October 12, 2018

Daily Observations:

The biggest sell-off in global stocks since February showed signs of easing up on Friday, with some Asian equity markets showing gains and US stock futures climbing. US Treasury yields ticked higher, while the yuan retreated after a weaker-than-forecast daily fixing.

Trump is Fed Up:

President Donald Trump said he won’t fire Federal Reserve Chairman Jerome Powell but blamed an “out of control” US central bank for the worst stock market sell-off since February. Trump also told reporters in the Oval Office Thursday morning that he knows monetary policy better than the Fed’s leaders and continued criticizing them for interest-rate increases. “The Fed is out of control,” Trump said. “I think what they’re doing is wrong.”

Trump’s criticisms mark a stunning departure from the practices of his recent predecessors. Presidents for more than two decades had avoided public comments on the Fed’s interest-rate policies as a way of demonstrating respect for the institution’s independence. Central bankers defended the Fed after Trump criticized it, closing ranks with their colleagues, and Japan’s finance minister said it isn’t that simple.

Survey Shows Yield Curve Forecast to Flatten in 2019:

Strategists at most of the Federal Reserve Bank of New York’s primary dealers expect the spread between 2- and 10-year yields to narrow through the first half of 2019, according to yield forecasts compiled by Bloomberg. From about 30 basis points now, the average prediction is for the gap to shrink to 21 basis points by year-end, and to about 11 basis points by June. Still, it may be a bumpy ride, with forecasts for mid-2019 ranging from a 30 basis point inversion to a positive slope of a half-point.

The key to the majority view is the expectation that the Fed will keep tightening, while subdued growth and contained inflation cap longer-maturity yields. Further flattening could make things uncomfortable for those leaning the other way. It may also be problematic for policy makers because some investors see the march toward inversion as signaling a recession.

The climb in yields gained momentum at the start of this month, pushing the benchmark 10-year rate to the highest since 2011 and sparking the biggest jolt of curve steepening since February. The reversal led some strategists to conclude that flattening had run its course. The curve narrowed in August to levels last seen in 2007, which is also the last time it was inverted.

China Not Manipulating Yuan:

The US Treasury Department’s staff has advised Secretary Steven Mnuchin that China isn’t manipulating the yuan as the Trump administration prepares to issue a closely watched report on foreign currencies, according to 2 people familiar with the matter, Bloomberg news reported.

The conclusion, if accepted by Mnuchin, would avert an escalation of the US-China trade war and remove a source of anxiety for emerging markets. Mnuchin could issue a different finding.

President Donald Trump has publicly and privately pressured Mnuchin to declare China a currency manipulator, but Treasury staff haven’t found grounds to do so, according to the people, who spoke on the condition of anonymity. Formally accusing China of manipulating the renminbi wouldn’t trigger any sanctions or retribution, but the move would heighten tensions between the world’s 2 biggest economies.

The Treasury Department’s congressionally mandated twice-a-year report assessing whether trade partners are manipulating their currencies is on track for release next week, the people said. China will remain on a monitoring list for currency manipulation because of its significant trade surplus with the US, the people said. A draft report ratchets up criticism of Beijing for failing to rectify its trade imbalance, and also singles out several other countries for eroding the US’s competitive edge.

China Export Growth Stabilizes:

Thanks to strong demand at home and abroad even despite worsening relations with the US, China exports rose 6.5% in Jan.-Sept. compared to the same period last year in yuan terms, the customs administration said Friday. Imports climbed 14.1%, leaving a trade surplus of 1.44 trillion yuan.

China’s exports have been growing robustly all year, in the face of rising tariffs and increasing uncertainty over relations with the US. Companies front-loading trade to get ahead of the expected tariff increases might explain part of the growth in the third quarter, but that would likely wane as the relationship between the world’s 2 biggest economies deteriorates.

RBA Warning:

The risks of international shocks hitting Australia’s otherwise resilient financial system are growing, the RBA warned on Friday. The nation’s overall financial strength has improved, with the major banks’ capital positions around 50% higher than a decade earlier and tighter mortgage lending standards reducing risk. Ultimately, the ongoing Royal Commission into banking industry misconduct will “contribute to a more resilient financial system,” it said.

However, the central bank outlined concerns about the potential impact of global shocks on the economy, citing an escalation of the trade war, a slowdown in Chinese growth, contagion from emerging market economies and the escalation of banking and sovereign debt problems in Italy. Downside risks to global growth “have become more prominent”, it added.

Domestically, the central bank lists 3 key vulnerabilities:

1. Australia has among the world’s highest household debt levels, a legacy of years of explosive housing price growth. While the RBA said that this debt appears mainly to be owned by those able to repay it, there is the risk that highly indebted households would cut back consumption if their financial positions became less secure.
2. After a 5-year boom, house prices in Australia have fallen for 12 consecutive months due to stricter lending standards and stretched affordability. The RBA says it believes this slowdown is a “positive development for financial stability,” however risks remain that a sharp slowdown would push borrowers into negative equity.
3. The RBA also highlighted the impact of ongoing inquiries into misconduct in the banking system on the nation’s major lenders. The interim report of the so-called Royal Commission criticized a runaway culture of greed and poor behavior and said the banks had pursued profit at the expense of basic honesty.

Singapore Tightens Monetary Policy:

Singapore’s central bank tightened monetary policy for a second time this year, encouraged by steady economic growth despite worsening US-China trade tensions. The Monetary Authority of Singapore, which uses the exchange rate as its main policy tool, raised the slope of its currency band slightly, according to a statement on its website Friday. That implies it will seek an appreciation in the currency. Just over half of the 21 economists surveyed by Bloomberg predicted the move, with the rest expecting no change.

The central bank sees GDP growth in the upper half of a 2.5-3.5% range in 2018, and indicated it will “moderate slightly” in 2019. Core inflation is expected in the 1.5-2.0% range for 2018, before averaging to 1.5-2.5% in 2019.

A separate report on Friday showed GDP grew an annualized 4.7% in the third quarter from the previous 3 months, compared with a median estimate of 5% in a Bloomberg survey. The economy expanded at a 2.6% year-on-year rate in the three months through September, beating the median projection for 2.4%.

FX Updates:

USD/SGD:

Spot: 1.3744

USDSGD slipped back below 1.3800 earlier today, amid Singapore dollar strength after the MAS tightened its currency policy for a second time this year and said modest core-inflationary pressures will remain. With the US dollar expected to continue its strengthening path, a revisit of the 1.3800 handle is probably next week. To the downside, 1.3600 represents a key support.

AUD/USD

Spot: 0.7121

AUDUSD remains supported around 0.7100, following an uptick earlier today in China’s copper, iron ore imports and trade surplus. However, the currency pair’s downward trend since the start of the year continues to hold, and looks on track to reach its 9-year low at 0.6828 by year-end.

USD/CAD:

Spot: 1.3033

USDCAD pared previous sessions gains earlier today but continues to hold above its 50-day moving average of 1.3019. The downtrend channel, established since July, continues to hold, although the longer term technical bias points to the upside. The pair broke above its multi-year triangle pattern earlier this June – a breakout above of its current 3-month long downtrend channel would suggest a likely retest of the 1.3382 resistance.

USD/CNH:

Spot: 6.9016

USDCNH pared overnight declines to gain back above 6.9000 after the PBOC earlier today set it is daily reference rate weaker than expected. Given the continued monetary policy divergence between China and US, the recent RRR cut is likely to maintain pressure on the yuan.

USD/JPY:

Spot: 112.33

USDJPY was relatively unchanged Friday after rebounding off its 50-day moving average 14 111.86 last night. The pair is likely to retest the key resistance at 114.50 over the coming weeks – a break above the 16-month high is likely to lead to a run up to the pair’s next resistance at 118.66.

GBP/USD:

Spot: 1.3235

GBPUSD approached its 3-month high of 1.3298, amid a weaker USD overnight and as optimism cautiously builds up in view of a Brexit deal being reached at the EU summit next week. A strong close this week, could set the FX pair up for a breakout above 1.3300 next week.

Sources: Bloomberg