White smoke from Brussels?

Chris Scicluna

Overview:
With the S&P500 having closed up 1.0% at a four-week high buoyed by some better-than-expected earnings news, most Asian markets opened higher today, with Japan’s Topix initially rallying to its best level so far this year. Gains were subsequently pared, however, after China threatened retaliation against the US as the House of Representatives passed the Hong Kong Human Rights and Democracy Act. Nevertheless, most major indices in the region have posted gains on the day, with the Topix eventually closing up 0.7%, and Korea’s KOSPI also up 0.7% as the BoK predictably cut its main policy rate by 25bps to 1.25% (albeit with two of seven members of the Monetary Policy Board voting against). But Chinese stocks closed lower on the day (CSI300 down 0.3%). US S&P futures are down too.

The somewhat diminished risk appetite has also seen UST yields give back some of yesterday’s upwards shift (e.g. 10Y yields have declined about 4.5bps from yesterday’s US close to about 1.73%). But JGB yields are up again (e.g. 10Y yields up about 1.0bp to -0.17%) even as Governor Kuroda insisted that he expects the BoJ balance sheet to continue to expand while PM Abe announced that he will release ¥710mn from the 2019 budget reserve fund for emergency typhoon relief.

In the euro area, most sovereign bonds have opened higher, with BTPs outperforming thanks to the government’s agreement last night on a draft budget which aims to maintain the budget deficit at 2.2% of GDP while incorporating extra public investment and lowering labour taxes, and also avoiding the VAT hike currently built into legislation. But Brexit appears the main driver, as hopes of an imminent breakthrough have receded somewhat as talks resume this morning to try to seal a deal ahead of tomorrow’s Summit. With the Northern Irish DUP playing hard to get in the face of Johnson’s advances, Gilts are stronger (10Y yields down 3bps to 0.66%) and sterling has weakened back below $1.27.

UK:
So, all eyes in the UK will remain on Brussels today as negotiators attempt to seal a deal ahead of tomorrow’s EU Summit. Right now, much appears to depend simply on the amount of UK taxpayer money to be offered by Boris Johnson to Northern Ireland to persuade the DUP – whose votes will be needed in the House of Commons if a Withdrawal Agreement is ever to be adopted into UK law – to sell out its previous opposition to the customs and regulatory borders that would need to be erected down the Irish Sea in the event of an agreement. Of course, former UK PM Theresa May had previously argued that “no British Prime Minister could ever agree to” such arrangements as they would “threaten the constitutional integrity of the UK”, while Johnson himself had previously suggested that proposals along those lines would represent “national humiliation”. So, while Boris Johnson himself was never a stickler for principles, it’s no surprise that a report this morning from an unnamed UK official suggested that the DUP is the main obstacle to an agreement.

If it is not possible to finalise an agreement today, the EU will not want the positive mood to evaporate in an instant. So, we might still expect the Summit tomorrow to come up with some relatively warm words, commit to continue negotiations, and be prepared to pencil in a further Summit later this month to try to seal a deal. If, on the other hand, there is an agreement, attention would then shift to the UK’s Parliament, where MPs would be asked on Saturday to back it in another so-called “meaningful vote”, the outcome of which would not be clear-cut. Even beyond the DUP there remain pockets of resistance among hardline Conservatives, with former Cabinet Minister Owen Paterson this morning stating that a customs partnership would “unacceptable”. And Labour MPs would effectively be voting for a Tory landslide in the next general election if they gave their support to Johnson to deliver Brexit at this point in time.

Beyond Brexit, after yesterday’s much weaker labour market figures, the UK economic data focus today will turn to inflation. Having fallen a hefty 0.4ppt in August to 1.7%Y/Y, the lowest level since December 2016, the headline rate of CPI is expected to tick up to 1.8%Y/Y in September. A similar 0.1ppt rise in the core CPI rate to 1.6%Y/Y is also expected. The latest ONS house price data are expected to report a further slowing in the pace of national inflation in the sector from the near-seven-year low of 0.7%Y/Y registered in July. In addition, BoE Governor Carney will speak publicly at the Harvard Kennedy School and at an IMF event at the Washington DC annual meetings.

Euro area:
This morning has brought EU new car registrations data for September, which confirmed a strong double-digit annual rate of growth at the end of Q3. Indeed, registrations in the euro area were up 19.4%Y/Y with registrations in the EU as a whole up 14.5%Y/Y. Of course, these figures were flattered by the low base last year as new emissions testing came into effect that month. And registrations in the euro area were still down 1.5%Y/Y on a year-to-date basis, with a similar pace of decline for the EU as a whole. Among the large member states, however, German registrations were up 22.2%Y/Y to be up 2.5%YTD/Y, with those in France up 16.6%Y/Y but down 1.3%YTD/Y and Italy up 13.4%Y/Y but down 1.6%YTD/Y.

Later this morning we’ll get final euro area CPI figures for September. Like the equivalent data released over recent days from Germany (0.9%Y/Y), France (1.1%Y/Y) and Spain (0.2%Y/Y), euro area headline inflation is likely to align with the flash reading to show a drop of 0.1ppt to 0.9%Y/Y, the lowest since November 2016. But while core inflation was nudged higher in the flash estimate by 0.1ppt to 1.0%Y/Y, rounding issues raise the risk of a downwards revision. In addition, the euro area’s trade report for August is likely to show a narrowing in the surplus on the back of still-subdued external demand.

Beyond the data, ECB Chief Economist Lane, Bundesbank President Weidmann, Bank of France National Bank President Villeroy de Galhau and Dutch National Bank President Knot will all speak publicly in the US. Finally, in the bond markets, Germany will sell 30Y Bunds.

US:
Today’s main focus in the US will be the September retail sales figures, which are due together with business inventories numbers for August, the Fed’s latest beige book and the NAHB housing market index for October. FOMC speakers include Chicago Fed President Charles Evans and Dallas Fed President Robert Kaplan. In the markets, the Treasury will sell 5Y TIPS.

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