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Pain Trade Returns: Dollar Spikes, Yields Rise Above 3% As Stocks, Emerging Markets Slide

Courtesy of ZeroHedge. View original post here.

The pain trade has returned with a bang this morning as both 10Y Treasury yields and the dollar are grinding higher, the former back above 3.00%…

… the latter at the highest level since last Wednesday as oil continued to advance and soak up liquidity…

… in the process slamming near record Treasury and USD shorts – hence "pain trade" – while leaving a risk-off flavor to markets on Tuesday, with European stocks struggling for traction following declines across Asia, which saw a disappointing set of data out of China overnight, while US futures were roughly 0.2% lower around 7am ET.

European bourses opened on the backfoot but since then are trading mixed (Eurostoxx 50 flat) with the Italy’s FTSE MIB (+0.3%) outperforming its peers with traders watching out for any potential breakthroughs in forming a government. The Stoxx Europe 600 Index slipped a second day despite the weaker euro, before paring the drop to trade little changed amid mixed national gauges. Bonds across Europe remained under pressure, extending Monday’s decline on the back of hawkish comments from an ECB official.

In the latest economic disappointment out of Europe, Germany reported a sluggish start to the year with Q1 GDP printing at 0.3%, below the 0.4% expected, and down from 0.6% in Q4, with trade losing momentum and domestic demand not strong enough to fill the void. This was the weakest econ performance since Q3 2016.

Earlier equity benchmarks fell in South Korea and Australia, and were flat in Japan. Stocks rose in Shanghai and dropped in Hong Kong after data showed China’s industrial production momentum holding up but investment and spending slowing.

For those who missed it, here is the key China April data again:

  • Chinese Industrial Production Y/Y 7.0% vs. Exp. 6.4% (Prev. 6.0%); YTD (Apr) 6.9% vs. Exp. 6.7% (Prev. 6.8%). (Newswires)
  • Chinese Retail Sales Y/Y 9.4% vs. Exp. 10.0% (Prev. 10.1%); YTD (Apr) 9.7% vs. Exp. 9.8% (Prev. 9.8%)
  • Chinese Fixed Assets Ex-Rural YTD 7.0% vs. Exp. 7.4% (Prev. 7.5%)

In FX trading, the dollar resumed its sharp ascent as 10-year Treasury yield rose above 3% before the release of U.S. retail-sales data; the greenback advanced against more than half of its Group-of-10 peers, while the euro stayed weak after disappointing German growth data. Of note, an index of emerging-market currencies declined the most in two weeks, led by a retreat in the rand, lira and forint. More concerning is that not one of 24 EM currencies tracked by Bloomberg advanced, as a result, the MSCI index of EM FX fell 0.5%.

"A strong U.S. dollar supported by high U.S. Treasury yields with the 10-year once again rising above the psychological level of 3% should curb capital inflows to risky assets,” Rabobank strategists warned, echoing what we said yesterday.

Looking at US TSYs and the yield curve, Fed officials have got the flattening yield curve on their radar screen, but policy makers have different ways of looking at the situation with some worrying about further rate hikes causing it to invert, while others view it as a normal part of monetary policy normalization. "Yield curve flattening in the U.S. tells you that investors are not convinced of the sustainability of this economic upturn – any sign of a less than impressive recovery in consumer spending in 2Q would undoubtedly reinforce those doubts and hurt the U.S. dollar," according to Derek Halpenny, European head of global markets research at MUFG.

In the latest geopolitical developments, President Trump and Canadian PM Trudeau discussed via phone call the possibility of a quick NAFTA agreement, in which US President Trump urged for a prompt NAFTA agreement.

Looking at Brexit, UK PM May admitted that the current options regarding UK customs plan are unworkable. This has subsequently increased fears among Eurosceptics that further delays will mean an extension of the 21-month transition period with a Conservative meeting yesterday leading to a clash between PM May and backbencher Rees-Mogg. Further reports suggested that extending the transition arrangement with the EU could be the only way to find a solution to the Irish border issue.

In overnight central bank news, Fed nominee Clarida said he fully supports Fed dual mandate and will seek to maintain financial resilience, while he added he will take a balanced approach on reaching Fed targets. Elsewhere, Riksbank's Jochnik said that with inflation stable around 2% it is important to begin lifting rates. Underlying inflation remains weak. He added there is no goal for the SEK, but the recent strengthening has been good. Meanwhie, BoJ Governor Kuroda says there are no plans to move the 10yr yield target for the time being as inflation is still at a distance from 2% target, discussions are being had at board level on side-effects of easy policy, but the removal of the time-frame isn't linked to the debate on impact of easy policy on bank profits.

Economic data on Tuesday include retail sales and NAHB Housing Market index. Home Depot and Hydro One are among companies due to release results.

Bulletin Headline Summary From RanSquawk

  • US Treasury 10-year yield above 3%, dollar stands firmer against its peers
  • Sterling off lows as UK real earnings move back into positive territory
  • Looking ahead, highlights include US retail sales, Fed’s Williams and Kaplan

Market Snapshot

  • S&P 500 futures down 0.2% to 2,726.00
  • STOXX Europe 600 down 0.03% to 392.06
  • MXAP down 0.8% to 175.23
  • MXAPJ down 1% to 570.96
  • Nikkei down 0.2% to 22,818.02
  • Topix down 0.04% to 1,805.15
  • Hang Seng Index down 1.2% to 31,152.03
  • Shanghai Composite up 0.6% to 3,192.12
  • Sensex up 0.2% to 35,641.55
  • Australia S&P/ASX 200 down 0.6% to 6,097.82
  • Kospi down 0.7% to 2,458.54
  • German 10Y yield rose 1.0 bps to 0.621%
  • Euro down 0.04% to $1.1922
  • Brent Futures up 0.5% to $78.61/bbl
  • Italian 10Y yield rose 5.6 bps to 1.672%
  • Spanish 10Y yield fell 2.5 bps to 1.307%
  • Brent Futures up 0.6% to $78.66/bbl
  • Gold spot down 0.2% to $1,310.45
  • U.S. Dollar Index up 0.2% to 92.75

Top Overnight News from Bloomberg

  • Italy’s populists are struggling to nail down the final details of their plans to form the next government and tensions are beginning to mount. “Either we get started or we say goodbye to each other,” League leader Matteo Salvini said after talks with President Sergio Mattarella on Monday
  • China’s economic momentum broadly held up in April with industrial production exceeding forecasts, though slowing investment signaled a moderation in the coming months. China says trade dispute impacts haven’t yet shown up in economy
  • Growth slowed across the euro-area economy at the start of the year, with Germany seeing its pace of expansion cut in half amid weaker trade. The 0.3% rise in output in Europe’s largest economy was softer than forecast, and the Dutch and Portuguese economies also cooled more than expected
  • Britons got their first real-pay increase in more than a year in the first quarter as wage growth overtook the rate of inflation. Average weekly earnings excluding bonuses rose 2.9% from a year earlier, the fastest pace since August 2015, while inflation averaged 2.7% in the same period
  • The Turkish lira and bonds declined to new record lows after President Recep Tayyip Erdogan said he plans to take more responsibility for monetary policy if he wins an election next month, spooking investors who worry about his distaste of high interest rates
  • Following President Donald Trump’s inauguration of the U.S. embassy in Jerusalem, Hamas vowed to keep protesters storming the Gaza border on Tuesday, a day after 59 Palestinians were killed in confrontations with Israeli troops, the bloodiest toll in the territory since a 2014 war
  • U.S. regulators planning to drop Volcker Rule assumption that positions held by banks for less than 60 days are speculative and therefore banned, according to people familiar
  • Fed vice chair nominee Clarida favors ’balanced approach’ to policy
  • U.K Mar. Avg. Weekly Earnings 2.6% vs 2.6% est; Earnings ex-bonus 2.9% vs 2.9% est.
  • BOJ’s Kuroda: will not change 10y target under YCC for the time being due to weak inflation
  • German GDP 1Q P GDP q/q 0.3% vs 0.4% est; Destatis note government final consumption expenditure decreased for the first time in just under five years
  • China Apr. Retail Sales 9.4% vs 10.0% est; Industrial Output 7.0% vs 6.4% est; Fixed-asset Investment 7.0% vs 7.4% est

Asian equity markets were subdued with price relatively range-bound following the modest performance in US, where the major indices finished in the green but well off best levels and the DJIA met resistance just shy of the 25k level but still edged its longest run of gains since September. ASX 200 (-0.6%) was lacklustre with the telecoms sector dragged by weakness in Telstra shares while tech outperforms as Link Administration shares rally on reports the Co. is exploring options with Pexa in which it is the 2nd largest shareholder of. Nikkei 225 (-0.2%) traded lacklustre with focus for individual stocks on corporate earnings, while Shanghai Comp. (+0.6%) and Hang Seng (-1.2%) also lacked impetus despite a firm liquidity operation by the PBoC, with profit taking observed in Hong Kong following the recent streak and as varied tier-1 data from China added to the cautious tone after Industrial Production topped estimates but Retail Sales disappointed. Finally, 10yr JGBs were subdued following similar trade in T-notes which extended on the prior day’s losses as the US 10yr treasury yield rose back above 3.000%, while a mixed 30-yr JGB auction added to the subdued tone as it showed a decline in accepted prices. US & China are reportedly closing in on a deal which would give ZTE a reprieve from US sanctions, in exchange for Beijing removing tariffs on billions of US agricultural products, according to people familiar with the matter. In related news, there were also comments from US Ambassador to China Branstad that China and US remain at a far distance on trade and that President Trump wants a dramatic rise in farm exports to China.

Top Asian News

  • China Data Shows a Hint of Slowdown While Factories Still Hum
  • Cliffhanger in Bitter Contest for India’s Swing State Vote
  • Tencent Shares Suddenly Lose $17 Billion One Day Before Earnings
  • Tata Steel Gets Tribunal Nod for Biggest Acquisition Since Corus
  • MUFG Sees Profit Falling More Than Analysts Estimate This Year

European bourses opened on the backfoot but since then are trading mixed (Eurostoxx 50 flat) with the Italy’s FTSE MIB (+0.3%) outperforming its peers with traders watching out for any potential breakthroughs in forming a government. Sectors are also mixed with financials leading the gains while telecom names lag amid downbeat earnings from Vodafone (-3.1%) and Eutelsat (-11.3%). Other individual movers in the wake of earnings include Thyssenkrupp (-4.3%), Iliad (-17.7%), Pandora (-11.7%), easyJet (+2.3%) and Commerzbank (+2.3%).

Top European News

  • Italian Populists Head to Overtime Divided on Coalition Plan
  • German Economy Expands 0.3% Q/Q in 1Q; Est. Expands 0.4% Q/Q
  • Germany Blames Trade for Weakness Aggravating Euro-Area Slowdown
  • Credit Agricole Caught in Fixed-Income Slump Like Rivals
  • Eutelsat Plummets Most in Two Years After ‘Otherworldly’ Results
  • Allianz’s Asset-Management Unit Sees Profit Soar on Inflows

In FX, the Dollar remains on a firmer footing overall after Monday’s late rally that came alongside a rebound in US Treasury yields and has culminated in the 10 year benchmark crossing the 3% threshold again. The index is back above 92.500 within a 92.815-60 range having arrested a relatively pronounced retracement just ahead of 92.200 yesterday. However, retail sales data and more Fed rhetoric could provide further direction and result in another tweak in 2018 rate expectations that have tipped towards 4 hikes for the first time, per CME pricing (and only just at 51%). JPY: Around 0.25% lower vs the Greenback and mildly underperforming other G10 peers, with Usd/Jpy touching 110.00 again following reports of importer demand during Asia-Pacific trade, but the big figure still proving a formidable barrier to overcome, with recent peaks only a fraction above and the 200 DMA not far away if stops are tripped. Marginally less dovish comments from BoJ Governor Kuroda have also helped to cap the pair. AUD: The next biggest loser or victim of the Usd revival among majors as the pair retreats to test 0.7500 where more big option expiry interests lie (some 2.6 bn over today and Wednesday). RBA minutes merely reiterating no reason to raise rates anytime soon given slow wage and inflation developments, while risks associated with Aud strength were also highlighted yet again. GBP: Choppy trade in the run up to UK labour data, with sellers front-running and Cable down to the low 1.3520 area before bouncing towards 1.3550 on an ultimately mixed jobs and earnings report.

In commodities, Brent is currently trading higher, nearing 3 ½ year highs. The widening spread between the two is stated to be due to geopolitical concerns, as well as an anticipated increase in US June shale production (+145k BPD), that is compounded by record crude production. This leaves the US market well-supplied as the world market is squeezed further by OPEC cuts. In the metals sector, gold is currently down for the day (-0.3%) at USD 1310.20. Copper has also fallen slightly on increasing stockpiles of the metal. Dalian Iron ore has hit one-month highs on the back of strong Chinese demand.

Looking at the day ahead, the preliminary Q1 GDP report in Germany is due  (0.4% qoq expected), along with the Q1 GDP report for the Euro area (0.4% qoq; 2.5% yoy expected). In the UK, the March unemployment rate (4.2% expected) and average weekly earnings growth (2.6% expected) along with other employment data are due, while in France the final April CPI revisions are also due. March industrial production data for the Euro area is also due, as well as the May ZEW survey in Germany. In the US the big focus will be on the April retail sales report (0.5% expected for ex-auto), while May empire manufacturing, March business inventories and the May NAHB housing market index print are also due. Fed nominees Clarida and Bowman are due to appear for confirmation hearings while the Fed's Kaplan and Williams are both scheduled to speak. UK PM Theresa May is also  due to meet with her Brexit Cabinet while China Vice Premier Liu He is due to visit Washington and continue trade talks.

US Event Calendar

  • 8:00am: Fed’s Kaplan discusses outlook for energy market, economy
  • 8:30am: Empire Manufacturing, est. 15, prior 15.8
  • 8:30am: Retail Sales Advance MoM, est. 0.3%, prior 0.6%; Retail Sales Ex Auto MoM, est. 0.5%, prior 0.2%

    • Retail Sales Ex Auto and Gas, est. 0.4%, prior 0.3%; Retail Sales Control Group, est. 0.4%, prior 0.4%
  • 10am: NAHB Housing Market Index, est. 69, prior 69
  • 10am: Business Inventories, est. 0.1%, prior 0.6%
  • 10am: Fed nominees Clarida and Bowman testify before Senate panel
  • 1pm: Fed’s Williams to speak at Economic Club of Minnesota
  • 4pm: Total Net TIC Flows, prior $44.7b; Net Long-term TIC Flows, prior $49.0b

DB's Jim Reid concludes the overnight wrap

This morning we’ve already seen the latest Chinese data dump which was a bit mixed. The April retail sales (9.4% yoy vs. 10.0% expected) and fixed asset investment (7% yoy vs. 7.4%) were both lower than expectations, but industrial production rose 1ppt mom and was above consensus at 7% yoy (vs. 6.4% expected). Yesterday our Chinese economist wrote the third part of their series explaining why they had turned bullish on growth. See below in our DB  macro updates section for the link.

The big event today is probably US retail sales but we also have second reading of European GDP, UK employment numbers, the latest UK Brexit cabinet meeting, and possible headlines from the Chinese VP travelling to Washington to continue trade talks. These will be previewed fully at the end.

This is definitely the peak data day of the week and bonds go into it having sold off a fair bit over the last 24 hours especially in Europe. Across the region, Bunds (+5.2bp) and Gilts (+2.8bp) both weakened while peripherals slightly underperformed with losses led by Spain (+6bp) and Italian BTPs (+5.7bp). Over in the US, the yield on the UST 2y rose for the 7 consecutive day (+1.2bp) to the highest since August 2008 while the UST 10y closed marginally above 3% again (3.003%). It wasn’t easy to pinpoint the reason for the fixed income weakness but hawkish ECB speak, rising Oil (WTI +0.25% to $71.14/bbl), and the halo impact of Mr Trump’s weekend scaling back on trade sanctions for China’s ZTE were all cited. On the ECB, Villeroy suggested that the ECB’s “well past” guidance on the first rate hike refers to “at least some quarters, but not years” post the end of QE and that “we’ll probably give additional guidance for the end of the year for the timing of the rate hike and the contingencies”. Not particularly new news but it did seem to impact markets.

Conversely, equities were relatively muted with lower trading volume and volatility yesterday. The S&P initially traded 0.5% higher but pared back gains to close marginally up for the fourth straight day (+0.09%). The move was weighed down by the real estate and utilities sectors as well as Xerox (-4%) after the company abandoned its merger with Fujifilm. Elsewhere, the Dow (+0.27%) and Nasdaq (+0.11%) also advanced while the VIX rose for the first time in eight days (+2.2% to 12.93). In Europe, key bourses such as the Stoxx 600 (-0.05%), DAX (-0.18%) and FTSE (-0.18%) retreated modestly, while Italy’s FTSE MIB edged up +0.26%.

Following on with Italian politics where we’re still waiting for more firm conclusions from the coalition talks. Yesterday, the 5SM and League Party told President Mattarella they need a bit more time for negotiations. The 5SM leader Di Maio noted “a few extra days” may be needed and confirmed that both parties agreed not to publicly name the candidates for the Premiership.

This morning in Asia, markets are broadly lower, with the Hang Seng (-0.90%), Kospi (-0.61%), Nikkei (-0.09% and Shanghai Comp. (-0.22%) all down as we type. Now recapping other markets from yesterday. The US dollar index edged up for the first time in four days (+0.05%), while the Euro dipped -0.13% and Sterling rose 0.1%. Elsewhere, the Argentina Peso dropped 7.7% to a fresh record low vs. the USD as Bloomberg cited unnamed sources that noted the Central bank has shifted its strategy in supporting the Peso, to now allowing the currency to fall within a certain limit. Further, an IMF spokesman noted that it will not set Peso targets as a condition for the credit line currently under negotiations with Argentina. Over in commodities, precious metals weakened (Gold -0.44%; Silver -0.86%) while other base metals broadly retreated (Copper -0.62%; Zinc -0.25%; Aluminium +0.44%).

Now turning to some of the trade headlines. Following President Trump’s conciliatory tweet on the Chinese telco. company ZTE on Sunday, the US Commerce Secretary Ross has confirmed that his department is considering whether “…there are alternative remedies….and that’s the area we’ll be exploring very, very promptly”. Elsewhere, the WSJ reported that the US and China may swap an end to sanctions on ZTE in return for the removal of Chinese tariffs on American farm products. Finally, on the overall views on trade between US and China, Mr Ross has warned that “gaps remain wide” with Beijing. So lots bubbling along ahead of this week’s trade talks.

Moving onto the two Fed speakers on rates and yield curve. The Fed’s Bullard reiterated that “we’re at some risk of an inverted yield curve later this year or early 2019” and that “it’s been the Fed, I think, that has flattened the curve more than worries by investors on the state of the economy”. On rates, he repeated that “….the Fed does not need to be so aggressive that we invert the yield curve”. Conversely, the Fed’s Mester noted the Fed should continue on its current, gradual path of monetary tightening and that the Fed may eventually need to raise rates above its  neutral rate of about 3%. On inflation, she believes it will trend to the 2% target, but doesn’t expect it to rise sharply, in part as some of the pick-up reflects higher commodity prices and some of the recent strength are likely temporary, as low readings from last March drop out of the calculations.

Finally we highlight some of DB’s macroeconomic research from overnight. In the US, our colleagues Quinn Brody and Torsten Slok have published a preview of the mid-term congressional elections, including implications for the economy and markets. They believe that investors should monitor polls and betting odds ahead of the November elections for different market scenarios. Volatility may rise regardless of the outcome, but, based on historical relationships, equities may be more likely to rise if Republicans manage to maintain control of Congress. In China, our team noted that April land sales remained strong, particularly in lower tier cities while property prices continued to rise. Overall, they believe this is positive for growth and investment. Their macro view remains unchanged: growth should sustain at 6.6% in 2018, with risks to the upside. In Europe, Peter Sidorov has reviewed the recent trends in private sector credit in the euro area to reverse engineer the rate of credit growth implied by the GDP forecasts. Their GDP forecast implies credit growth will rise to around 5% yoy by the end of 2019. With the euro area set to move from passive deleveraging to an outright releveraging mode by the end of 2018, his note also thinks about the sustainability of the euro area credit cycle.

There were limited data releases yesterday. In France, the April Bank of France industry sentiment index edged down 1pt mom to 102 (vs. 103 expected).

Looking at the day ahead, the preliminary Q1 GDP report in Germany is due  (0.4% qoq expected), along with the Q1 GDP report for the Euro area (0.4% qoq; 2.5% yoy expected). In the UK, the March unemployment rate (4.2% expected) and average weekly earnings growth (2.6% expected) along with other employment data are due, while in France the final April CPI revisions are also due. March industrial production data for the Euro area is also due, as well as the May ZEW survey in Germany. In the US the big focus will be on the April retail sales report (0.5% expected for ex-auto), while May empire manufacturing, March business inventories and the May NAHB housing market index print are also due. Fed nominees Clarida and Bowman are due to appear for confirmation hearings while the Fed's Kaplan and Williams are both scheduled to speak. UK PM Theresa May is also  due to meet with her Brexit Cabinet while China Vice Premier Liu He is due to visit Washington and continue trade talks.


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