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Emerging Market Update (Positive Risk/Reward)

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What’s in Today’s Report:

  • Emerging Market Update (Finally A Positive Risk/Reward?)
  • A Path to Higher Bond Yields?

Futures are slightly higher as Chinese economic data was mixed but didn’t contain any negative surprises.

Chinese Fixed Asset Investment (5.3% vs. (E) 5.5%) and Industrial Production (6.0% vs. (E) 6.1%) missed estimates while Retail Sales (9.0% vs. (E) 8.8%) beat expectations.  So, while results were mixed, the data wasn’t weak enough to offset the positive EM news yesterday so momentum remains positive.

Today focus will be on economic data, and specifically the Retail Sales report (E: 0.4%), as strong consumer spending remains a critical part of U.S. economic growth.  We also get Industrial Production (E: 0.4%) and Consumer Sentiment (E: 97.0) and there is one Fed speaker, Evans (9:00 a.m. ET).

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ECB Announcement Takeaways, July 21, 2017

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ECB Announcement Takeaways

  • The ECB left key interest rates unchanged.
  • The monthly QE program remains 60B euros
  • Forward guidance was left unchanged from the June statement.

Takeaway

As expected, the ECB left all major policy decisions as they were at the July meeting, including interest rates, QE and a lack of any material new forward guidance. The initial reaction to the statement was dovish, as policymakers appeared to simple “kick the can” toward the September meeting.

But, Draghi’s press conference following the statement offered more mixed signals. First, the ECB President reiterated his upbeat view of the European economy, which is slightly hawkish, but did mention that he and other policymakers remain cautious about the lack of inflation. To that point, Draghi repeated his pledge to increase QE in both size and duration should the economy falter or financial conditions worsen. This was largely expected, but it offered a dovish reminder. At this point in the press conference, the release was still a wash.

The catalyst for the surge in the euro, which gained well over 1% in intraday trade, was actually due to the lack of attention Draghi gave to the recent strength in the currency. He had several opportunities to address the recent gains in the euro, which hit multi-year highs earlier this week.

Yet the failure to do so was enough for currency traders to chase the shared currency up to new highs.

Bottom line, the ECB effectively “kicked the taper can” to the September meeting, which means unless Draghi verbally suggests otherwise between now and then, any changes will likely be very subtle (i.e. modest taper to QE but extended duration). That was underscored by the fact that the 10-year bund was essentially unchanged yesterday. Looking ahead, the ECB still is a long way off from actually tightening policy (as they are technically still actively easing with their QE program) and as such, the rally in the euro is getting a bit extended. Nonetheless, the trend remains bullish for the euro, and until there is a catalyst such as blunt, less-dovish commentary from Draghi or a spike in EU inflation, then the path of least resistance will remain higher for the euro.

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Weekly Market Cheat Sheet, June 26, 2017

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Last Week in Review:

For a second-straight week, we got underwhelming data and a more-hawkish-than-expected Fed. And for a second-straight week, stocks ignored it. Yet as we keep saying, unless this changes it can only be ignored for so long.

Starting with the former, there was only one material economic report last week, and it came Friday via the June Flash Manufacturing PMIs. Underscoring yet again that the regional surveys (which have been strong in June) apparently have no bearing on the actual national manufacturing PMI, the June composite flash PMI missed estimates at 53.0 vs. (E) 53.6. To boot, both the manufacturing PMI (52.1 vs. (E) 52.7) and the service sector PMI (53.0 vs. (E) 53.7) also missed estimates.

So, at least according to this flash PMI, manufacturing and service sector activity decelerated in June. Now, to be fair, all three numbers (the composite, manufacturing and service PMI) remain in positive territory above 50, so it’s not like activity is outright slowing. However, the level of acceleration continued to decrease in June.

Bigger picture, Friday’s numbers certainly aren’t damning for the economy, but again they are not going in the right direction. And with stocks extended (and a lot of good news priced in), and the Fed apparently more hawkish than we thought, the lack of economic acceleration so far in 2017 is going to become a problem if it doesn’t change.

Speaking of the Fed, last Monday Fed Vice Chair Dudley reiterated that he expected economic growth to continue, and was again dismissive of the disappointing inflation numbers. And, he clearly meant to imply that the Fed remains on course to 1) Begin to reduce the balance sheet in 2017 and 2) Hike rates again.

As with the slightly hawkish Fed meeting of two weeks ago, markets largely ignored the comments. But the bottom line is that the Fed is trying to communicate a more hawkish message to the markets, and the markets aren’t listening, yet. That’s something we’re going to be covering more in depth later this week. The chances of a hawkish “shock” from the Fed are rising (they aren’t high yet, but they are rising).

To end on a positive note, however, housing data bounced back nicely last week. Existing Home Sales and the FHFA Housing Price Index both beat estimates, and countered a very soft New Home Sales report.

Bottom line, over the past two weeks the data has continued to underwhelm while the Fed appears to be more hawkish than most thought. So, one of two things will happen if this continues: 1) Bonds will be right, and the economic data will get worse, which obviously isn’t good for stocks, or 2) Bonds will stop ignoring the Fed’s hawkish message and rates will rise. Either way, it will resolve itself with an uptick in volatility for stocks.

This Week’s Preview:

This week is similar to last week in so much as the important economic data points comes Friday, although on an absolute basis we do get more data this week.

The most important report coming this week is Friday’s Personal Income and Outlays Report, because it contains the PCE Price Index (the Fed’s preferred measure of inflation). If that number is soft, you will likely see the 10- year Treasury yield drop to new 2017 lows (likely below 2.10%, and the bond market’s warning on future economic growth will get louder).

The second most important number this week is the official Chinese June Manufacturing PMI, which comes Thursday night. I covered why China is so important last week in the “Credit Impulse Continued” section of Thursday report, but the bottom line is that if this number drops below 50 (which it shouldn’t, but there’s a chance) people will get nervous again about Chinese growth, and that will become a headwind on markets.

Looking elsewhere, Durable Goods will be reported and it will be yet another opportunity for “hard” economic data to show some acceleration and close the gap between strong “soft” sentiment surveys and hard economic data. Bottom line, next week is truly the key week for economic data, but this week’s inflation numbers (in the US and Europe) and Chinese PMIs will move markets, and give us further color into the state of growth and inflation. If the numbers disappoint, I’d expect lower bond yields… and lower stocks.

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Weekly Market Cheat Sheet, May 29, 2017

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Weekly Market Cheat Sheet May 29

Last Week in Review:

Economic data continued to underwhelm last week, and while for now, the lack of strong data isn’t preventing stocks from making incremental new highs. Beyond the short term, if we are going to see a material move higher from here, economic data needs to get better, period.

The two most important reports last week were the May Flash Manufacturing PMI and the April Durable Goods report, and both underwhelmed. The May flash manufacturing PMI dropped to 52.5, the lowest reading since of 2017, while Durable Goods was, as usual, a bit of a misleading number.

The headline on Durable Goods was better than expected at -0.7% vs. (E) -1.0%. We dismiss the headline because it’s massively influenced by the timing of airplane orders. Instead, we focus on New Orders for Non-Defense Capital Goods, Ex- Aircraft. That is the purest look at business spending and investment in the Durable Goods report, and there the results were a disappointment. NDCGXA was flat vs. (E) 0.2% increase while the March data was revised lower (from 0.2% to 0.0%).

Bigger picture, these soft business spending/investment numbers raise the question as to whether all this policy uncertainty regarding corporate taxes (will rates be cut, and what changes will occur with the deductibility of interest, etc.?) is starting to restrain business investment. To be clear, there’s no data that says it is being restrained, yet. However, it is a legitimate concern the longer we go with no clarity on taxes.

The other notable report from last week was the revision of Q1 GDP, and on the whole it was positive. Headline Q1 GDP was increased to 1.2% from 0.7%, and consumer spending (PCE) rose to 0.6% vs. (E) 0.3%. To be clear, that’s still pretty anemic consumer spending… but at least the numbers got a touch better.

Finally, turning to the Fed, the market traded slightly dovish last week after the release of the May FOMC minutes. In particular, worries about whether we’re losing upward momentum on inflation, combined with similar comments from Philly Fed President Harker a week ago, resulted in a slightly dovish move in currencies and bonds. But to be clear, the expectation for a June hike remains very high, and it’ll likely take a very soft core PCE Price Index (out today), and a bad wage number in Friday’s jobs report to put that June hike in doubt.

This Week’s Preview:

With the amount of economic data coming this week, it would be a busy week even if we had five days to absorb it all. So, it will be an especially busy week given we’ve got just four trading days this week.

First, it’s jobs week, so we get the ADP Jobs Report on Thursday (a day later due to Memorial Day), Jobless Claims on Thursday, and the government jobs report on Friday. We will send our standard “Jobs Report Preview” in Thursday’s report. As has been the case for virtually all of 2017, the wage numbers are almost as important as the actual jobs number itself, as signs of further deterioration could lead to a dovish Fed while a strong number could put upward pressure on the expected number of hikes in 2017 (from three to four).

Right behind the jobs report in importance this week is the May final manufacturing PMI, out Thursday. Obviously, with the disappointing flash PMI, a slightly better number this week will help inject a bit more confidence into the state of economic momentum here in the US.

And while the US number is important, the most important manufacturing PMI this week may be China, which comes tonight. Very quietly, Chinese data has been softening, and if we get a surprisingly bad number that could send a macro shock through markets.

Turning to inflation, our focus there will be a bit more acute this week given the FOMC minutes and Harker’s comments from last week. That means that today’s Core PCE Price Index, which is contained in the Personal Income and Outlays report, will be important. If it shows evidence of moving down further from the Fed’s 2.0% yoy target, that will create a dovish response from markets and sink Treasury yields further (which will be a negative for stocks).

Bottom line, the jury is still very much “out” on the current momentum in the US economy. In an absolute sense, data remains “ok,” but we are not seeing the acceleration everyone thought we would when the reflation trade was roaring back in Dec/Jan. If data continues to underwhelm, it will become a headwind on stocks beyond the short term… and again, that’s a point that is very important not to miss. We need better data to make this rally sustainable above 2400.

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Last Week and This Week in Economics, April 17, 2017

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Week of April 17th and April 10th in Economics

Last Week in Economics – 4.10.17

The two important economic numbers came out Friday when markets were closed, so they didn’t receive much attention, although they should have. Both numbers (CPI and Retail Sales) further eroded the reflation trade thesis and will increase worries the economy is losing momentum.

Starting with retail sales, the headline on this number was plain ugly. March retail sales declined 0.2% vs. (E) 0.0%. Almost as importantly, February retail sales were revised down to -0.3% from the previous 0.1%. As longer-term readers know, we generally disregard the headline and instead look at the “control” group retail sales, which is retail sales ex autos, gasoline and building materials. That control group gives us a better read on truly discretionary spending.

Here the numbers are a bit better. Control retail sales rose 0.5% in March vs. (E) 0.3%, but February was revised lower from 0.1% to -0.2%. So, considering revisions, the March number wasn’t a beat.

Bottom line, this number is not good for stocks. Consumer spending was the engine powering the Q3/Q4 2016 economic acceleration, and the sluggishness in consumer spending now is extending beyond what we would consider normal slack following a big acceleration. These are not the kind of numbers we would see if a bigger economic acceleration is looming.

Turning to CPI, it also undermined the “reflation” trade in the near term. Headline CPI dropped -0.3% vs. (E) 0.0% while core CPI declined -0.1% vs. (E) 0.2%. Additionally, the year-over-year core CPI reading dipped from 2.3% in Feb. to 2.0% in March. This soft CPI reading isn’t a damning number, and clearly the trend of inflation is higher. Yet markets need modestly higher inflation and better growth to power stocks higher, and last week’s numbers did not suggest that’s happening.

Bottom line, this week now is very important, as it will go a long way to resolving the now-glaring discrepancy between still sluggish “hard” economic data and surging “soft” economic sentiment surveys.

Finally, to make this a bit more real, Friday’s numbers resulted in the GDP Now for Q1 dropping to just 0.5%. That type of economic growth simply cannot support stocks at these levels, and as such we should expect Friday’s data to further pressure bond yields and the dollar, which will increase stock headwinds.

This Week in Economics – 4.17.17

This week is important for markets because we will get a much more definitive answer to the question of whether the pace of economic growth is losing momentum. How that question is answered will go a long way to determining whether the S&P 500 takes out the March low of 2322, or if stocks can bounce.

To that point, the most important economic releases this week all contain March data, and the most important report will be the flash manufacturing PMIs out Friday, followed (in importance) by Empire Manufacturing (today) and Philly Fed (Thursday). The reason those numbers are so important is because it’s April data, so they will give us the most current view of the pace of economic activity in the US. If they further imply there is a loss of momentum, that will further undermine the reflation trade and hit stocks. Conversely, markets need strong data this week to help reinvigorate the reflation trade thesis.

Looking beyond those March data points, the next most important report this week is March Industrial Production. This number is important because a wide gulf still exists between “soft” sentiment -based data, and “hard” economic numbers. Industrial production is the next opportunity for some of that “hard” economic data to move higher and begin to close that gap.

Bottom line, we’re coming to a head on the debate over soft vs. hard economic data, and whether the recent economic acceleration can last. While there aren’t a lot of numbers this week, what data we do get is important to resolving that debate… and that will move markets.

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