Morning comment: US-China trade deal and US labour market

Mantas Vanagas
Emily Nicol

Overview:
While Thursday’s manufacturing ISM was somewhat disappointing – especially the decline in the exports orders index to a 23-month low – Wall Street retained a positive tone on Thursday. Investors reacted positively after President Trump tweeted (perhaps conveniently just days ahead of the US mid-term elections) that he had just had a “long and very good” conversation with President Xi, who he is scheduled to meet at this month’s G20 Summit in Argentina. Newswires reported that he had asked US officials to draft the terms of a potential agreement with China. Despite the rally on Wall Street, Treasuries ended the day little changed yesterday, however, overnight we saw a 3bps increase in the 10Y yield to 3.17%, a level matching Thursday’s intraday high. Meanwhile, the US dollar fell sharply erasing gains made earlier in the week, while the Renminbi, having steadily moved towards the 7.00 mark, appreciated 1.3% to 6.88.

Against the more positive outlook for US-China trade, overnight Asian markets performed particularly well, with China’s CSI300 rising 3.6% and Hong Kong’s Hang Seng rallying more than 4%. South Korea’s KOSPI rose 3.5% to its highest close since 24 October. Japan’s TOPIX rose a slightly more restrained 1.6%, thus more than erasing yesterday’s decline. The lift in risk appetite was also reflected in currency markets where the yen weakened but the Australian and New Zealand dollars rallied. In commodity markets both crude oil and copper futures have moved higher.

Sterling saw a 2% gain against the USD yesterday on the back of slightly more hawkish signals from the BoE and some fake news stories on Brexit. Yesterday’s Times story that the UK had sealed a deal with the EU on financial services was total nonsense, while today’s article in the FT suggesting that Brussels might be prepared to offer the UK a “bare-bones” all-UK customs union in the withdrawal agreement doesn’t obviously solve the whole backstop conundrum, given that the EU will still demand a “backstop to the backstop” with no time limit, something the DUP and hardline Brexiteers will not acquiesce to.  

US:
Today’s US data calendar contains some key releases, most notably the latest report from the labour market. After a softish reading of only 134k in the previous month and consistent with the strong ADP report earlier this week, expectations are for a big increase in non-farm payrolls of close to 200k, which would be broadly in line with the average of the past six months. The unemployment rate is set to remain unchanged at 3.7%, while average hourly earnings should advance 0.2%M/M, a touch softer than the readings of recent months. But with wages having fallen in October last year, the annual pace should rise above 3%Y/Y for the first time since 2009. Among other new data, factory orders are expected to post a solid rise of ½%M/M or more in September, while the full trade report for the same month will probably show an increase in the trade deficit in line with the figures for goods trade released last week.

Euro area:
The data focus in the euro area will be the final manufacturing PMIs for October, which are expected to align with the flash readings. In particular, the preliminary release showed a drop in the euro area’s headline index of more than 1pt to 52.1, the lowest in more than two years. The equivalent preliminary figures from Germany and France showed a similar deterioration, and the Italian manufacturing PMI, to be published for the first time today, is expected to fall below 50 for the first time since August 2016. There was a modest upside surprise to this morning’s Spanish release, with the headline manufacturing PMI rising 0.4pt to 51.8, admittedly this followed a notable decline in September to a more-than two-year low.

UK:
There were no surprises whatsoever from yesterday’s BoE announcements – Bank Rate was inevitably left unchanged at 0.75% - although the tone of the policy statement was a little more hawkish than previously, with an explicit assessment that the UK’s output gap had now closed and a central projection that GDP will rise above its potential level from next year with a positive output gap sustained thereafter. As such, with wage growth having recently been stronger than the BoE expected, the policymakers expect domestically-generated price pressures to pick up further. And while external price pressures, related to the exchange rate and energy prices, are forecast by the Bank to subside, inflation is expected to remain above target until the second half of 2021. As such, the forecasts signaled that the MPC expects at least three rate hikes of 25bps apiece to be required over the coming three years.  However, it remained clear that developments on the Brexit front might change the UK monetary policy trajectory. With the projections based on the convenient assumption of an average of a wide range of outturns to the negotiations, which could themselves merit a range of different monetary policy responses – from significant easing to accelerated tightening – the BoE will not change policy until there is clarity on what precisely it should assume instead.    

After yesterday’s big downward surprise to the UK’s manufacturing PMI, which suggested that output in this sector declined at the start of Q4, the flow of October PMIs will continue today with the release of the construction survey. In recent months, the headline index has fallen from 55.8 to 52.1, and a reading close to September’s level is expected this time around. 

US:
Today’s US data calendar contains some key releases, most notably the latest report from the labour market. After a softish reading of only 134k in the previous month and consistent with the strong ADP report earlier this week, expectations are for a big increase in non-farm payrolls of close to 200k, which would be broadly in line with the average of the past six months. The unemployment rate is set to remain unchanged at 3.7%, while average hourly earnings should advance 0.2%M/M, a touch softer than the readings of recent months. But with wages having fallen in October last year, the annual pace should rise above 3%Y/Y for the first time since 2009. Among other new data, factory orders are expected to post a solid rise of ½%M/M or more in September, while the full trade report for the same month will probably show an increase in the trade deficit in line with the figures for goods trade released last week.

Australia:
The domestic focus in Australia today was on consumer spending with the ABS releasing its estimate of retail sales in September, along with an estimate of real spending during Q3. The value of retail sales rose 0.2%M/M, a notch below market expectations, following an unrevised 0.3%M/M increase in August. Annual growth in spending was steady at 3.7%Y/Y. All of the increase in spending in September was attributable to just two groups: food sales and spending at cafes and restaurants. Spending on apparel fell 1.2%M/M while all other groups recorded no change in spending.

After adjusting for inflation, the volume of spending rose 0.2%Q/Q in Q3 – half that which had been expected by the market – suggesting a weak positive contribution to GDP growth. And with growth in Q2 revised down by 0.2pps to 1.0%Q/Q, annual growth in volumes slowed to 2.2%Y/Y from a revised 2.4%Y/Y previously. All of the growth in real spending in Q3 was attributable to spending at cafes and restaurants and ‘other retailing”, whereas there was a decline in spending on household goods and apparel, and at department stores.

In other news, this week’s suite of Australian pricing reports concluded with the release of the PPI indices for Q3. The PPI finished goods index rose 0.8%Q/Q, lifting annual inflation by 0.6ppts to 2.1%Y/Y – the highest reading since Q214. Domestic goods prices rose 0.7%Q/Q and 1.9%Y/Y, whereas a weaker Australian dollar saw import prices rise 1.6%Q/Q and 4.3%Y/Y. Price increases for intermediate materials (4.7%Y/Y) and crude materials (5.2%Y/Y) continued to run at a somewhat faster pace.

New Zealand:
The ANZ-Roy Morgan consumer confidence index fell 1.9%M/M to a three-year low of 115.4 in October – just a little below the historic average for this series (in contrast to the still dire state of business confidence). This month respondents were notably less positive about the outlook for their family finances while year-ahead expectations for the economy turned negative. Surprisingly, respondents indicated they were nonetheless more inclined to buy major household items. Indeed, despite the weakening seen in other elements of the survey, this indicator is still sitting at levels that are normally consistent with growth in retail volumes of over 4%Y/Y.

 

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