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The official manufacturing PMI for China climbed +0.5 point higher to 51.7 in November, another month of big increase after October's 0.8-point gain. The non-manufacturing PMI (services and construction activities) soared +0.7 point to 54.7. The services PMI added +1.1 points to 53.7, while the construction PMI slipped -1.4 points to 61.4. The Caixin/Markit version of manufacturing PMI, by contrast, fell to 50.9 in November from a 27-month high of 51.2 a month ago. Despite the fall, Markit noted that it remains the second-highest reading in 2 years and indicates that 'the manufacturing industry continued to pick up steam'. Moreover, although index readings for both output and new orders declined, those 'tracking input and output prices rose at a faster pace to hit their highest levels in 5 years, pointing to further intensification of inflationary pressure'.

The improvement in the manufacturing sector was broadly based, suggested in the official report. Growth was seen new orders, trade, employment and inflation. According to the National Bureau of Statistics, the 'new orders' index rose to 53.2, from 52.8 in October, whilst the 'production' index gained +0.6 points to 53.9. Concerning foreign trades, the 'export orders' index rebounded to 50.3 from 49.2 in October, and the 'import' index rose to 50.6 from 49.9 previously. On the job market, the 'employment' index added +0.4 point to 49.2 in November. Inflation outlook also improved with the 'input prices' index jumping +5.7 points to 68.3, the highest level since early 2011.

In terms of company size, the PMI for large companies jumped to 53.4 from 52.5, that of medium size companies added +0.2 point to 50.1, whilst that for small size companies fell -0.9 point to 47.4. This suggested that the strong headline reading was mainly driven by large size companies. This was compared with the situation in October when small size companies were taking the lead.

The Caixin/Markit manufacturing index, by contrast, fell in November, with growth in both the 'output' and 'new orders' indices decelerated. The agency remained upbeat on CHina's outlook, though, suggesting that 'the Chinese economy continued to improve in November, although it lost some momentum compared to the previous month'. It added that 'inventory and employment data also showed the foundation of growth is not solid yet and investors have to remain vigilant about the risk of a downturn in coming months'.

To the market's surprise, OPEC announced to cut production to 32.5M bpd, the lower end of the target range indicated in the "Algiers Accord" in September. It also represents a -1.2M bpd, or -3.7%, reduction from October levels. Meanwhile, OPEC noted that non-OPEC countries have also agreed to cut output by -0.6M bpd with half of the contribution coming from Russia. Initial market reaction was buoyant with crude oil prices rallying the highest levels in a month. However, performance of commodity currencies under our coverage was not as robust as expected. Indeed, all of aussie, kiwi and loonie ended the day lower after initial rally, mainly due to a stronger US dollar. Higher oil prices as a result of output cut lift inflation expectations, lifting US dollar and Treasury yields.

Details of OPEC Agreement

Agreeing to cut output for the first time in 8 years, OPEC announced it would reduce output by about -1.2M bpd by January, making the aggregate production of the organization to 32.5M bpd, the lower end of the target range suggested in September. Saudi Arabia, the biggest producer in OPEC, would bear the biggest reduction and lower its output by -0.49M bpd to 10.06M bpd. Nigeria, Libya and Indonesia (OPEC membership suspended) are exempted from the plan, while Iran is allowed to produce at a maximum of 3.8M bpd. Iraq, however, is given its first quota since the 1990s and would cut output by -0.21M bpd from October level to 4.35M bpd.

Meanwhile, non-OPEC producers also agreed to lower output by -0.6M bpd with Russia saying it would cut by as much as -0.3M bpd "conditional on its technical abilities". Other non-OPEC countries deemed to participate include Oman, Azerbaijan, and Mexico. A deal would be formalized on December 9.

The plan would take effect on January 1, 2017 and is scheduled to last for 6 months initially. A monitoring committee will be established to monitor the implementation and compliance of the agreement. OPEC and non-OPEC producers would meet on May 25 to discuss whether to extend the plan for 6 more months.

Uncertainty Remains

The market apparently welcomes the deal, exemplified in the rally in oil prices and energy shares. However, uncertainties remain. Indeed, execution of the plan is challenging, given OPEC's notorious track record of exceeding output quotas. The plan is scheduled to last for 6 months with the option to extend for 6 more months. There is the possibility that production can return to October levels or above after the period. All these would increase the difficulty of rebalancing the demand/supply outlook.

Note that the plan only deals with production, not exports. With the plan effective in January 2017, OPEC producers might be tempted to increase production in December. This could raise inventory for future exports. Indeed, Saudi's "compromise" to cut might only be driven by the temporary drop in demand and local refinery maintenance. Yet, exports have stayed at elevated levels. In September, the Kingdom's oil exports rose to 7.81M bpd, the second highest level. It is expected that Saudi's inventory would allow it to maintain exports of over 7.6M bpd in the coming year. In this case, we doubt if oil prices could rise meaningfully due to the so-called output cut deal.

Saudi Arabia's Exports Rose to Second Highest on Record in September

Concerning non-OPEC producers, Russia is expected to reduce output but as much as 0.3M bpd next year. However, given the fact that the country has been producing at record levels over the past several months, a cut would mean a return to the still-elevated levels seen last year. The US has not participated in the deal. It has long been OPEC's concern that US would ramp up production if oil prices return sustainably to US$50/bbl or above. There is a high likelihood of an increase in shale investment, should oil prices rise to US$55-60/bbl.

Following Brexit and Donald Trump's victory in US presidential election, the Italian referendum this coming Sunday is the latest event that could cause huge volatility in the financial markets. Indeed, with the "no" camp leading in opinion polls, Italian shares and bonds have underperformed of late. The banking sector has suffered most with the FTSE Italia Banks Index losing almost -9% in November. Italy's FTSE MIB index has fallen -2.65% this month, compared with a -0.74% drop in the pan-European Stoxx600 index. Meanwhile, the 10-year Italian/German yield spread widened to a 1.5-year high of 1.874% last Thursday. The market's key concern is that a "no" vote leading to resignation of Prime Minister Matteo Renzi would trigger massive selloff in bank shares, forcing the debt-ridden Banca Monte dei Paschi di Siena to suspend plans for a critical 5B euro capital increase and then making other banks, such as UniCredit, to delay similar plains too. Such risks might be contagious, spreading to other peripheral countries and result in another European financial crisis.

Details of the Referendum:

The referendum to be held on December 4 is to decide on a major constitutional reform. Voters would decide on whether they should approve or reject a bill, which was already approved by the parliament, to reduce the number of senators to 100 from the current 315. They would also vote on whether to end the perfect bicameral system of the Italian parliamentary system in which both the Senate and the Lower House have equivalent powers. Under the current system, the Senate can effectively veto the Lower House's rulings and vice versa. If the reform is approved, the Senate would retain some control functions but has no veto power. Meanwhile, the voters would also decide on the containment of the institutions' operating costs, abolition of the CNEL and revision of Article V of Part II of the Constitution

A "No" Vote and Italy's Credit Ratings

While opinion polls might have lost some credibility following the Brexit referendum and the US election, the lead of the "no" camp in the Italian referendum has raised market concerns. Meanwhile, the blackout period from November 19 to December 4 might have made the polling results "dated". Yet, the market has priced in a "no" vote and, more importantly, both polling results and the stance of individual parties (Renzi's party is divided on the reform, while opposition parties are against it) have suggested a higher probability for a "no" outcome. Our base case is a "no" vote, followed by Renzi's resignation. We do not expect an early election.

Downgrades on Italy's credit rating should be expected under such scenarios. Take a look at rating agencies' comments in case of a "no" vote.

• S&P: If the referendum is rejected, we do not believe this would be significant for Italy's creditworthiness, unless it leads to a reversal of structural reforms
• DBRS: If the constitutional referendum fails to be approved... this outcome could lead to a downgrade
• Moody's: Downward pressure would build if there is... a failure to implement planned structural reforms
• Fitch: Political instability disrupting economic and fiscal policies and outturns... could trigger a downgrade

Note that downgrades from S&P and DBRS would be alarming. A S&P downgrade would take Italy into sub-investment territory (BB+), while a DBRS downgrade would bring Italy's rating to the BBB area (DBRS is the only agency that keeps Italy in the A area). The latter means an increase in the haircuts (from 3% to 11.5%) for banks using 7- to 10-year BTPs as collateral for ECB operations. Risks to further deterioration in Italy's banking sector outlook would thus be increased.

ECB Haircut Schedule for Category 1 (Central Bank and Central Government) - Fixed Coupon Assets