Weaker US data

Japan will shut down its last nuclear power station by the end of the week. The shutdown has resulted in Japan importing vast quantities of LNG, oil and coal. There are expectations that the Japanese will reopen some of their nuclear reactors by late summer, but local authorities remain opposed. The additional demand for energy by Japan is keeping oil prices high;

 

US officials report that the Chinese may be prepared to reduce tariffs and taxes on consumer goods to spur domestic demand. They are also considering increasing the dividend pay out rate of State owned enterprises, with a view to using the funds to provide social security programme. The lack of social services is the main reason that Chinese savings rate remains high, as Chinese need to provide for education, health and pensions, in particular. Chinese authorities are willing to discuss allowing foreign firms to take a larger stake in financial services companies. The issue of opening government contracts to foreign firms was also discussed;

 

Chinese non manufacturing PMI fell to 56.1 in April, as compared with 58 in March. Reports circulate that the regulatory agencies will allow Chinese banks wealth management arms to invest up to 10% in equities;

 

Asian countries agreed to double (to US$240bn) the size of its forex fund to prevent the region from the potential impact of a global shock, without being linked to the IMF. Asian countries have some US$6.5tr in forex reserves, with China at US$3.3tr, and Japan at US$1.2tr, being the largest;

 

Foreign investors were net sellers of Indian stocks in April, the 1st time in 2012. The relatively modest outflow of US$102.6mn, as opposed to the US$8.76bn of inflows in the 1st Q, reflects increasing concerns over proposed tax changes, according to Bloomberg. However, I continue to believe that the budget, trade and current account deficits remain a serious threat to the Indian economy and the Rupee and remain bearish. The Indian markets are impacted by foreign fund flows;

 

With EZ manufacturing PMI of 45.9 in April, from 47.7 in March and forecasts of 46.0, the weakest reading since June 2009, the EZ economy continues to tank. PMI’s in Italy (43.8, from 47.9, a 6 month low), Spain (43.5, from 44.5, a near 3 year low) reveal the extent of the downturn and even Germany was sharply lower at 46.2, from 48.4 in March. Only Ireland and Austria posted an expansion. Unemployment continues to increase as well, to 10.9% in March, from 10.8% in February. EZ March producer prices were +0.5% higher MoM. or +3.3% YoY, slightly lower than the +0.6% and +3.4% expected;
EU finance Ministers failed to reach an agreement on proposed measures to strengthen bank capital. George Osborne, the UK Chancellor, was the main opponent of proposed measure by the EU to dilute rules, saying that the watered down rules were being proposed to help German and French banks. In addition, Mr Osborne stated that his views reflected ECB and the European Banking Authority’s calls for a stricter and more transparent capital standards. The EU wants to standardise capital rules, whilst the UK and Sweden wants their own regulators to impose additional capital requirements if necessary and without EU approval. A further meeting has been called for (on the 15th May), with a view to resolve the impasse;

The most recent polls suggest that Hollande is leading Sarkozy by 8 points. Mr Hollande was deemed the victor of last nights TV debate, mainly as Sarkozy failed to score any effective points against his opponent;

It is clear that international investors are shunning bonds issues of countries such as Spain and Italy, with local banks and their institutions/public buying their own debt. The ultimate conclusion if, as expected, this trend continues is for contagion to be less of an issue, though there remains a long way to go. It is estimated that Spanish and Italian banks have bought E85bn and E77bn of their country’s sovereign debt in the last 4 months, whilst banks outside these countries have reduced their holdings. However, at some stage the LTRO money will be used up, increasing pressure on Spanish and Italian government bond sales;

Whilst M3 is flat to lower in most EZ countries, it continues to rise in Germany, resulting in inflationary prices and, in particular higher home prices (which German policy makers are becoming concerned about), for example. It remains difficult (sorry impossible) for the ECB to set one interest rate across such an economically diverse group of countries, though I continue to believe that one of the key solutions for the EZ is for Germany to have to accept higher inflation (and a lower current account surplus) and that Draghi knows that too. Inflation in the EZ is +2.6%, above the 2.0% threshold and is not expected to decline below 2.0% till 2013;

 

The ECB, as expected, left interest rates on hold at 1.0%.

At the press conference Mr Draghi stated that whilst inflation was above the policy rate, it would decline to the 2.0% or close to it over the policy horizon. In addition, he accepted that downside risks remained, though believed that the EZ economy would pick up in the 2nd half. There were no suggestions that the ECB would cut interest rates, though I remain of the view that the ECB will be forced to cut interest rates within 3/4 months;

UK April Services PMI came in at 53.3, as opposed to 55.3 in March and much worse that the 54.2 forecast. However, more forward looking reports suggest a rise in coming months. The employment component rose to 52.2, from 51.7 and the index of business expectations rose to 72.6, the highest for 2 years. The major negative was prices paid as opposed to prices charged, which suggests that margins will decline;

US jobless claims fell by 27k to 365k, from a revised 392k a week earlier and below the 379k forecast. The less volatile 4 week moving average rose to 383.5k to 382.8 the week earlier;

US productivity declined in the 1st Q by -0.5% (-0.6% expected) at an annual rate, following an increase of +1.2% in the previous Q. Expenses per worker increased by 2.0%, less than estimated. The data suggests that businesses are going to find it more difficult to extract more efficiency out of their workforce;

US non manufacturing ISM came in at 53.5 in April versus 55.5 expected and 56.0 in March. New orders came in at 53.5 as opposed to 58.8 in March. Employment was lower at 54.2 versus 56.7 in March, though prices paid declined significantly to 53.6, as opposed to 63.9 in March. QE3 talk will increase, though I continue to believe that the FED will undertake another round of QE3, tweaked in some way in coming months;

Brazil is likely to amend legislation which, in effect, will allow interest rates to be cut further, by making demand on savings bonds less attractive. Sounds like Brazilian interest rates will be lowered by more than is currently anticipated. The Brazilian Real is trading at a 5 month low against the US$;

Outlook

Asian markets were mixed. The Euro declined in the morning, though rose following the ECB press conference – currently US$131.66.

Spot Brent is trading around US$117 , with gold down about 1.0% at US$1638. Us markets reacted negatively to the weak non manufacturing ISM data.

Non farm payrolls tomorrow, followed by the French and, by the way, Greek (does anyone care) over the weekend.

Still see no reason to buy the market, indeed looking for more shorting opportunities.

 

Best

 

Kiron

 

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