Taper Tantrum 2.0 Dominates

<br /> Taper Tantrum 2.0 Dominates – Marc to Market<br />


Taper Tantrum 2.0, emanating from Europe
rather than the United States continues to overshadow other developments. 
Yesterday, the yield on the 10-year German Bund pushed
through the 50 bp mark that has capped the occasional rise in yields in recent
months.  The record of the ECB meeting was
understood as indicating that the official assessment had surpassed the
actual communication in order try to minimize the impact.  Comments from
the ECB’s Coeure seemed to point in the same direction.  European bond
yields are edging higher again today.  
US yields were dragged higher
but still lagged behind the backing up of European yields. 
 This resulted
in a further compression of yield spreads
and helped lift euro back above $1.14 (three-day high).  The euro is in
narrow ranges today near yesterday’s highs.  The euro has approached the
high from late June near $1.1445.  If it cannot make a new high today, the
technical indicators may look a bit toppish.
There were two impulses from
the US economic data.   
On one hand,  the ISM non-manufacturing survey was stronger than expected at
57.4 from 56.9 in May.  The Bloomberg survey showed a median
forecast for a weaker report.  It averaged 57.3 in Q2 after an average of 56.4
in Q1 17 and 55.8 in Q4 16.  The non-manufacturing PMI averaged 54.9 in
2016.  Forward-looking orders rose
to 60.5 from 57.7.  Also, the price
paid moved back above the 50-level (52.1 vs. 49.7 in May).  Prices paid
did slip in the ISM manufacturing report.  The combination of modest
inflation in services and deflation in goods (especially consumer durable
goods) is part of the underlying price dynamic that often is obscured by focusing on headline measures.
On the other hand, labor
market readings disappointed.
This included the ADP (158k vs. 188k median forecast in the Bloomberg
survey) and the employment component of the ISM non-manufacturing survey (55.8 vs. 57.8).  Weekly initial jobless claims
rose for the third consecutive week.  During the week of the national
survey, weekly jobless claims, and their four-week moving average were little
above levels that were seen during
a similar period in May.  The 19.3%
drop in the Challenger jobs cuts stands as an exception to the generalization.
Expectations for today’s
non-farm payroll report are for the 175k-180k
 The monthly jobs gain has slowed
recently.  Consider that the three-month average was a little above 200k
in February. In May it stood at 121k, the lowest since July 2012.  
However, given the dynamics of the participation rate, slowing jobs growth has
seen the unemployment rate fall from 4.7% in February to 4.3% in May.  The
underemployment rate has fallen.  It stands at 8.4%, down from 9.4% in
A monthly gain of over 200k
coupled with an increase in average hourly earnings would go a long way toward
underscoring the upside economic surprises seen recently in the US.  
It would solidify expectations that the
Fed is still on track to continue normalizing its monetary stance, which includes
a balance sheet adjustment before the end of the year.    Hourly earnings are
expected to have risen by 0.3% for a 2.6% year-over-year rate (up from 2.5% in
Federal Reserve Chair Yellen
will deliver the semiannual testimony before Congress next week. Today, her
prepared remarks will be made available. 
 These will likely be a broad
overview of the economy, which is expanding a rate near where the Fed assesses
is near-trend.  This side of the financial crisis, the slower growth
appears to be a function of weaker labor force growth (demographics and,
perhaps, other sociological factors) and weaker productivity growth.  At
the same time, while the recovery may be getting long in the tooth, as they
say, there does not appear to be the kind of imbalances that are corrected via market forces or policy which
have been associated with the end of past
business cycles.   
Yellen and the Fed’s leadership seem more determined that
some others to look past the near-term noise in high frequency data.  
We have suggested
that earlier this year the Fed seemed to become more confident of the
resilience of the economy and are committed to taking advantage of the better
global conditions, and easing of US financial
conditions, to continue normalizing policy through gradual rate
increases and the beginning of the reduction of the Fed’s balance sheet.  
While the ECB is seen
preparing the investors for another adjustment in its risk assessment and for a
reduction of asset purchases (while extending them), the BOJ wants to lag. 
With the 10-year JGB yield at its highest since February
(~10.5 bp), and the five-year yield at its highest level since last November
(~-4 bp), the BOJ offered to buy an unlimited
amount of bonds. Apparently, the offer
alone was sufficient to push the 10-year yield almost two basis points
The dollar pushed higher
against the yen to approach JPY114.
  It is trading at its best level in
nearly two months.   At JPY113.75, it is up 1.2% for the week and the fourth consecutive weekly
advance. May’s highs, near JPY114.35 and the JPY114.60 area (retracement
objective of this year’s decline) are the next hurdles.  
A poor week for UK data that
saw all three PMIs undershoot expectations was
capped by today’s reports showing weaker industrial output, falling home
prices, and a wider trade deficit.
  Industrial output had been expected
to increase but instead fell 0.1% in May.
 Manufacturing fell by 0.2% and is the fourth decline in five months.
 Construction output fell for the second month. The trade deficit swelled
to GBP3.07 bln from GBP2.12 bln, which nearly matches the 12-month average,
perhaps suggesting that the improvement spurred by the past sharp depreciation
of sterling has run its course. The merchandise (visible) trade deficit rose to GBP11.86 bln and is above its
12-month average (~GBP11.0 bln).  Lastly, Halifax reported its house price
index fell 1.0% in May.  
Sterling was sold through yesterday’s lows in response
to the poor string of economic data.  
This week’s data arguably weakens the case for a BOE rate
hike.  The implied yield on the
December short sterling futures contract has eased a couple of basis points
this week.  Next week’s employment report is expected to show another
decline in average weekly earnings.  A break of the $1.2980 area would
raise confidence that a top of some kind is being
There were two economic
reports from Europe to note, and both
were surprises.  
May industrial output jumped 1.2% (median Bloomberg survey forecast was for
0.2%).  It is the fifth consecutive gain and overshadows the minor
downward revision in April (0.7% from 0.8%). Manufacturing output rose 1.3%,
helped by machinery and autos.  Energy output rose 2.9%, while
construction fell 1% after three months of gains.  
Italian retail sales
disappointed in May.
  They fell 0.1% but were expected to
have risen 0.3%. Adding insult to injury,
the April series was revised to -0.4% from -0.1%.  Retail sales in Italy
have not grown since January.  While Italy runs a primary budget surplus,
and its debt is what is considered legacy (past policy errors), it remains among the most indebted country in Europe after
Greece.  Its real problem, however, is growth, and indeed the lack of it.
  Stronger growth might also help ease the non-performing loan challenge.
 Growth is well below the interest rate on Italy’s debt, despite the
unorthodox policies at the ECB that drove down rates.  
Canada reports its June
employment figures today. 
 However, barring a dramatic
disappointing shock, expectations for Bank of Canada rate hike next week will
be unaffected.  Canada has created an average of 37k full-time positions a
month this year.  Last year’s average was about 6k a month.  As a rough rule, Canada is about 1/10 the size of
the US, so this would be the loose equivalent of the reporting 370k increases
in non-farm payrolls for five consecutive months.  
Although short-term Canadian
rates have edged higher this week, the Canadian dollar moved broadly sideways
this week.  
In fact,
at CAD1.2980, the US dollar is slightly higher on the week.   A cap has been formed near CAD1.3015.  The charts
warn of the risk of the potential for one more leg down, maybe a retest on the
CAD1.2915 area before a corrective/consolidative phase.  
Lastly, we note that China
reported that its June reserves rose by $3 bln to $3.056 trillion.
  It is the fifth consecutive increase
in reserves.  During this stretch, the dollar value of the reserves has
risen by about $58 bln.  Some of
this may reflect valuation gains from the non-dollar component of reserves but offset by the sharp sell-off in
the European bonds it holds.  The increase in reserves may be spurred by capital controls and the breaking
of the one-way yuan-depreciation. 


Taper Tantrum 2.0 Dominates
Taper Tantrum 2.0 Dominates

Reviewed by Marc Chandler

July 07, 2017

Rating: 5

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