Markets Steady After Friday Sell-off

  • US rates markets are getting even more pessimistic
  • The Atlanta Fed’s GDPNow model is now tracking 1.2% SAAR for Q2, down from 1.3% previously
  • The trade hits keep coming; US-Mexico tariff talks begin today
  • Final eurozone manufacturing PMIs were reported; UK manufacturing PMI fell below 50
  • Korea reported May exports at -9.4% y/y; Turkey May CPI rose 18.71% y/y; Chile April retail sales are expected to contract -1.0% y/y

The dollar is mostly softer against the majors as the new week begins. The Antipodeans are outperforming, while the yen and euro are underperforming. EM currencies are mostly firmer. KRW and INR are outperforming, while MXN and TRY are underperforming. MSCI Asia Pacific was up 0.2%, with the Nikkei falling 0.9%. MSCI EM is up 0.9% so far today, with the Shanghai Composite falling 0.3%. Euro Stoxx 600 is down 0.1% near midday, while US futures are pointing to a lower open. 10-year UST yields are down 3 bp at 2.16\0%, while the 3-month to 10-year spread has inverted further to stand at -24 bp. Commodity prices are mostly higher, with Brent oil up 0.6%, copper up 0.1%, and gold up 0.9%.

The dollar reversed lower on Friday. DXY has stabilized today and we continue to believe that it’s way too early to call an end to the dollar rally. For now, the Fed will not be pushed into cutting rates prematurely.   Like it or not, the Fed cannot be bullied into shifting monetary policy in response to the possible impact of a new tariff regime. Within this global backdrop, we remain extremely negative on EM.

US rates markets are getting even more pessimistic. The 3-month to 10-year curve continues to invert. At -23 bp, it is the most inverted in this cycle. Elsewhere, the Fed Funds futures strip is leaning even more dovish. The implied yield on the January 2020 contract is 1.78%, which is fully pricing in two cuts this year. Furthermore, the implied yield on the January 2021 contract is 1.46%, which is nearly pricing in two cuts next year. WIRP sees a 18% chance for a cut at the June 19 FOMC meeting, up from around 5% last week.

Ahead of the jobs report Friday, the US will report a slew of data. May ISM manufacturing PMI (53.0 expected), vehicle sales (16.83 mln annualized rate expected), and April construction spending (0.4% m/m expected) will be reported today. Given how pessimistic the markets have gotten, none of these data points will be enough to turn things around. However, a good ISM reading would be a start.

The Atlanta Fed’s GDPNow model is now tracking 1.2% SAAR for Q2, down from 1.3% previously. Elsewhere, the New York Fed’s Nowcast model is tracking 1.5% SAAR for Q2 vs. 1.4% the previous week. Q2 data have been on the soft side, but we note that Q1 also started off on a soft note before rebounding to 3.2% SAAR growth in the advance report. While a slowdown from Q1 was expected, markets will be particularly sensitive for a larger than expected drop-off.

This is the last week of Fed speakers ahead of the media embargo for the June 19 FOMC meeting. Daly spoke earlier today and counseled “patience” given the ongoing uncertainties. She noted that the US economy is still in “a really good place” but added that the impact of the Mexican tariff threat can’t be modeled yet given the lack of details. Barkin and Bullard speak in the US later today. If markets remain in turmoil, Fed messaging this week will take on even greater significance.

And the trade hits keep coming. Press reports that Trump’s top trade advisors have recommended slapping tariffs on Australia over the past year, but that action was avoided (for now) due to objections from Defense and State Department officials. Over the weekend, the US dropped developing nation status for India, which will end favorable tariff status for thousands of its exports to the US.

Mexico has yet to announce any retaliatory measures, as AMLO takes a more conciliatory approach. Economy Minister Marquez will meet with Commerce Secretary Ross today, while Foreign Relations Secretary Ebrard will meet with Secretary of State Pompeo Wednesday. We think it is only a matter of time before domestic pressures force AMLO to retaliate. The peso has stabilized after the initial selloff last week but remains vulnerable to more negative headlines. For USD/MXN, a break of the 19.9280 area is needed to set up a test of the December high near 20.6570.

Final eurozone manufacturing PMIs were reported. The headline was steady from the flash reading of 47.7. Looking at the country breakdown, Both Germany and France were also steady from the flash readings at 44.3 and 50.6, respectively. Spain fell to 50.1 vs. 51.3 expected, while Italy rose to 49.7 vs. 48.5 expected. Final services and composite PMIs will be reported Wednesday.

UK PMI reports for May started coming out. Manufacturing PMI came in at 49.4 vs. 52.2 expected today. This is the first sub-50 reading since July 2016 and warns of further economic weakness ahead. Construction PMI (50.6 expected) will be reported Tuesday and services and composite (50.6 and 51.0 expected, respectively) Wednesday. Bank of England next meets June 20 and it is not doing anything until after Brexit. Implied yields on short sterling contracts show the next hike priced in for mid-2023 and the one after that sometime beyond Q1 2025.

Korea reported May exports at -9.4% y/y. This was worse than expected and the sixth straight month of contraction. Semiconductor exports fell a whopping -30.5% y/y, leading Samsung to convene a weekend meeting to discuss ways of dealing with deteriorating outlook. Korea is just one of many nations to feel the negative spillover from US-China trade tensions.

Turkey May CPI rose 18.71% y/y vs. 19.25% expected and 19.50% in April. It was the fourth straight month of deceleration. While inflation remains well above the 3-7% target range, continued disinflation brings increased risks of premature easing. Next policy meeting is June 12, no change is expected then. We do not think recent lira gains are sustainable in this current environment.

Chile April retail sales are expected to contract -1.0% y/y vs. +0.7% in March. The central bank meets Friday and is expected to keep rates steady at 3.0%. Copper has given up over 75% of this year’s gains, as trade tensions continue to weigh on commodities. CLP is taking it on the chin, with USD/CLP making new highs for this move near 715 Friday. The pair is on its way to testing the January 2016 high near 733.