China eases, market uneasy

China’s move overnight to cut the RRR for banks was taken more as a sign of weakness than as a sign of hope that the situation in China will soon be on the mend. After last week’s national holiday, China’s equity markets opened with a gap lower that outpaced the declines in the main DM markets, although if we look over at the USD-denominated MSCI EM index, it is pushing on the lows for the cycle. As well, China’s currency is under renewed pressure, with the USDCNY at the 6.90 level, above which it only achieve one daily close before China stressed again that it wouldn’t pursue devaluation as a policy. Market concerns will pick up if China allows the rate to drift above 7.00 in a regime of broad USD strength to avoid CNY strength against the non-USD basket.

Markets remain uneasy after US bond markets closed on a weak note on Friday, further cementing the recent break higher in yields above key levels for 10- and especially 30-year over the last week. Markets will be left stewing a bit today as it is a US bank holiday in which the bond market won’t trade during market hours while the stock market exchanges will be open.

Italy’s Di Maio has mounted an effort to wrest some of the spotlight from his coalition partner Lega’s Salvini with a number of rhetorical broadsides against the EU’s budget rules. Over the weekend, he declared that the EU would see a popular upswell of resistance against austerity next year that would change attitudes across the bloc after the EU parliamentary elections (late May). Italy’s yields have jumped again this morning and are providing fresh existential stress on the euro. The EU side has remained critical of Italy’s budget plans even after a few positive comments last week, when the Italian side suggested that 2020 and 2021 deficits would be smaller than the one planned for 2019.

An earthquake in Brazilian politics as the right populist handily outperformed pre-election polls and narrowly missed getting an outright majority in the first round, polling at 46%. Brazilian assets and the real are celebrating the prospects of a likely Bolsonaro victory as his platform is seen as far more market friendly. Bolsonaro is a right-populist, law and order candidate appealing to traditional values and strong arm tactics. Very tough work lies ahead for the country in getting its fiscal house in order, especially the thorny issue of an overgenerous pension system. Given the weak EM backdrop, the real rally is impressive, but we wonder how long it can extend from here.

Chart: EURJPY

Widening Italy-core yield spreads driving euro weakness this morning and we continue to watch EURJPY for signs of a breakdown as we trade near the recent lows and the 200-day moving average. A close below 130.00 starts to look like a break down leading to a probe of much lower support.