hours between $1.2300 and $1.2360.  It finished last week near $1.25.

America

The US sees the preliminary April PMI, March new homes sales, and the April Kansas Fed’s manufacturing survey, but it will be the weekly jobless claims that command the most attention.  It is the closest thing to a real-time economic snapshot.  The Good Friday holiday may have dampened the number of people filing for unemployment benefits for the first time. The median forecast in the Bloomberg survey is for a 4.5 mln jump. Ideas that the backlog from some states are being absorbed has fanned talk of another reading above 5 mln. Separately, the House of Representatives is expected to approve the new spending bill (~$485 bln) that replenishes the funds for the Payroll Protection Plan. The bill is expected to pass before midday. Another bill that provides state and local governments money will be on next month’s agenda.
The US dollar gained about 1.45% against the Canadian dollar during the first two sessions this week and pared those gains yesterday and is slightly heavier today as well. Initial support is seen a little above CAD1.4100. Resistance is seen in the CAD1.4235-CAD1.4265 area. Firmer equities and oil favor the Loonie.
The US dollar settled last week a little below MXN23.70 and has risen in the first three sessions this week. The greenback is firm near MXN24.50 after having earlier approached yesterday’s high near MXN24.69.  Mexico reported over 1000 new virus cases yesterday for the first time as the contagion looks to be spreading quickly. The IMF says Mexico has committed among the least resources to combat the economic and financial consequences even though it estimates Mexico’s economy will be among the hardest hit.

 

 

Investors Catch Collective Breath, but Sentiment remains Fragile

In Europe, the Dow Jones Stoxx 600 is recouping about a third of yesterday’s loss. The S&P 500 gapped lower yesterday, and although US shares are firmer, that gap (~2785.5=2820.4) is the key to the near-term outlook, Core yields are a little higher, and the US 10-year is around 58 bp. Italian bonds are little changed, but Spanish and Portuguese yields are more 7-8 bp higher.
The US dollar is lower against the major currencies, with the dollar bloc outperforming and the euro complex is little changed. For the first time in three sessions, JP Morgan’s Emerging Market Currency Index is posting small gains. Gold, which had tested the $1660 area is back knocking on $1700. June WTI was sold when it poked above $14 and is now around $10. June Brent reached $16 a barrel, its lowest since the late 1990s, and is now a little below $19.

Asia Pacific

 
Singapore, which had done well in the early phases of the pandemic, has seen a reversal of fortunes. It now has the most case in Southeast Asia, according to reports. Foreign worker dormitories apparently have been a crucial center of the outbreaks.
Preliminary March retail sales data from Australia saw a surge in hygiene products and dried food as households prepared to be homebound. Sales appeared to peak in mid-March as the lockdown began. The strong rise in sales (estimated at about 8.2% on the month) should be recognized as a one-off event, and consumption will likely be a drag on Q2 GDP.
There are two developments in Hong Kong to note. First, interest rate differential has seen the Hong Kong dollar trade on the top side of the band, and like yesterday, the Hong Kong Monetary Authority intervened and bought around $360 mln US dollar (selling HKD2.79 bln).
It represented a modest increase from Tuesday’s operation. Additional intervention is likely in the near-term. Second, HK’s Chief Executive Lam announced the most prominent cabinet reshuffle to date, involving five senior officials, including the minister that oversees the relationship with Beijing. The arrests of more than a dozen leaders of the recent protest movement over the past weekend will add to the social tensions.
For the third consecutive session, the dollar has held below JPY108.00. Support has been found in the JPY107.30-JPY107.50 area. The intraday technicals suggest the market is more likely to test the upside in North America. There is an option for $1.7 bln at JPY108.25 that should limit any breakout.
The Australian dollar is has recouped yesterday’s roughly 0.9% fall to briefly poke above yesterday’s high just below $0.6350. The intraday technicals suggest the upside may be limited. Support is seen near $0.6300.  The Chinese yuan edged slightly higher today after the dollar approached CNY7.10 yesterday.  

Europe

Italy’s bonds sold off hard yesterday. The 10-year yield jumped nearly 22 bp to 2.15%. The 30-year soared 30 bp to 3.00%. One would have thought that the ECB’s flexible Pandemic Emergency Purchase Program would have been deployed to prevent precisely this. It is not as if there is a buyers’ strike. Consider that for the syndicated five-year bond that was sold yesterday, orders were for 110 bln euros for the 16-bln euro issue. S&P will announce the conclusion of its rating review of Italy at the end of the week. It is rated BBB. Moody’s will review its Baa3 (BBB-) rating next month.

 

Reports suggest the ECB will have a teleconference call today to discuss whether it should further liberalize its collateral rules to allow below investment grade securities. The problem is that it is possible that a sovereign (see Italy above) and some businesses may lose their investment-grade status during the crisis. The ECB has tried to gain some room to maneuver so as not to be beholden to the rating agencies. It tends to rely on the highest of the four major rating agencies, which includes DBRS.
Separately, the EU heads of state hold their teleconference tomorrow. There is a debate now over the form of assistance, grants, or loans. One is reminded of the incredible problems caused by inter-ally debts of World War I, and the innovation for World War II, of the Lend-Lease program, which minimized loans, and arguably helped facilitate a quicker recovery.
The euro has been confined to a little more than a quarter-cent range today, mostly above $1.0850. Large expiring options today and tomorrow may serve to keep it on a $1.08-handle. Today there are options at $1.0825 (1 bln euros) and $1.0900 (1.5 bln euros) that expire. Tomorrow,  there are options at $1.08 (1.6 bln euros) and $1.09 (1.4 bln euros) that expire.
Disinflationary forces in the UK (slower increase in CPI and outright declines in PPI) failed to impact sterling. It is stabilizing after falling 1.2% yesterday, the most in a little more than a month. It pushed above $1.2350 in the European morning after testing the $1.2250 area yesterday. The intraday technicals are stretched ahead of the North American open, and the $1.2380 area may be sufficient to check stronger gains.
Lastly, the central bank of Turkey is widely expected to announce a 50 bp rate cut shortly. However, the risk is of a larger rather than a smaller move. The dollar holding just below the TRY7.0 level ahead of the announcement.

America

The Fed has bought nearly as many assets as it did under QE1 (2009, $300 bln) and QE2 (2010 $600bln) put together. This aggressiveness will weigh on the dollar down the road is increasingly cited as a bear case for the greenback. Yet there two good reasons not to over-emphasize this consideration. First, the relative size of central bank balance sheets was not particularly helpful in understanding or anticipating exchange rate changes in recent years. Second, the Fed’s balance sheet is now about 30% of GDP. The ECB’s are around 40% of its GDP, and the BOJ’s balance sheet is over 100% of Japan’s GDP.
Even a balance sheet focus would not necessarily point to a weaker dollar.  There are other factors. Emerging from the Great Financial Crisis, the dollar rallied on a divergence of policy thrusts and later on the policy mix.  Interest rates were higher, as was the return on capital.
The US Senate approved a roughly $485 bln package that includes about $320 bln for the Payroll Protection Plan that turns loans into grants for small and medium businesses that maintain or rehire employees. There are also funds for coronavirus testing and for hospitals. The House is expected to now vote on the bill tomorrow.  Meanwhile, another aid package that includes assistance for state and local government is in the early stages of negotiations.
There are two other talking points today. The first is the US oil inventory report. Late yesterday, API estimated that US holdings rose by 13.2 mln barrels last week, and combined, the gasoline and distillate stocks from by a11.1 mln barrels. The EIA estimate is regarded as more robust and is expected to show a 14 mln barrel build. Cushing’s holdings will be watched closely as it is approaching capacity. The other talking point is about Missouri’s lawsuit against China over Covid-19. This is more about thunder than rain. US states suing foreign governments is a difficult legal course to tread, and the case will be most like dismissed, not on merit but on procedural grounds.
The Mexican peso was trading near two-week lows when the central bank surprised with a 50 bp rate that brought the target rate to 6.0%. It is the third cut in three months for a total of 125 bp. There is scope for more cuts as inflation was at 3.25% in March and falling. President AMLO is reluctant to deploy its fiscal powers, which so far has been mostly about speeding up payments of existing programs to low-income households and loans to small businesses.
The IMF estimates its fiscal support to be less than 1% of GDP.
Between the domestic economic hit, hard currency inflows from tourism, worker remittances, and oil are drying up. The IMF projects the Mexican economy to contract by 6.6% this year after failing to grow last year. The price of insuring against a sovereign default for five years (CDS) rose to nearly 300 bp yesterday, the highest since the Great Financial Crisis, when it was twice as high.

 

The US dollar reached CAD1.4265 yesterday, its best level since April 2, when it tested CAD1.43. It is on its session lows in late European morning turnover and a little above yesterday’s low near CAD1.4115. Although penetration is possible, a deeper pullback by the US dollar seems unlikely as the intraday technicals are already getting stretched. The Mexican peso is also consolidating yesterday’s loss. Support for the US dollar is seen near MXN24.20, and initial resistance is pegged around MXN24.40.
This article was written by Marc Chandler, MarctoMarket.

Oil Drilled Below Zero, Equity Rally Stalls, Greenback Advances

First, reports suggest that North Korea’s Kim Jong-Un maybe in critical condition after surgery. He apparently was absent from last week’s events celebrating his grandfather.
The concern is about a potential power vacuum and the command and control of North Korea’s weapons. Second, in a tweet late yesterday, US President Trump said he would sign an executive order suspending immigration, ostensibly to fight the virus and protect jobs. No details were provided. Trump has also renewed his threat to stop imports of Saudi and Russian oil.
These disruptions have seen global equities fall. Following yesterday’s 1.8% decline of the S&P 500, most of Asia Pacific’s major bourses (including Japan, Australia, Hong Kong, Taiwan, and India) fell 2% or more. Europe’s Dow Jones Stoxx 600’s three-day advance is ending, and the benchmark is off about 2% in late morning turnover.
US shares are lower, with the S&P off by almost 1.0%. Bond markets are firm, with core yields off 3-4 bp, which puts the US 10-year near 57 bp. Italian bonds are under-performing. The dollar is well bid against nearly all the major and emerging market currencies.
The yen is also benefiting from the risk-off. The dollar-bloc and Norwegian krone are the weakest of the majors, while the Russian rouble, South African rand, and Hungarian forint are leading the EM complex lower. Gold is heavy, near two-week lows (~$1670), and oil remains on the defensive. The May WTI jumped in early Asia above $2 but is back below zero, while the June contract has collapsed to nearly $11 from $20 yesterday and is around $16.50 as this is written.

Asia Pacific

 
Fitch downgraded Hong Kong’s credit to AA- yesterday from AA, noting that it has been hit with two shocks–the demonstrations and now the virus. It warns that growth may contract 5% this year after falling 1.2% last year. Nevertheless, the relatively wide interest rate differential over the US has sent the Hong Kong dollar to the strong part of the band for the first time in nearly four years. The LIBOR spread was its widest in 20 years. The key spot level is HKD7.75. The Hong Kong Monetary Authority intervened, selling HKD for the first time in four years.
South Korea reported exports fell 27% in the first 20-days of April compared with a year ago. Exports to China were off 17%, while shipments to the US fell 18%, and to Japan, down 20%. In terms of products, semiconductor shipments were off 15%, and autos, nearly 30% lower. The data was poor but likely overstated. The period had two fewer working days than a year ago. Adjusted for this, exports were off about 17% on an average daily basis.
The dollar is trading at three-day lows against the Japanese yen near JPY107.25. There are a couple of option expirations today that may slow the dollar’s descent. There is a $730 option at JPY107.05 and another for $645 mln at JPY106.80.  The greenback dipped a little below JPY107 last week but has not been below JPY106.80 since mid-March.
The Australian dollar failed to resurface above $0.6400 yesterday and has been sold below $0.6300 today. Last week’s low was set near $0.6265, and a break signals a test on $0.6200 and possibly $0.6100 in the near-term. The US dollar is trading near two-week highs against the Chinese yuan, near CNY7.09.

Europe

German Chancellor Merkel showed the first sign that the European Council (heads of state) could take new measures on top of the compromise struck by Eurogroup (finance ministers). Without committing, Merkel seemed a bit more sympathetic to increasing the EU budget and a possible EU bond. A joint bond where each member is individually and collectively responsible is difficult to fathom.
Still, a bond where the obligation is limited to a country’s share of the EU budget seems more politically realistic. However, the EU does not have the power to tax, so how it would service the debt would need to be worked out, especially if it is not to count toward the debt of the members. It is also noteworthy that Merkel may be trying to position it as an EU rather than an EMU issue.
Germany’s April ZEW survey appears to have captured the moment. The current assessment is dismal. At -91.5, it is the worst in a decade (from -43.1 in March). However, the expectations component defied expectations. It surged from -49.5 in March to 28.2 in April. This is the strongest reading in five years. Small shops are re-opening in Germany this week, and there is hope that an economic recovery begins in earnest in Q3.
The UK’s employment figures were better than expected. The claimant count in March edged up to 3.5% from a revised 3.4% in February. Jobless claims rose by a mild 12.2k after a 5.9k increase in February. It had originally reported a 17.3k rise in February.
On the other hand, earnings data, which is lagged by another month, disappointed. Average weekly earnings slowed to 2.8% from 3.1% (three-month, year-over-year). The ILO employment rate ticked up to 4.0% from 3.9%. The UK reports March CPI tomorrow. Price pressures are expected to have continued to moderate.
The euro is softer, but it held above last week’s low (~$1.0810) in early European turnover. It seems unlikely to be able to overcome resistance in the $1.0860-$1.0880 area today. A break of $1.08 would spur a test on the $1.0770 area seen earlier this month.  Sterling, on the other hand, has broken down to nearly two-week lows around $1.2350. Yesterday, it had briefly poked above $1.2500. The 20-day moving average is found near $1.2380, and sterling has not closed below it since late March.  Chart support is seen in the $1.2180-$1.2200 area.

America

The collapse of the May WTI contract was epic. Perhaps lost on many, unlikely many financial futures that are cash-settled, the oil futures contract calls for physical settlement. Some participants had waited for the last day of trading to roll their position from May to June. When they went to sell their May contract, no one wanted to take delivery in Cushing, which is running out of unencumbered storage.
The market imploded, and the May contract at one pointed traded lower than minus $40 a barrel. Participants are likely to make one of two mistakes. The first is to exaggerate the negative price of the May contract.  It applies to a small and nearly inconsequential part of the oil market.  It is due to oil specific considerations, and extrapolations to other markets may not be particularly helpful.
The second mistake is not to appreciate the implications.  A significant imbalance of supply and demand will last a while. Looking at the futures strip, light sweet crude is below $35 a barrel through October 2021. The collapse in the June contract warns that despite expectations of sharp drops in output (OPEC+ agreement and market-forced) will not be sufficient to alleviate the storage shortage.

 

It is hard to imagine a repeat of yesterday’s action as the June contract nears expiry, even if a negative price is seen again. Speculators will be more nimble in rolling to the next contract earlier. Others, caught off-guard by the developments, will be better prepared next time to take advantage of low if not negative oil prices.
The pace of accumulation of inventories may slow as US production is pinched. Recall that the OPEC+ output cut agreement does not take effect until May 1. Saudi Arabia had already ramped up production this month and cut prices to Asia next month.
US oil rig count has fallen by more than a third in the past five weeks. Low oil prices dampen headline inflation measures, just as some observers begin fretting about the inflation implications of either the federal government or the Federal Reserve policies  A reduction of US shale output may boost the price of some of the byproducts, like gas.  If oil prices remain low for an extended period, as the futures market implies, it risks weakening the shift to non-carbon fuels and materials.
The US Senate is expected to vote today on another emergency stimulus bill for around $500 bln.  Most of the funds will be earmarked for the Payroll Protection Progam that turns business loans into grants if employment is maintained through September (begs the question of what happens in Q4).  The House Democrats were looking for $100 bln for hospitals, but the compromise seems to be around $75 bln.
They were also looking for aid to the state governments. Still, it appears the White House wants it separately, and instead, a compromise for funds to the Economic Injury Disaster Loan program, which includes grants, has been offered. It might pass the Senate without objection, which would allow the Senators not to return to Washington. The House may vote on the bill Wednesday. It is unlikely to be unanimous, which means the Representative would have to return to vote.
Three creditor groups rejected Argentina’s proposal to delay interest rate payments until 2023 and principal payments until 2026 on about $83 bln of foreign debt, which covers past restructured bonds as well as the more recent issues. Unless a compromise can be found, Argentina is headed for its ninth default. Even before the crisis hit, Argentina’s debt seemed unsustainable. The dollar has risen for 14 consecutive weeks.
Through yesterday, the Argentine peso is off about 9.25% against the dollar year-to-date. In comparison, the Mexican peso is off about 21%, and the Brazilian real has depreciated almost 24%. The costs of insuring (five year CDS) against Mexico and Brazilian sovereign default are trading a little below 300 bp. In early March both were near 100 bp.
The combination of weaker equities and the continued drop in oil prices is weighing on the Canadian dollarThe US dollar is near CAD1.4260, its highest since April 6, and is near the (50%) retracement of the decline since reaching almost CAD1.4670 on March 19. The next target is near CAD1.4360, but the intraday technicals suggest scope for a pullback, and the upper Bollinger Band (two standard deviations above the 20-day moving average) is found near CAD1.4270.
Initial support is seen around CAD1.4200. The greenback is bid against the Mexican peso, but it is below last week’s high (~MXN24.43). A move above the MXN24.50 area risks a return toward the spike high seen to the record set earlier this month near MXN25.78.
This article was written by Marc Chandler, MarctoMarket.