Stone's Weekly Market Guide - Week of August 5, 2018
Chart of the Week: The Bank of Japan (BoJ) made multiple changes to policy last week. The BoJ began forward guidance by pledging that rates would remain low for an “extended period.” The negative policy rate of -0.1% will apply to fewer reserves in order to help banks. The target yield for 10-year bonds was kept at 0% but the BoJ will allow a range of 0.2 percentage points around the target. This injected more volatility into yields and yields rose to the highest levels since early 2016 (see chart). These tweaks should position the BoJ to retain their aggressive policies as inflation remains stubbornly low. Yield volatility should continue and allow global yields to drift higher.
Markets will be watching for additional trade news. Last Friday, China threatened tariffs of up to 25% on $60 billion of U.S. goods in response to the U.S. threat of a 25% tariff on $200 billion in Chinese goods. The Chinese yuan has weakened for 8 straight weeks and cushions some of the pain from the trade tariffs, but raises the risk of capital flight from China. China reports July FX reserves and trade data this week.
U.S. has July inflation data – both consumer (CPI) and producer (PPI). Both headline and core CPI measures are expected to hold steady at 2.9% and 2.3% year-over-year (Y/Y). So far there haven’t been enough inflation pressures to change the “gradual” pace of hikes from the Fed and markets are already pricing in a 90% chance of a hike in September. 3Q GDP estimates from the Atlanta and NY Fed are 4.37% and 2.58% respectively.
81% of S&P 500 companies have reported 2Q earnings, but 47 S&P 500 companies are scheduled this week. Last week, healthcare and technology boosted the overall earnings growth rate. S&P 500 earnings and sales growth are remain robust at 24% and almost 10% Y/Y. 80% and 74% of companies beat earnings and sales respectively so far in this reporting period.
Europe: Germany reports June industrial production along with trade data. German June factory orders came in below expectations at -0.8% Y/Y. U.K. 2Q GDP should show some acceleration to 1.3% Y/Y. Odds continue to rise that no Brexit deal will be reached, which is reflected in a weaker British currency (GBP) despite the U.K. central bank rate hike last week.
Asia: Japan reports 2Q GDP which should grow around 1.4% annualized after a contraction in 1Q GDP. China inflation data for July expected with both CPI and PPI reported on Wednesday.
The central banks of Romania, Australia, Argentina, Thailand, New Zealand, Philippines, Serbia and Peru meet with the Philippines expected to hike their policy rates. Though consensus expected a hike, the Romanian central bank held their policy rate steady at 2.50%.
The 10-2 yield curve steepened last week to 30 basis points, but our improved measure of 3 month 6 quarters forward – 3 month flattened to 84 basis points. Please see our recent post for more details on the economic and financial market implications.
Bank of Japan met and as widely expected the policy rate was not changed. As rumored for some time, tweaks to policy were announced. Please see our Chart of the Week for the implications.
The Chart of the Week shows the yield on the Japanese 10-year bond (JGB) over the last 10 trading days in order to show the jump once rumors of changes surfaced and the volatility. A look at the longer-term JGB yield chart puts it in context, showing yields at their high since early 2016.
German 10-year yields also rose over the last 10 trading days.
U.S. 10-year yields broke 3.0%, but did not hold the level. The BoJ allowing Japanese 10-year yields to move slightly higher should raise the odds that other high quality bonds like Germany and U.S. can drift higher.
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