The week ahead, w/c 25 March

Chris Scicluna
Emily Nicol
Mantas Vanagas

A swathe of poor manufacturing PMI reports last Friday, especially in the euro area, strongly reinforced concerns about the outlook for global economic growth, whacking risk appetite. At the close, the S&P500 was down 1.9%, more than reversing the gains made in prior days to leave the index down 0.8% for the week. The ‘risk off’ tone was also reflected in wider credit spreads and in a sharp rally in Treasury yields, with the 10Y yield adding to its post-FOMC slump and declining a further 10bps to 2.44% – a level last seen at the very end of 2017 – and leading to inversion of the curve on the closely watched 3M-10Y basis. Yields on 10Y Bunds fell to negative territory for the first time since 2016, while EM currencies were sent tumbling too.

So, not surprisingly, after being little changed on Friday, Asian equity markets fell sharply today as investors followed Wall Street’s lead, with US equity futures also adding to Friday’s losses even as the long-waited Mueller report seemingly eliminated one source of political and legal risk weighing on the Trump presidency. Selling pressure was heavy in Japan, where a stronger yen – $/¥ trading around 110 late on Friday and remaining at around that level today – saw the TOPIX fall 2.5%. In the bond market the 10Y JGB yield fell to -0.09%. China’s CSI300 similarly fell 2.4%, with losses close to 2.0% in benchmark indices in Hong Kong and South Korea and slightly smaller losses generally seen elsewhere. In FI markets, Australia’s 10Y bond rallied 5bps to 1.78%, taking out the lows reached in 2016, while New Zealand’s 10Y bond yield fell 8bps to a new low of 1.90%. In EM FX, however, after dropping 5% against the dollar on Friday, the Turkish lira has rebounded almost 2½% after President Erdogan threatened punishment for bankers engaged in harmful speculation against the currency.

To the extent that risk appetite swiftly evaporated on concerns about the global economic outlook, the macro dataflow will be closely watched this week, starting with today’s German Ifo indices, with other euro area surveys, US housing, trade and personal spending figures, and Japan’s latest IP report coming later in the week. Meanwhile, the resumption of top-level US-China trade talks will recommence at the back end of the week too. And, of course, after a weekend of heightened speculation about Theresa May’s future as Prime Minister, coming days could well be pivotal for Brexit. MPs will vote later today to launch a process of indicative votes on a range of alternative Brexit policies on Wednesday, and May’s deal seems unlikely to face a further vote until that has been conducted. The outcome of all of the shenanigans might well be the crystallization of Parliamentary support around softer Brexit options and/or a second referendum. And there is certainly a strong probability that May will be gone as Prime Minister by this time next week. See more detail below.

The only economic report released in Japan today was the All Industry Activity Index for January. As already reported, industrial production slumped 3.5%M/M during the month, outweighing a 0.4%M/M lift in activity in the much-larger service sector. So even with today’s report revealing a 2.8%M/M rebound in activity in the construction sector – this following a 2.4%M/M decline last month – the overall All Industry Activity Index still fell 0.2%M/M in January. While this decline was 0.2ppts smaller than the consensus had expected, December’s decline was revised by an offsetting 0.2ppts to 0.6%M/M. Favourable base effects – January 2018 had been even weaker – meant that annual growth picked up to 0.7%Y/Y. However, the level of overall activity in January was 0.7% below the average through Q4. In the new detail from the construction sector, a 5.7%M/M rebound in public sector activity was the key driver of the improved January result, although activity was still down 4.8%Y/Y. Private sector construction rose 1.7%M/M but was down 1.5%Y/Y.

Looking ahead to the remainder of the week, tomorrow will bring the release of the services PPI report for February and the ‘summary of opinions’ expressed at this month’s BoJ Policy Board meeting. Following a lull in the dataflow, as is so often the case, the week will conclude with a plethora of reports on Friday, including most notably the IP and household labour survey reports for February and the advance Tokyo CPI for March. The IP report is of particular importance, as the magnitude of the rebound from January’s slump in output will have a large bearing on the overall result for Q1. That day will also bring news regarding retail sales, housing starts and construction orders for February. In the bond market the MoF will auction 40-year JGBs on Tuesday and 2-year JGBs on Thursday.

Euro area:
After Friday’s flash PMIs rocked the markets, the steady flow of sentiment surveys due over coming days will be watched more closely than usual. Most notably, today brings the German Ifo survey, while the German GfK consumer confidence and French INSEE business sentiment indices will come tomorrow, and French INSEE consumer confidence and Italian ISTAT economic surveys come on Wednesday. At the euro area level, the Commission’s business and consumer sentiment surveys are out on Thursday. While the Commission’s flash consumer confidence indicator last week signalled a modest improvement in household sentiment, the weaker PMIs pointed to a notable deterioration in business sentiment, so we do not expect an overall improvement in the headline Commission ESI. As such, the average index for Q1 will remain well down on Q4, suggesting very subdued GDP growth this quarter.

Meanwhile, beyond the surveys, the back end of the week will also bring preliminary March inflation numbers from Germany and Spain (Thursday), as well as France and Italy (Friday). And among other releases, final Q4 GDP data from France, Spain and the Netherlands are due, along with German labour market and French consumer spending figures. Elsewhere, various Governing Council members, including President Draghi and Chief Economist Praet will speak at the annual ECB watchers’ conference on Wednesday. In the markets, Germany will sell 2Y bonds tomorrow and 10Y bonds on Wednesday, while Italy will sell fixed-rate and index-linked bonds tomorrow.

After a weekend of intense speculation about Theresa May’s future as Prime Minister – and highly unconvincing denials of interest in the top job by those ministers touted to replace her – this morning will see May seek approval of her latest Brexit strategy in Cabinet. But events seem now to be very much out of her hands, with the House of Commons set this afternoon to vote on a variant of the 'Cooper-Letwin' proposal to allow MPs to launch a new process of indicative votes on a full range of Brexit scenarios on Wednesday. Reports have also suggested that the Government itself intends to run such a process of indicative votes in coming days whereby MPs would be able to express their support for up to seven options – the PM’s deal and variants thereof including a Customs Union and Single Market participation, Article 50 revocation, a second referendum, or no deal – to try to find a resolution to the current impasse.

On balance, we would attach the greatest likelihood of success in either of these indicative-vote processes to softer Brexit scenarios. Certainly, with May having ostracised those MPs upon whose votes she will depend, approval of her deal this week seems highly unlikely unless it comes conditional upon confirmation by a second referendum later in the year. So, whatever happens this week, there is unlikely to be the unequivocal support for May’s deal required to qualify for the later 22 May Brexit Day deadline endorsed by EU leaders last week. So, instead, the shorter deadline of 12 April is likely to kick in, although we would strongly expect a much longer extension to be agreed in due course to avoid a no-deal Brexit then and allow the new Parliamentary processes to play out in the fullness of time.

Whatever happens, we see a significant probability that May’s term as Prime Minister will end by this time next week. And the consequences of such a step would be unpredictable, with uncertainty whether Conservative MPs would be able to rally around an alternative PM, or if a General Election would be triggered, or (more unlikely) a Government of National Unity might eventually be formed to see through implementation of any compromise emerging from the process of indicative votes.

Beyond the aforementioned Brexit drama, the most notable economic data release in the coming week’s UK calendar is the final estimate of Q4 GDP, which is due on Friday. There is little chance of a revision to the preliminary estimates of 0.2%Q/Q of 1.3%Y/Y growth and the figures will probably confirm that public and private consumption was the main driver, while investment and trade provided negative contributions.

Beyond the national accounts, economic sentiment surveys will provide more up-to-date information in the coming week about where the economy is heading. Most notably, the GfK survey for March, also out at the end of the week, will be worth watching for any clues about how consumers are reacting to the turbulent political events. The CBI Distributive Trades survey, due Wednesday, will provide similar information, bringing the latest update on consumer spending on the High Street this month. More clues about that and momentum in the housing market will come from BoE lending data, out at the end of the week. Supply-wise, the DMO will issue 20Y linkers tomorrow. 

In the US, it will be a relatively low-key start to the week, with just the latest Chicago Fed national activity and Dallas Fed manufacturing indices due on Monday. However, coming days will still bring some noteworthy reports capable of prompting a market response. Tomorrow brings the Conference Board’s consumer survey for March, housing starts and permits data for February, and the S&P/CoreLogic house price index for January. The full trade balance for January will be released on Wednesday while the ‘final’ estimate of Q4 GDP growth and the February pending home sales report will be the focus on Thursday. And on Friday we will receive personal spending data for January, along with the core PCE deflator for that month (personal income data for February will also be released). That day will also bring new home sales data for February, the final results of the University of Michigan’s consumer survey for March and the Chicago PMI for March. In the bond market the US Treasury will auction 2-year notes on Tuesday, 2-year FRNs and 5-year notes on Wednesday and 7-year notes on Thursday.

There were no economic reports in China today. Looking out over the remainder of the week the only report scheduled during normal market hours is that concerning industrial profits during February, released on Wednesday. This will leave the focus on any developments in US-China trade talks, with US Trade Representative Robert Lighthizer and Treasury Secretary Steven Mnuchin scheduled to meet with their Chinese counterparts in Beijing later this week. The official PMIs for March will be released on Sunday, however, with Bloomberg’s survey indicating that analysts are hopeful for a modest lift in the manufacturing PMI from the 3-year low of 49.2 recorded in February – a hope that could prove misplaced if last Friday’s PMI reports in the US, Europe and Japan are any guide.

There were no economic reports released in Australia today. Moreover, we have a very quiet week ahead, with the only diary entries of any note being Thursday’s ABS quarterly job vacancy count and Friday’s release of the money and credit aggregates for February. 

New Zealand:
New Zealand’s economic diary was also bare today. Looking ahead, following the release of the February merchandise trade report tomorrow, the focus will turn to Wednesday’s RBNZ Interim OCR Review. That said, the RBNZ is widely expected to retain the OCR at 1.75%. And pending a full review of the economic outlook at the subsequent Monetary Policy Statement meeting in May – crucially also the first review in which policy will be set by a new Monetary Policy Committee (MPC), rather than by the Governor alone – it seems likely that the short statement accompanying this week’s decision will maintain a neutral tone. The ANZ’s Business Outlook Survey for March will follow the RBNZ on Thursday, while Friday will bring an update on consumer confidence and the building consents report for February. Also on Friday RBNZ Governor Orr will be giving a speech discussing the change to the monetary policy decision-making structure that formally begins on 1 April. Ahead of that speech – or at that event – we would expect to finally learn the identities of the new external MPC members.


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