Asia In Demand

Equity markets managed to shake off Covid concerns at the end of last week despite virus cases in the US reaching a record high and Europe battling a full-blown second wave; S&P 500 and Russell 2000 hit record highs.  Asian equities started the week building on this positive momentum.  Helping markets was the news that advisors to President-elect Joe Biden have said they oppose a nationwide US lockdown despite the sharp rise in virus cases.  This will help allay fears that the US economy will weaken sharply over the next few months amid severe lockdowns and before a vaccine can be distributed.

Vaccine enthusiasm will likely play against Covid escalation in the days and weeks ahead. In the near-term slim chances of a sizeable US fiscal stimulus taken together with a more rapid increase in global Covid infections highlight clear risks to risk assets, and this may be enough to put roadblocks in place at a time when various equity indices are reaching key technical levels.  Conversely, it is too early to write the US dollar off in the short term even if the medium-term trend is likely to be downwards. 

Asia remains favoured within emerging markets, as the virus has come under control across most of the region.  News of the signing of the Regional Comprehensive Economic Partnership (RCEP) trade deal by 15 countries in the region after 8 years of negotiations, but without the US and India, provides another boost to regional economic and market prospects.  The deal is less extensive than the Trans-Pacific Partnership (TPP) as it removes around 90% of tariffs rather than 100% under TPP.  Nonetheless, it is estimated that the deal could boost the global economy by close to $200bn by 2030.  Although the deal still has to be ratified by a number of countries it is a step closer to a unified trade block like the EU.   

Additionally, Chinese data today ought to be supportive for regional assets even amid the threat of further sanctions by President Trump’s administration in the weeks ahead. China’s October activity data including industrial production fixed assets investment, property investment and the jobless rate were on balance positive, showing that China’s economic recovery is gathering steam.  The data will likely provide further support to China’s markets including China’s currency, though it effectively seals the case for no further easing by China’s central bank, PBoC, while giving the rest of Asia more fuel to rally. 

Over the rest of the week emerging markets central banks will garner most attention, with a plethora of policy rate decisions on tap.  Hungary (Tue), Thailand (Wed), Philippines (Thu), South Africa (Thu), and China (Fri) are set to keep policy rates on hold while Indonesia (Thu) is likely to cut by 25bps and Turkey is expected to hike its policy rate by 475bp hike (Thu).   Turkey in particular will be a focus in this respect given the replacement of central bank governor and the more than 10% rally in the Turkish lira last week.

Looking At Central Banks For Direction

This week feels as though its one where markets have gone into limbo waiting for developments on the trade war front, and for direction from central bankers.  So far there has been no indication that a date or even location has been set to finalise details of a Phase 1 deal between the US and China.  While officials on both sides suggest that progress is being made, markets are left wondering if a deal will even be signed this side of the new year.  Despite such uncertainty there does not seem to be too much angst in markets yet, and if anything, risk assets including equities look rather resilient.

Central bankers and central bank minutes will garner plenty of attention over coming days.   Overall it looks as though major central banks led by the Fed are moving into a wait and see mode and this means less direction from these central banks to markets over the next few weeks and likely into year end.

Fed FOMC minutes this week will give more information on the Fed’s thinking when it eased policy in October, and markets will be looking for clues as to what will make them ease again.  In his recent Congressional testimony Fed Chair Powell highlighted that he sees little need to ease policy at the December meeting, strongly suggesting no more easing from the Fed this year.

Reserve Bank of Australia minutes overnight highlighted that the Bank will also now wait to assess past monetary easing measures before cutting rates again while still holding the door open to further cuts if necessary.  While the RBA noted that a case could have been made for easing this month, it doesn’t appear that they are in a rush to move again, with easing now becoming more likely next year than in December.

Another central bank in focus is the ECB, with ECB President Lagarde delivering the keynote address at the European Banking Congress in Frankfurt.  This will be an opportunity for markets to see whether her views are in line with previous ECB President Draghi and also to see how she reacts to criticism of the ECB’s decision from outside and within the governing council, to ease policy further at the September meeting, when it cut the deposit rate to -0.5% and restarted asset purchases.

Another central bank in focus over coming days includes the PBoC in China.  The PBoC cuts its 7-day reverse repo rate by 5bps this week, the first decline in this rate since 2015 in an attempt to lower funding cots to banks.  While the move is small the direction of travel is clearly for lower rates and this is likely to be echoed in the release of the new Loan Prime Rate tomorrow, which could also reveal a small 5bps reduction.  China is likely to maintain this path of incremental easing in the weeks ahead.

All Eyes On US/China Trade Talks

A major focus for markets next weeks is the US/China trade talks in Washington.  After the US reportedly turned down an offer of preparatory talks this week talks will begin on Monday, with China’s Vice Commerce Minister, Vice Finance Minister and central bank, PBoC governor.

It is unclear who on the US side they will meet, but the idea is to prepare the ground for the heavy weight talks between US Trade Representative Lighthizer, US Treasury Secretary Mnuchin and China’s top economic official Liu He, from Jan 30 to 31.

Both sides need a win on trade and markets are pinning their hopes on some form of a deal. The reality is that they are still very far apart on a number of issues.  As highlighted by US commerce secretary Ross, a trade deal is “miles and miles” away.

The easier issues on the table are increased purchases of US goods by China, something that China has already said they will do, in order to help reduce the record Chinese trade surplus with the US.  The tougher issues are more structural, including forced technology transfers, state subsidies, discrimination against foreign companies, regulations on intellectual property etc.

Not only is the US determined to gain China’s agreement on the above issues, but is also looking to find ways to ensure compliance monitoring.  However, China does not believe that foreign companies are transferring technology to Chinese companies, while they have already offered measures to increase access to foreign investors.  Overall, this means there is little room for negotiation.

In any case with just over a month left before the March 1 deadline that President Trump has set before he imposes increased tariffs of 25% on around half of Chinese exports to the US, there is little time to thrash out a deal on the key structural issues that would likely satisfy the US administration.

The likelihood is that negotiations will not be completed, especially on structural issues, leaving markets very little to be excited about.  While both sides may leave the talks, claiming a degree of progress, this will not be sufficient to allay concerns.  Risk assets will look vulnerable against this background.

 

Positive Start To The Week

Markets start this week on a positive note in the wake of 1) the strong US December jobs report, which revealed a larger than expected increase in non-farm payrolls of 312k and decent growth in average hourly earnings of 0.4% m/m, 2) positive comments by Fed Chairman Powell on the US economy, while noting that the Fed will be patient if needed and 3) the 1% banks’ reserve requirement (RRR) cut by the PBoC in China.   Powell’s comments will also weigh on the USD this week against the background of long USD positioning, helping EM currencies.  He speaks again on Thursday.

Events this week will be key in determining the tone for markets further out, however.  In the UK parliament returns after its holiday break, with debate on the “meaningful vote” taking place over the week and markets will watch for any sign that May’s proposed deal gains traction.  The FT reports that she is facing a fresh challenge, with senior MPs signing up to block the government from implementing no-deal measures with parliament’s consent. x

China’s RRR cut (announced on Friday) will help to put a floor under risk sentiment.  The total 1% easing will release RMB 800 bn of liquidity, according to the PBoC, ahead of the Chinese New Year. A cut was widely expected in the wake of weak data and strongly hinted at by Premier Li prior to the PBoC announcement. The PBoC already cut the RRRs four times in 2018, and more should be expected to come, including MLF and other targeted easing.

Focus will centre on trade talks between US and Chinese officials beginning today.   Both sides are under pressure to arrive at a deal in the wake of pressure on US asset markets and weakening Chinese growth, but the differences between the two sides remain large. The US delegation will be led by Jeff Gerrish, the deputy trade representative and he is joined by officials from the agriculture, energy and treasury departments, suggesting that talks will centre on more detailed content.

Worsening China Economic News

There was more bad news on the data front from China.  Data released yesterday revealed a further slowing in the manufacturing sector. The Caixin purchasing managers index (PMI) dropped to 50.0 in September, its lowest reading since May 2017. This index which is far more weighted towards smaller companies is more sensitive to export concerns. Further pressure on sentiment is likely over coming months as tariffs bite, with prospects of another $267bn of US tariffs against China still very much alive.

The official China manufacturing PMI fell to 50.8, its lowest since February 2018, from 51.3 in August. Reflecting worsening trade tensions, the new export orders component of the index fell to 48, its fourth consecutive contraction and lowest reading since 2016. In contrast the non-manufacturing PMI strengthened to 54.9 from 51.2 in August reflecting firm service sector conditions. S

Separately China’s central bank, the PBoC stated on Saturday that it will maintain a prudent and neutral monetary policy stance while maintaining ample liquidity. This implies further targeted easing. The data may fuel further pressure for a weaker Chinese currency path in the weeks ahead though it is unlikely that China will revert to the fast pace of CNY depreciation registered over June.

 

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