Drivers for the Week Ahead

  • China policymakers rolled out more measures to support the economy and equity market
  • Fed releases its Beige Book Wednesday for the upcoming FOMC meeting on November 8
  • The Italian budget drama continues; Italy will be rated by S&P Friday
  • Eurozone flash PMI readings will come out Wednesday; ECB meets Thursday
  • Bank of Canada meets Wednesday and is expected to hike rates 25 bp to 1.75%; Norges Bank and Riksbank are expected to stand pat
  • Central banks of Indonesia, Turkey, Russia, and Colombia also expected to stand pat

The dollar is mostly firmer against the majors as the new week begins.  Loonie and Stockie are outperforming, while yen and sterling are underperforming.  EM currencies are mostly softer.  RUB and ZAR are outperforming, while TRY and THB are underperforming.  MSCI Asia Pacific was up 0.3%, with the Nikkei rising 0.4%.  MSCI EM is up 0.9% so far today, with the Shanghai Composite rising 4.1%.  Euro Stoxx 600 is up 0.2% near midday, while US futures are pointing to a higher open.  The US 10-year yield is flat at 3.19%.  Commodity prices are mostly higher, with Brent oil up 0.2%, copper up 1.3%, and gold down 0.3%.

Markets will be closely watching US yields and global equity markets this week.  S&P 500 staged an early rally Friday but gave up most of its gains as the day progressed.  However, Asian shares rallied today, led by China as policymakers there rolled out more measures to support the economy and equity market.  The Shanghai Composite surged 4.1% and helped drag other regional equity markets higher.

Indeed, none other than President Xi pledged “unwavering” support for private sector firms.  The government also cut personal income taxes over the weekend.  As of January 1, taxpayers will be allowed to claim deductions on mortgage interest and rent, education, and dependent parents.  Earlier this year, China raised the income tax threshold to CNY5000 per month from CNY3500 previously.  China’s stock exchanges also committed to manage share-pledge risks.

Meanwhile, the US 10-year yield is edging higher and topped 3.20% Friday before stalling out.  Italian bonds continue to underperform, though the 10-year spread to Germany remains below last week’s high near 327 bp.

Fed releases its Beige Book Wednesday for the upcoming FOMC meeting on November 8.  While this report is not market-moving, we would expect an upbeat picture of the economy to emerge.  There is a full slate of Fed speakers this week.  Kashkari, Bostic, Kaplan, and George all speak Tuesday, followed by Bostic, Meister, and Brainard Wednesday and Clarida and Mester Thursday.

In terms of major data, the US reports advance September trade data on Thursday and advance Q3 GDP on Friday.  Consensus sees the economy growing at a 3.4% SAAR rate.  Whilst down from the 4.2% pace posted in Q2, the economy is still running quite hot.  For what it’s worth, the Atlanta Fed’s GDPNow sees Q3 growth at 3.9% SAAR, while the NY Fed’s Nowcast model sees 2.1% growth.  We suspect the truth lies somewhere in between.

The Italian budget drama continues.  The EU has given Italy until noon today to explain the budget’s “obvious significant deviation” from the EU rules.  The EU will then discuss the budget proposal Tuesday.  If it offers a “negative opinion”, Italy will have three weeks to submit a revised budget.  This process will be difficult, as reports suggest Di Maio and Salvini do not see eye to eye about the tax amnesty proposal.  Di Maio claimed someone changed the amnesty threshold in the draft budget, so some ill will may be building up.

Italy will be rated by S&P Friday.  Its BBB rating matches up with Fitch, but we believe both are too high and subject to downgrade risk.  In related news, Moody’s cut Italy late Friday to Baa3 with stable outlook.  The move was not that surprising, as Moody’s had Italy on review for possible downgrade.  Indeed, there may have been some relief that it wasn’t cut to sub-investment grade.  The agency cited a “material shift in fiscal strategy, with significantly higher budget deficits planned for the coming three years compared to earlier expectations.”

We are in the process of updating our quarterly DM sovereign ratings model.  After running the updated numbers for Italy, its implied rating dropped two notches to BBB-.  This supports our view that the 2019 budget will lead to downgrades from both S&P and Fitch that will match Moody’s Baa3.

Eurozone flash PMI readings will come out Wednesday.  Consensus sees the aggregate headline manufacturing PMI at 53.0 vs. 53.2 in September, reflecting drops in both France and Germany.  If so, this would be the lowest reading since September 2016.  Services and composite eurozone PMI are also seen falling to 54.5 and 53.9, respectively, and are also multi-year lows

The ECB meets Thursday and is widely expected to keep rates and forward guidance unchanged.  Last week, Mario Draghi spoke on the sidelines of the EU summit in Brussels.  He said that while the eurozone growth outlook is positive, Draghi warned that the horizon has turned a bit darker recently and cited rising trade tensions as a big factor.  We expect a similar cautious tone this week.  Draghi will have to acknowledge signs of softer growth as well as the risks from the Italian budget drama, which could strike the market as being on the dovish side.

Press reports suggest some potential movement on Brexit talks.  UK Brexit Secretary Raab signaled willingness to accept an open-ended Irish backstop.  Previously, May’s government had insisted on a fixed end date.  May faces parliament today to explain her progress, and we expect some angry headlines.  Whatever concessions she makes to the EU will not please her other constituents, which are the members of her own party and cabinet.

Bank of Canada meets Wednesday and is expected to hike rates 25 bp to 1.75%.  Despite softer than expected retail sales and CPI data last Friday, markets still expect a 25 bp hike to 1.75% this week.  While the data shouldn’t impact the near-term BOC outlook, further signs of softening in the economy should push out longer-term tightening expectations.  After this week, market has priced in the next hike in Q1 and then the one after that in Q3.

Riksbank meets Wednesday and is expected to keep rates steady at -0.5%.  The bank has signaled it will start the tightening cycle by year-end, but markets favor the December meeting over this week.

Norges Bank meets Thursday and is expected to keep rates steady at 0.75we%.  The bank just delivered a rate hike last month whilst signaling a very shallow tightening path.   Market sees the next 25 bp hike in Q2 2019 and the one after in Q4 2019.

Despite some risk-off impulses, EM FX ended mixed last week and has proved resilient.  With US rates creeping higher, we think EM will come under further pressure this week.  Further risk-off sentiment seems likely, stemming from intensifying concerns about Italy and Brexit.

Bank Indonesia meets Tuesday and is expected to keep rates steady at 5.75%.  A small handful of analysts look for a 25 bp hike to 6%.  CPI rose 2.9% y/y in September, below the 3.5% target and in the bottom half of the 2.5-4.5% target range.  With the rupiah stabilizing, we think the bank can stand pat this month.

Central Bank of Turkey meets Thursday and is expected to keep rates steady at 24%.  One or two analysts look for further tightening.  CPI rose 24.5% y/y in September, rendering the 3-7% target range irrelevant.  The bank should hike, but the firm lira will allow it to stand pat this month.

Central Bank of Russia meets Friday and is expected to keep rates steady at 7.5%.  A small handful of analysts look for a 25 bp hike to 7.75%.  CPI rose 3.4% y/y in September and is nearing the 4% target.  However, the firm ruble should allow the bank to stay on hold this month.

Colombia central bank meets Friday and is expected to keep rates steady at 4.25%.  One analyst looks for a 25 bp hike to 4.5%.  CPI rose 3.2% y/y in September, above the 3% target but within the 2-4% target range.  We believe the bank will be cautious and wait until Q1 to start hiking.