Trade war dominates as China retaliates

The next week was likely to be rather quiet and then China announced new retaliatory tariffs against the US.

There isn’t too much on the economic calendar, central banks are enjoying the final days of summer and nothing is expected from some of the major political stories that have been circulating over the last few weeks. But then, it never is.

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Politics has a way of surprising us – take Friday as a prime example – and next week may prove to be no different. There’s no schedule for the trade war, Brexit or anything else. As long as Trump is tweeting and the UK is in the EU, surprises will spring up.

Politics is dominating at the moment. Jackson Hole aside, politics has been all anyone is interested in the last few weeks and represents the greatest risk for the economy and justification for recession risks.

Attention may have been on the Fed this week but that’s only because, as ever, central banks are viewed as the last remaining saviors in these uncertain times. Unfortunately, there’s not a huge amount in their artillery so more focus is falling on fiscal stimulus, rather than just monetary stimulus to provide a more sustainable route away from where we’re headed.w

Central Banks this week

  • Monday – No meetings
  • Tuesday – Hungary Central Bank (MNB)
  • Wednesday – No meetings
  • Thursday – No meetings decision
  • Friday – No meetings
  • Central Bank Speakers (at the time of writing)
  • Monday – No speeches
  • Tuesday – Guy Debelle (RBA Deputy Governor)
  • Wednesday – Tom Barkin (Fed, non-voter)
  • Thursday – No speeches
  • Friday – No speeches
  • US open – Jackson Hole, Powell, gold, oil

Markets

We’ll learn a lot more about where the Fed stands on Friday when Jerome Powell speaks at Jackson Hole and USD will be sensitive to what he says. Markets have made up their mind already and expect at least two more cuts this week, split on a third.

If Powell fails to come over to the dovish side, more yield curve and recession talk will likely follow but I don’t expect traders to be too deterred. A September cut is fully priced in.

Bitcoin has fallen out of the headlines again recently following the regulatory scrutiny, post-Libra announcement. The price has stabilized recently and $9,000 is looking increasingly important as support.

Bitcoin can spring back to life at any point. Volatility may have fallen recently by its own standards but multi-percentage daily moves remain a common occurrence.

Oil remains highly sensitive to trade war movements and its impact on the global economic – and demand – outlook. We’ve seen a bit of a bounce this week and then China happened. Oil plunged more than 3% after China announced tariffs on $75 billion of US imports and while it pared some of these, it continues to look vulnerable to further developments.

Gold is hovering around $1,500 ahead of the Jackson Hole symposium, but that will likely change once Jerome Powell has given his views. He and the rest of the Fed have a lot to lose it seems by continuing to fight the market on interest rates but with Trump laying on the abuse, I wouldn’t bet against it.

Traders have been in no mood to back down on interest rates and may be encouraged further by Powell’s refusal to fall in line, if it’s perceived to be increasing recession risks. All assets sensitive to he outcome and gold is no different.

Politics

The G7 is often boring and uneventful. Trump naturally helped to change that, bringing his own version of politics to spice things up.

There will be no joint communique in France so we’ll have to rely on the various interviews with world leaders over the weekend to get an idea of how things have gone.

Nothing has fundamentally changed on Brexit except there’s one less week to negotiate a deal that avoids no deal. Merkel and Macron’s comments have been received positively on an alternative to the backstop but there was no mention of something that is ready to be implemented, so backstop remains the only option for the EU. That may change late in the day but there’s no budging yet.

Sterling remains extremely sensitive to Brexit talk, particularly that which increases the risk of no-deal.

PM Conte’s resignation has left Italy looking for a new government. The President is now meeting with party leaders to see if an election in the Autumn can be avoided. A partnership between the Five Star Movement and Democratic Party, with some independents, looks most likely but it’s far from straightforward.

Sensitivity to the political fallout has remained broadly within Italian assets and even these have rebounded recently as the prospect of a more stable government emerging has been welcomed. We can never bank on that continuing when it comes to Italy.

The trade war continues to represent the greatest risk for markets, putting more emphasis on easing expectations from the Fed. While the Fed may display hesitancy in committing to a full easing cycle, we continue to see the bond markets continue drag down the Treasury curve well beyond the Fed Funds Target Range.

The upcoming week could see incremental updates on trade, with many focusing on an announcement of when the September face-to-face meeting will take place. China’s tariff retaliation may see tensions ramp up while putting any meeting at risk.

We’ve seen volumes slump in Treasuries, running about 50% of averages. If the 10-year breaks below 1.50%, we could see enhanced volatility, which could support strong demand for safe-havens.

With well over 95% of companies reporting quarterly earnings, we will see mostly small cap stocks report. While the companies reporting are from blue chip stocks, they will be the first to react to any major policy shifts or dissenting views from the wrath of Fed speak from Jackson Hole.

Pro-democracy demonstrations are ongoing in Hong Kong, though appear to have reverted back to the more peaceful type following an escalation of violence in previous weeks. Chinese troops are still camped across the border in Shenzhen, though it appears China has been adopting other methods to undermine the protests i.e. using bogus Twitter accounts.

The Hang Seng has rebounded 1.73% this week, but could be susceptible to further downside risks. USD/HKD is testing the upper limit of the trading band on suspected capital outflows. Hong Kong’s richest man Li Ka-Shing bought UK F&B operator Greene King for $3.3b, perhaps as a reason to move wealth out of the territory.

Whilst things seem to have calmed down, there is still a risk of a heavy-handed response from China. Troops moving in from across the “border” would be negative for risk and China/HK shares and see further capital outflows from the region. Asia might be caught up in contagion risk.

The next important date is October 1, China’s National Day, with big processions planned in Beijing with Xi Jinping in attendance. Increasing speculation that the HK “situation” will be “sorted” before then to not detract from the nationalistic headlines.

The USD/CNY daily fix by the PBOC is firmly established above the key 7.0 mark, with currency devaluation rhetoric from the US dying down. On the data front, Saturday August 31 is the release of the PMI data for August. The China manufacturing PMI has been in contraction for the past three months and latest forecasts suggest another month below 50.

Further evidence that the trade war is hurting the Chinese economy. No doubt Trump will jump on weak data with a Tweet, but trade talks, while progressing, do not appear to have any urgency, especially from the Chinese side. That uncertainty seems to be here to stay.

Missile tests appear to have stopped in North Korea this week as the US and South Korea have concluded their joint military exercise this week. It was just sabre rattling and trying to make a statement opposing the exercise. However, North Korea have since said they are willing to continue developing new weapons.

Bilateral relations on the India-Pakistan border at Kashmir are still on “red alert”, with border skirmishes leaving several dead each time they happen. It is still early stages, there is a risk that it could quickly escalate to war stance. The UN Security Council is involved in discussions.

While not a global game-changer, a war between the two neighbors could hit risk appetite in the region and force superpowers from both East and West to be dragged into the skirmish and forced to choose sides. That would be a huge negative for risk appetite.

Argentina’s currency continues to be sensitive to debt default headlines. The President had a huge loss on the primary elections against a populist candidate. Credit downgrades have followed and the IMF will send a team to assess the situation.

With a new Finance chief in place and a truce between candidates as they have seen what their bickering can unleash, the Argentine economy awaits the presidential elections, with the market already pricing in a downgrade.

MXN is particularly exposed to Argentina risk given that the Mexican currency is a proxy for LatAm investments and as investors look to reduce their exposure they will be selling the Mexican peso.

Speculation is growing that South Africa will lose their last investment grade status. Moody’s is expected to move up their review from November as government takes on too much debt from Eskom.

The rand will likely trade on EM flows, which will mirror the overall direction of the dollar. A downgrade to junk however should see a major selloff with the rand.

This Week

Sunday, August 25th

  • 6:45pm ET ​NZD Trade Balance

Monday, August 26th

  • 4:00am ET ​EUR Germany IFO Business Climate
  • 8:30am ET ​USD Preliminary Durable Goods Orders
  • 8:30am ET ​USD Chicago Fed National Activity Index
  • 10:30am ET ​USD Dallas Fed Manufacturing Activity

Tuesday, August 27th

  • 2:00am ET ​EUR Germany Q2 Final GDP q/q
  • 2:45am ET ​EUR France Confidence Data
  • 9:00am ET ​USD FHFA House Price Index m/m
  • 10:00am ET ​USD Richmond Fed Manufacturing Index
  • 10:00am ET ​USD CB Consumer Confidence

Wednesday, August 28th

  • 2:00am ET ​EUR Germany GFK Consumer Confidence
  • 4:00am ET ​EUR Eurozone M3 Money Supply y/y
  • 4:00am ET ​EUR Italy Consumer and Manufacturing Confidence data
  • 10:30am ET ​DOE US Crude Oil Inventories
  • 9:00pm ET ​NZD ANZ Business Confidence

Thursday, August 29th

  • 2:45am ET ​EUR France Q1 GDP q/q
  • 3:00am ET​EUR Spain CPI y/y
  • 3:55am ET ​EUR Germany Unemployment Change
  • 5:00am ET ​EUR Eurozone Confidence data
  • 8:00am ET ​EUR Germany CPI m/m
  • 8:00am ET ​BRL Brazil GDP q/q
  • 8:30am ET ​USD Q2 Preliminary GDP Annualized q/q (2nd reading)
  • 8:30am ET ​USD Initial Jobless Claims
  • 10:00am ET ​USD Pending Home Sales m/m
  • 7:30pm ET ​JPY Jobless Rate
  • 7:50pm ET ​JPY Preliminary Industrial Production m/m
  • 7:50pm ET ​JPY Retail sales m/m
  • 9:30pm ET ​AUD Private Sector Credit m/m

Friday, August 30th

  • 1:00am ET ​JPY Housing Starts y/y
  • 2:45am ET ​EUR France CPI and PPI data
  • 3:00am ET ​CZK Preliminary Q2 GDP q/q
  • 4:30am ET ​GBP Mortgage Approvals
  • 5:00am ET ​EUR Eurozone CPI Flash Estimate y/y
  • 5:00am ET ​EUR Eurozone Unemployment Rate
  • 6:00am ET ​EUR Italy Q2 Final GDP q/q
  • 8:00am ET ​INR India Q2 GDP y/y
  • 8:00am ET ​ZAR South Africa Trade Balance
  • 8:30am ET ​USD PCE Core and Deflator readings
  • 8:30am ET ​USD Personal Income & Spending
  • 8:30am ET ​CAD GDP m/m
  • 10:00am ET ​USD Michigan Confidence
  • 9:00pm ET ​CNY Manufacturing PMI

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