Macro: Sandcastle economics
Invest wisely in Q3 2024: Discover SaxoStrats' insights on navigating a stable yet fragile global economy.
Summary: A strong surge in the ADP measure of December US private payrolls triggered a surge in the US dollar as the market was forced to market Fed policy expectations higher for longer this year. The jump in yields spooked risk sentiment, sending equities lower and making it likely that the markets will celebrate a weak US jobs report today and sell-off on strong data on the implications for further Fed policy tightening. In China, the yuan outpaced a strong US dollar on further support measures from the government, with hopes for more to come.
Good news is bad news it seems in 2023 as very strong US labour market data the past two days culminating yesterday with very strong initial and continuous claims, and strong ADP figures for December ahead of today’s Nonfarm Payrolls release. S&P 500 futures reacted negatively, declining 1.2% to a close at the 3,829 level at the lower end of the recent trading range. Strong US economic data suggests that the Fed is being confirmed that policy rates must remain higher for longer and the market is not priced for that. These are the early signs of what could be in store for equity investors in the first half of the year.
Hong Kong stocks consolidated in a choppy session. Shares of Chinese developers surged in the morning session, following China’s central bank and bank regulator jointly issued a directive to allow banks in cities with declining home prices to lower mortgage interests below the floor dictated current policies. Stocks however turned to the south after the lunch break. Hang Seng Index was 0.8% lower at the time of writing. Alibaba Health (00241:xhkg), Meituan (03690:xhkg), and Haidilao (06862:xhkg) were among the biggest losers with the Hang Seng Index. EV stocks fell, following the news that Tesla China has cut again the price of its Model 3 and Model Y in China within three months from the prior price cut. China’s CSI300 oscillated between small gains and losses, with tourism, education services, and pharmaceutical names being laggards.
The US dollar jumped higher on the release of the December ADP private payrolls data, a series that had mostly shown a steady decline in payrolls growth since last spring (more below). Yields at the short end of the US yield jumped as the market was forced to consider the risk of the Fed keeping rates higher for longer this year. The more important official data US jobs (and earnings) data for December is up today (see preview below). USDJPY has rallied up to the recent pivot highs near 134.50, EURUSD trades not far from 1.0500, with room to the low 1.0300’s before it tests notable support (the 200-day moving average). Curiously, the Chinese yuan is stronger still, as USDCNH tested below its 200-day moving average overnight, likely on the latest measures supporting the property sector and hopes for more.
Having surged out of the box earlier in the week, gold bulls got an early reminder yesterday that the this is marathon, and not a sprint. The strong ADP employment report hurt risk sentiment across markets with yields and the dollar rising while gold took a dive. The overall bullish sentiment towards gold has not been changed by one report but it highlights the need to be patient while the FED remains in hiking mode and while the level of peak Fed rate remains unclear. A stronger than expected job report on Friday, however, may have a limited impact given the market, judging by yesterday’s price action, has already started to price in such an outcome. Gold may drop to 1808, the 21-day moving average, and remain in the uptrend that started back in November, and it will be its ability to hold that support on a strong number which will give us the first sign about the underlying strength in the market from investors potentially looking beyond short-term developments.
Copper together with gold trades up on the week with HG copper surviving a mid-week selling attempt after top consumer China announced further steps to support its beleaguered property sector. China-centric commodities as well as the renminbi popped higher after China’s central bank and bank regulator jointly issued a directive to allow banks in cities with declining home prices to lower mortgage interests below the floor dictated current policies. HG copper remains stuck between two moving averages with resistance at the 200-day at $3.8525 while the 50-day offers support at $3.72.
US Treasury yields jumped at the front end of the curve on the strong December ADP private payrolls data yesterday, with the 2-year treasury benchmark surging some 10 basis points to 4.45%, its highest level in over a month as the market was forced to price Fed policy tightening higher for longer this year. Adding to the fear of more rate hikes to come was the comment from Kansas Fed President George that she has raised her forecast of terminal rate to over 5% and kept it there well into 2024. Atlanta Fed President Bostic said that “there is still much work to do” to bring inflation back down to the Fed’s 2% target. A rise in the 10-year benchmark Treasury yield did not hold up as well, so the 2-10 yield slope inverted sharply to –74 basis points after trading as high as –46 basis points near the end of last year. Treasury markets will eye the quality of today’s US December jobs report and ISM Services survey (preview below).
Global growth and China Covid-19 concerns, a robust US job market pointing to further pain on the rate hike front, and not least mild winter weather across the northern hemisphere have all helped drive the Bloomberg energy index sharply lower during the first week of trading. Led by losses in natural gas prices, with US Henry Hub down 16.5% while in Europe, the Dutch TTF futures has lost 9%. Crude and fuel products have lost around 8% this week on continued concerns over the near-term demand outlook. A focus being supported by Saudi Arabia’s decision to cut its prices for crude to Europe and Asia in February amid tepid demand and competition from cheap Russian oil looking for a home, especially in Asia. A first week that confirms our view about a challenging Q1 before demand eventually recovers as the Covid cloud starts to lift in China.
The ADP employment report came in much stronger than expected with a gain of 235K jobs in the U.S. private sector employment in December versus the consensus estimate of 150K. The job gain in November was also revised up to 182K from the previously reported 127K. Service sector jobs increased by 213K, led by the leisure and hospitality industry with a job gain of 123K. Being consistent with the strength of employment growth in the ADP report, initial jobless claims fell to 204K (below the 225K expected) in the week ended Dec 31, 2022, from 223K (previously reported at 225K) the prior week. Continuous claims also fell to 1694K, below the consensus estimate of 1728K and the prior week’s 1718K (previously reported at 1710K).
Walgreens Boots Alliance (WBA) shares declined 5% yesterday as the drug and pharmacy chain due to rising legal costs despite an otherwise upbeat revenue outlook relative to consensus. WBA guides FY23 EPS of $4.45-4.65 vs est. $4.51 and revenue of $133.5-137.5bn with Summit Health deal. Conagra Brands rose 3% yesterday as the packaged food company delivered Q2 (ending 30 November) revenue of $3.3bn vs. $3.28bn and adj. EPS of $0.81 vs. $0.66 driven by much stronger than expected operating margin of 17% vs. 14.7%.
St. Louis Fed President James Bullard delivered a presentation “The Prospect for Disinflation in 2023” at an event organized by the CFA Society of St. Louis. Bullard’s remarks were less hawkish than his previous comments and those made by Fed presidents George and Bostic earlier on the same day. He said, “while the policy rate is not yet in a zone that may be considered sufficiently restrictive, it is getting closer”. He also added that “the front-loaded Fed policy has helped market-based measures of inflation expectations return to relatively low levels” and “these factors may combine to make 2023 a disinflationary year” as “during 2023, actual inflation will likely follow inflation expectations to a lower level as the real economy normalizes”.
Without much surprise, German export weakness continues. Exports dropped by 0.3 % month-over-month after a decrease of minus 0.6 % in October. Imports are also falling during the same period. On a yearly basis, exports are still up 13 %. But this figure is in nominal terms. Corrected for inflation, the situation is much grimmer. With trade not being any longer a growth driver, this is clear that Germany is heading, like most of the eurozone, towards a recession. In several eurozone countries, expect a mild technical recession (limited macroeconomic impact). But the recession will likely be bigger in Germany, especially due to the strong reliance of the German industry on cheap Russian energy for the past decades.
December inflation has dropped in the largest eurozone countries (Spain, France and Germany). Expect the eurozone CPI to decelerate as well and to drop single digits for the first time in three months. The economist consensus expects CPI to be out at 9.7 % year-over-year against 10.1 % in November. This is partially explained by a drop in energy inflation (base effects, declining oil and gas prices and government measures in several countries to mitigate the energy bill). Based on advanced data points, we could even have a bigger drop of headline inflation than forecasted. However, this will not imply the European Central Bank will adjust its monetary stance in the short term. Inflationary pressures remain prevalent in most countries. There are also real fears that the drop in energy inflation is only temporary.
The House has held a total of eleven elections for the position of Speaker of the House, with Republican Kevin McCarthy still unable to change the minds of the small minority of party members who refuse to vote for him. It’s the first stand-off of its nature in some 100 years. Fresh attempts to elect a speaker will resume today.
Next week the Q4 earnings season kicks off on Friday with banking earnings from Bank of America, JPMorgan Chase, and Citigroup with consensus expecting earnings to continue contracting among US banks before coming back to growth this year.
Next week’s earnings
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