Issue#: 538/2019

Spot values at a glance:







Daily Observations:

Asian stocks traded mixed Wednesday as benchmarks in Japan, Australia and South Korea eked out modest gains, with Hong Kong little changed. China shares edged down. The S&P 500, Dow Jones Industrial Average and Nasdaq Composite all climbed to fresh records Tuesday. President Donald Trump declared that talks with China on the first phase of a trade deal were near completion after negotiators from both sides spoke by phone. The dollar was little changed.


Phase One Deal in “Final Throes”:

US President Donald Trump declared Tuesday that talks with China on the first phase of a trade deal were near completion after negotiators from both sides spoke by phone, signaling progress on an accord in the works for nearly 2 years. “We’re in the final throes of a very important deal,” Trump told reporters at the White House. “It’s going very well.”

The president said later Tuesday in an interview with former Fox News host Bill O’Reilly that he’s holding up the trade deal to ensure better terms for the US. “I’m holding it up because it’s got to be a good deal,” he said in the interview for O’Reilly’s website. “We can’t make a deal that’s like, even. We have to make a deal where we do much better, because we have to catch up.”

Trump announced Oct. 11 that he had reached the outlines of a “substantial” but partial deal that would see China ramp up purchases of US farm goods, make new commitments to protect US intellectual property, refrain from manipulating its currency and further open its financial sector to foreign investors. Since then, the 2 sides have been wrangling over how to put the deal on paper and what tariffs the US will drop in exchange.

Negotiations have been complicated by strong support in the US for pro-democracy demonstrators in Hong Kong and China’s suspicions that the US is feeding unrest in the territory. Trump gave no indication about whether he would sign legislation Congress passed last week backing the protest movement in Hong Kong.


Possible Further China Slowdown:

According to Bloomberg news, economic growth was already the slowest in almost 3 decades in the third quarter, and Bloomberg Economics’ gauge aggregating the earliest data from financial markets and businesses shows that continuing, with a worsening picture for trade, sales manager sentiment, and factory prices.

While tensions with the US have eased since the 2 sides announced talks toward a so-called “phase one” deal last month, a leading indicator for trade flows in Asia, South Korean exports, still contracted almost 10% in the first 20 days of November. That’s an improvement from September’s worst result in a decade, but it indicates that high-technology trade across the region is still struggling as the Christmas shopping season approaches.

Profits at Chinese industrial firms fell the most on record in October, dropping 9.9% from a year ago, data from the National Bureau of Statistics showed earlier today. The decline in prices at the factory gate is one of the factors undercutting those profits and is expected to continue in November, according to a Bloomberg tracker of producer prices.

Sales managers at Chinese companies reported the worst conditions on record, with the headline index and sub-indexes for manufacturing and services all below the 50 level that separates growth from contraction. Business confidence was at a 14-month low, and all the gauges for manufacturing dropped from recent months, suggesting widespread problems, according to World Economics, which compiles the data.


S&P Warns Australia Fiscal Stimulus Puts AAA Rating at Risk:

Australia’s AAA credit rating, one of only 11 in the world, would come under increased “downward pressure” if the government opted to deploy fiscal stimulus that changed the trajectory of the budget, S&P Global Ratings said.

The agency, in a report Wednesday, said the top ranking is reliant on “strong fiscal outcomes,” potentially helping explain the Australian government’s determination to return its books to the black. Its drive to balance the budget comes against the backdrop of a slowing economy and a central bank with little conventional interest-rate ammunition remaining.

Australia is on target to return its budget to surplus after a decade in deficit, one of the reasons “why we revised our outlook on the sovereign’s ‘AAA’ rating to stable from negative” in September 2018, S&P said. Since then, the Reserve Bank has cut interest rates 3 times to a record-low 0.75%, and estimates it has 2 more cuts available before reaching the effective lower bound on policy.

“As the official cash rate in Australia moves toward zero there have been growing calls for the government to increase fiscal stimulus,” S&P credit analyst Anthony Walker said. “If this fiscal stimulus involves substantial spending initiatives and changes the trajectory of the budget, then doing so could increase downward pressure on our rating and outlook for Australia.”

Treasurer Josh Frydenberg has resisted suggestions from RBA Governor Philip Lowe to use low borrowing costs to increase spending on infrastructure and boost growth and hiring in an economy expanding at the slowest pace in a decade. The treasurer is adamant that tax rebates and existing infrastructure programs are sufficient support.


Uphill Task Remains for Boris Johnson:

If Johnson wins a majority in December and parliament passes his withdrawal agreement in January, the clock will start ticking on an 11-month negotiation to determine Britain’s future relationship with its largest trading partner. The prime minister has ruled out extending the talks, so if no accord is reached by the end of 2020, the UK would crash out of the EU without a trade deal in place.

Johnson has made securing an agreement all the more difficult for himself by seeking a harder Brexit than his predecessor, Theresa May. The more he seeks to diverge from EU standards, the greater restrictions the bloc is likely to put on trade with Britain. Faced with another deadline, many expect Johnson will be forced to offer the EU concessions.

Johnson’s first problem is time. It took the EU five years to strike market-opening accords with Japan and Canada and 20 to get a deal with the Mercosur group of Argentina, Brazil, Paraguay and Uruguay. A deal with the UK would involve unpicking some 50 years of trade policy toward its closest neighbor.

The limited time-frame means Johnson is likely to face a situation in late 2020 where, desperate to get a deal done to meet his self-imposed deadline, he will have to concede to an agreement that is tilted in the EU’s favor, Rogers said. Such a bare-bones deal would exclude services, which make up 80% of the UK economy and are its biggest export to the EU.

Another problem for Johnson will be getting European approval. Any deal will have to be ratified unanimously by the bloc’s national parliaments, something that wasn’t the case in the earlier Brexit negotiations. Individual countries will want to defend their own interests: for both Spain and France, continued access to UK fishing waters is likely to be a key demand.

A third issue for Johnson will be regulatory trade-offs. Faced with the risk that Britain tries to turn itself into a lightly-regulated Singapore-on-Thames, the EU will likely limit access to its single market. Britain will then have to decide how far it is prepared to diverge from the EU’s environmental, labor and safety standards.


Yield Curve Expected Steepen in 2020:

According to a Bloomberg news report, nobody is willing to call the all-clear on the global economy yet given a trade deal between the U.S. and China is still to be reached. Even so, the prospect of longer-term yields stretching their premium over shorter maturities is among the top trade ideas for next year on Wall Street, drawing money from the likes of BlackRock Inc., Penn Mutual Asset Management and Aviva Investors.

“The curve, from 2- to 10-years, will probably be modestly steeper in most places,” said Praveen Korapaty, chief global rates strategist at Goldman Sachs Group Inc. “This is largely because some of the tail risks that people were worried about have at least reduced. It will certainly be different from this year, where in most parts of the world there was pretty strong flattening.”

A global bond rally this year drove the yield on 10-year Treasuries below those on 2-year securities in August, for the first time since before the last financial crisis in 2007, and the last 5 such occasions a contraction followed. The inversion and a potential recession became a hot topic in Google searches and around the dinner table, yet the economic contraction hasn’t arrived so far after central banks stepped in with more stimulus.

History also shows that such inversions can flash “false positives” on the indication of a downturn, and for PGIM Fixed Income chief economist Nathan Sheets, that’s the case this time around. While a recession typically emerges about 12 to 18 months after an inversion, Sheets still doesn’t see a downturn in that time frame.

If 2019 was the year the yield curve went mainstream, with an inversion sending a stark recession warning, then 2020 is already shaping up as a welcome return to normality. The Federal Reserve Bank of New York’s recession probability gauge, which uses the three-month to 10-year Treasury curve to predict the chance of a US contraction in the next 12 months, plunged last month. The gap between two- and 10-year Treasuries is now at about 15 basis points, versus minus 7 basis points in August.

Anchoring short-term yields are signals from global policy makers that they are taking a pause after 2019’s monetary easing. Fed Chairman Jerome Powelland his colleagues say policy is in a good place after 0.75 percentage point of interest-rate cuts this year, and have indicated there’s a high inflation bar for any tightening. European Central Bank President Christine Lagarde is likely to pressure governments for fiscal support as she has limited scope to trim rates further.


Closing Gender Gap Could Boost Australian GDP by 8%:

Australia’s economy would be boosted by up to 8% if the employment gap between men and women narrowed further, according to Goldman Sachs Group Inc.

Workplace participation is still skewed toward males, despite progress over the past decade that sees Australia now sit in the top 10 OECD economies for female participation rates, an update of a report the investment bank first produced a decade ago showed.

“While a major lift in Australia’s female participation has been realized, a considerable gender gap persists,” said Andrew Boak, Goldman’s chief economist for Australia. “This gap is evident in the under-representation of women on the boards of listed companies, in management roles, in politics, and in industries with empirically higher rates of labor productivity (including science, technology, engineering and mathematics: STEM).”

If female representation in STEM industries was lifted, the economy could be “supercharged” by a further 10%, Goldman said. On the positive side, Australia’s gender participation gap of 10 percentage points is significantly narrower than the Organization of Economic Cooperation and Development average of 17 percentage points, the bank said. Since 2009, the number of women in the workforce has increased by 3 percentage points to a record 61.25%, boosting gross domestic product by about 2%, the report found.

In a speech Tuesday, central bank No. 2 Guy Debelle noted that Australia’s record labor force participation had been driven by women and older workers. Female employment growth accounted for two-thirds of employment growth over the past year, he said. To improve gender diversity, Goldman recommends better paid parental leave, improving access to affordable childcare, encouraging female entrepreneurship and innovation, and allowing mothers access to superannuation and/or tax credits to smooth consumption.


Fed’s Brainard Sees Solid Economy, Advocates Monetary Policy Change:

Federal Reserve Governor Lael Brainard painted a mostly positive picture of the near-term outlook for the U.S. economy while advocating longer-term changes in the conduct of monetary policy in an era of low interest rates and subdued inflation.

“There are good reasons to expect the economy to grow at a pace modestly above potential over the next year or so, supported by strong consumers and a healthy job market, despite persistent uncertainty about trade conflict and disappointing foreign growth,” Brainard said in a speech Tuesday to the New York Association for Business Economics.

While downside risks remain, Brainard said the Fed has taken “significant action” in response by lowering interest rates 3 times this year, noting that it will take some time for the cuts to take their full effect. “I will be watching the data carefully for signs of a material change to the outlook that could prompt me to reassess the appropriate path of policy,” Brainard said, in a signal that she’s comfortable with leaving policy on hold for the time being.

Brainard spent much of her speech discussing her prescriptions for longer-term concerns confronting the central bank, which are the subject of an ongoing policy-framework review. In its quest to bring inflation back to the Fed’s 2% target, it has missed to the low side for most of the past 7 years, Brainard recommended pursuing a policy she called “flexible inflation averaging.”

“It may be helpful to specify that policy aims to achieve inflation outcomes that average 2% over time or over the cycle,” she said. “Given the persistent shortfall of inflation from its target over recent years, this would imply supporting inflation a bit above 2% for some time to compensate for the period of under-performance.” She differentiated this from more “rigid” forms of so-called inflation make-up strategies that may be difficult for policy makers to communicate to financial markets and the public.

Brainard also offered a separate policy option to help the Fed stimulate the economy if it is again forced to cut overnight rates to zero in a recession. In such a case, the Fed should use asset purchases to cap interest rates on short-to-medium range Treasury securities. She suggested marrying the yield caps with a commitment to delay raising the overnight rate back above zero until full employment and 2% inflation were achieved on a sustained basis, perhaps over a year.

Brainard, echoing the views of other Fed officials, panned the idea of moving to negative interest rates, which are being used by counterparts in Europe and Japan. Minutes of the last Fed meeting showed that all policy makers viewed the option as unattractive, without completely ruling it out.



Sources: Bloomberg


FX Updates:


Spot: 1.3653

USDSGD retreated from a 5-week high earlier today, bouncing off its 200-day moving average (200dma) of 1.3665 to trade lower. The 1.3600 handle has held up pretty well over the past 2 months, and following a decent bounce off it last week. A break above the 200dma could drive the pair back towards the 1.3725 resistance level.



Spot: 0.6789

AUDUSD managed to recover some ground today after falling to a 5-week low yesterday, after RBA Governor Philip Lowe said that QE is not in the central bank’s agenda, adding that the toll could help, but that he doesn’t expect to get there. He also stated that QE would only be considered should the cash rate reach 0.25%. The bounce was supported by softer-than-expected US data, which kept the greenback at check throughout the last trading session of the day. The key support below remains at 0.6670.



Spot: 1.3277

USDCAD continues to remain within its longer term range between 1.3000 and 1.3400, one that the pair has been in since June. According to Citibank, the pair is expected to rise over the next months, with the Bank of Canada given a higher odds of cutting rates as compared to the Fed.



Spot: 7.0222

USDCNH slipped lower towards 7, as the prospect of tariff rollbacks grow should a phase one US-China deal materialise. The path of least resistance is to the downside, a break of 7.000 could result in a sharp drop back to the 6.8260 support level.



Spot: 109.02

USDJPY looks poised to break out of the 109 handle, as trade talks between the US and China inch toward a phase-one deal and as volatility declines before Thanksgiving. A break above 109, which happens to be the pair’s 200-day moving average as well, is likely to lead to a run up back to the next resistance level at 110.63.



Spot: 1.2856

GBPUSD was unable to hold onto gains from earlier in the week, as the pound weakened on the back of UK election polls which showed Conservatives’ lead was shrinking. Analysts have postulated that if PM Johnson’s Conservatives win majority on Dec 12, GBPUSD could potential head towards 1.32 on the expectation that political uncertainty will be reduced. Over the longer term though, trade talks with the EU will be difficult and there will be plenty of downside risk for the pair in 2020.


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UEN: 201419754M

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