Money Matters 19th December 2017

It’s been a busy end to 2017, with political event risk all the way up to Christmas.
Over the weekend, the second round of the Chilean elections took place, with market friendly candidate Pinera triumphant and ANC elections in South Africa, with results due early in the week. There was also a victory for the Modi government in Gujarat.
This week has the potential to deliver US tax reform. There is also a BOJ meeting in Japan.
S&P 2,676 +0.92%, 10yr Treasury 2.37% -2.30bps, HY Credit Index 312 -6bps, Vix 9.42 -16Vol
As expected, last week the FED delivered its 3rd rate hike of 2017 (and fifth in this now 2-year cycle), shifting the target rate by 0.25% to between 1.25%-1.50%. Interestingly, there were 2 dissenters for the first time since November 2016, with Evans joining Kashkari (who has voted against every hike) in arguing for easier policy. Given also that there was no change to the “dot plot” forecast for interest rates going forward (the FED still expects to tighten policy 3 times whilst the market prices 2 hikes), one could interpret the meeting as doveish. In her last press conference, Yellen, however, was confident that inflation would rise over the next 24 months and that Trump’s tax plan would provide a fiscal stimulus (recall this is not necessarily a view held by most economists). The net result for markets was limited, although the yield curve continued to flatten with the 2s-10s touching 0.53% in spread (a multi-year low). To note, when Yellen is replaced in February by Jay Powell, she will have been the first Chair in almost 40 years, not to have served 2 terms.
Elsewhere, after coming into Friday unchanged on the week, equities rallied on Friday as a compromise jobs and tax bill was agreed by Republicans. This includes a 21% top corporate tax rate, 37% top individual rate and a doubling of the standard deduction. This is now expected to pass the Senate on Tuesday (despite Republican’s now only having a 1 vote majority), Congress on Wednesday and signed into law by the POTUS on Thursday.
In terms of economic data, retail sales for November surprised to the upside, whilst CPI inflation was modestly weaker.
Meanwhile, in Canada, at a speech to the Canadian Club in Toronto, Central Bank Governor Stephen Poloz boosted expectations for a rate hike in Q1 (which would be the 3rd hike in Canada’s cycle), highlighting that the Canadian economy was the fastest-growing in the G7.
Eurostoxx 3,568 -0.79%, German Bund 0.31% -0.60bps, Xover Credit Index 236 -6bps, EURUSD 1.178 +0.19%
The ECB left rates on hold at the December meeting but raised growth and inflation targets. In the accompanying press conference, Draghi gave little away, refusing to comment on the likely path for asset purchases beyond September 2018. He did, however, confirm, that the ECB had incurred losses on the Steinhoff (the South African conglomerate that reported financial irregularities earlier this month) bonds it owns.
In Italy, the date for the general election was set as the 4th March 2018. As in Germany, the outcome is most likely to be a hung parliament (with no party holding a majority). Indeed, there was further evidence of the fragmentation of European politics in Austria; the far-right party anti-immigration Freedom Party struck a deal to create a ruling coalition with the conservative People’s Party (OVP), which will see Sebastian Kruz become the world’s youngest leader at 31. This week there are regional elections in Catalonia, Spain.
In the UK, the Bank of England left rates on hold (post their November hike) despite inflation positing its fastest rate of increase in over 5 years at 3.1%. The minutes also noted recent progress in Brexit negotiations, suggesting that the probability of a disorderly “hard” exit had reduced. However, it was not all good news for PM Theresa May as she suffered an embarrassing defeat in the Commons, which forced an amendment to the withdrawal bill to give parliament a vote. Moreover, Chancellor Merkel of Germany suggested said the next stage of negotiations will be “incomparably more difficult”.
In Turkey, the central bank raised its late liquidity window rate by 0.50% to 12.75% (less than expected) after inflation hit a 14-year high. In contrast, Russia’s central bank cut its benchmark rate by 0.50% to 7.75%, with its inflation dynamics easing.
Asia - India FlagASIA
HSCEI 1,142 +0.55%, Nikkei 2,290.00 -0.40%, 10yr JGB 0.04% 0bps, USDJPY 112.710 -0.70%
China’s November economic data batch offered few surprises. PPI inflation showed the most significant monthly deviation, dropping from 6.9% YOY in October to 5.8% in November, with sequential price momentum moderating among some of the major smokestack industries including coal and ferrous metals. CPI printed at 1.7% YOY, off 20bps from last month. Retail sales, industrial production and fixed asset investment were all little changed, printing at 10.2% YOY, 6.1% YOY and 7.2% YOY respectively. M2 growth rose 30bps to 9.1% YOY.
Inflation spiked in India, with CPI rising from 3.6% YOY to 4.9% YOY in November. This was a surprise to the market and strengthens our view that the one-way bet on Indian rates of the last 2-3 years has come to an end. Having delivered a total of 200bps of rate cuts, leaving the policy rate at 6.00% at the last meeting, we believe the RBI is now firmly neutral with no significant bias in either direction. The fact that November’s surge was driven in part by a transient base effect, in addition to a surge in volatile food prices, gives us conviction that the RBI are likely to be patient in the wake of above target CPI (the target being 4%, though with a +/-2% band) in the short term.
On the political front in India, Prime Minister’s Bharatiya Janata Party looks set to retain power in his home state of Gujarat.
This state-level election was seen as a key test of the ‘Modi Effect’, and whether the BJP would be able to overcome the three headwinds of anti-incumbency sentiment, pockets of disillusion with demonetisation among small business owners, and a resurgence of the Congress party.
Early results suggest that the government is leading in 106 of the 182 assembly seats. Though sufficient to secure a victory, this is a narrower margin than the BJP secured at the last Gujarat election in 2012, where it won 116 seats.
The Philipppines Central Bank left rates on hold at 3.00% at their final policy meeting of the year, in line with market expectations. While acknowledging that the oil prices remain a significant upside risk, the BSP remarked that the overall “outlook for the inflation environment has been broadly unchanged”. Policymakers also brushed off the potential risk that the tax reforms recently passed by parliament pose to price stability, suggesting that any effects would likely prove to be “transitory” and offset by the associated improvement in productivity brought about by the new tax laws.
Bank Indonesia paused on rates, leaving the key policy benchmark at 4.25%, while guiding for no further easing.
After months of unwavering denial, policymakers in Pakistan appear to be finally waking up to smell the coffee, with the IMF playing the role of discreet barista for the time being. Last week, the PKR was allowed to depreciate against the dollar by 5%. This comes following the imposition of a range of import controls, which did little to stop the country from bleeding foreign exchange reserves to the point of teetering on the edge of a full-blown balance of payments crisis.
The government is now thought to be in talks with the IMF over a possible bailout package. According to a World Bank report released in October, Pakistan currently has a US$17bn shortfall in its ability to service its external financing commitments between now and the end of June 2018.
After the move in the currency, Prime Minister Abbasi’s remarks gave little solace to potential investors. Having denied for months that the currency would be devalued at all, the Prime Minister stated that this 5% move is the one and only time the currency will be weakened (despite an estimated 10%-20% over-valuation on a real effective exchange rate basis).
MSCI Lat Am 2,715 +0.48%
Chile confirmed that the political pendulum has shifted towards responsible pro-market economic policies in Latin America. Indeed, conservative ex-President Pinera (previously in office from 2010 to 2014) won the presidential race gathering 54.6% of the votes in the 2nd round. This marks the end of Bachelet’s term, during which policy decisions discouraged domestic and foreign investment and fiscal spending was heading in a dangerous direction, causing lagging GDP growth and poor market returns. Pinera has been elected on a pro-business platform to enact better designed health, education and pension reforms, infrastructure investments through PPP and lowering taxes, financed by decreasing “unnecessary” government expenses.
Peru’s financial markets tumbled on Thursday after President Kuczynski acknowledged having advised Odebrecht for an irrigation project, contradicting his previous denial of having any links to the company. The accusations have triggered a political crisis, as payments were reportedly made between November 2004 and December 2007, coinciding with some periods when Kuczynski served as premier and minister of finance for former president Alejandro Toledo. However, a few weeks ago, Marcelo Odebrecht (former CEO of Odebrecht) declared to Peruvian prosecutors that he hired Mr. Kuczynski as a consultant after the now president stopped being minister during president Toledo’s government. In all cases, his lies and hearing by the justice system may trigger a political overhaul.
On Friday, we learnt that the Peruvian parliament is preparing an impeachment vote to be held this week, where 87 congress(wo)men out of the 110 must vote again the president for the impeachment process to proceed.
Brazil’s ICPA inflation in November climbed to 2.5% YTD (vs. 5.97% in Jan-Nov 2016). The November CPI surprised all analysts on the downside.
This might justify further rate cuts in 1Q18.
Brazil’s retail sales came in at +2.5% YOY in October (from 6.2% in September).
Colombia’s current account deficit reached USD 8.36Bn YTD as of September 2017 (3.7% of GDP from 4.8% a year ago). Exports have increased by 16.2% YTD while imports have advanced 3.9% (-20.1% and -19.6% a year ago, respectively) as the trade account adjusts to a new reality. FDI accumulates USD 10.2Bn YTD, USD 3.5Bn more than the adjusted figure a year ago. Hence, the FDI will fully cover the CAD from 2017 onwards for the first time since 2013.
S&P downgraded Colombia’s sovereign rating from BBB to BBB-, one level from junk. The rating agency cited Colombia’s economic weakness and the failure of this year’s tax increases to raise enough revenue.
Colombia’s central bank maintained the benchmark rate on hold at 4.75%. Banco de la Republica’s Board preferred to take some time to assess the potential final effect of the rating downgrade on financial assets and see the materialisation of the expected renewed downward trend of inflation in 1Q18 after an unexpected slightly high CPI in November.
Mexico’s industrial production came in at -1.1% YOY in October, surprising to the downside.
Mexico’s central bank increased its policy rate by 25bps 7.25%. In the communique, the board highlighted the challenging outlook for inflation, given the pressures on the currency coming from the FED’s monetary policy decisions and NAFTA renegotiation, alongside the higher-than- expected November CPI.
Argentina’s central bank held the 7-Day repo rate at 28.75%. CPI inflation is decelerating to 1.4% MOM in November, down from 1.5% and 1.9% registered in October and in September respectively.
Chile’s consumer confidence in November reached its highest since July 14 to 47.4 points. Meanwhile, Chile’s central bank decided to keep its reference rate unchanged at 2.50%, as expected.
South AfricaAFRICA
MSCI Africa 907 +1.26%
South Africa’s governing ANC party kicked off its 54th National conference over the weekend to elect a successor to President Jacob Zuma as the party leader. The current Deputy President and the business community’s preferred candidate Cyril Ramaphosa, is ahead having secured the backing of most ANC branches. However, due to the complexity of the process and the high possibility of vote-buying, the race remains too close call between him and Zuma’s preferred candidate, his ex-wife Nkosazana Dlamini-Zuma.
In addition to the leadership race, the party’s five other top officials will be elected. Voting was initially scheduled to take place overnight on Saturday, but was delayed as rival party factions clashed over who had the right to cast ballots. The final results are now expected today.
Moving on to data publications:

  • South Africa’s current account deficit narrowed marginally to 2.3% of GDP in Q3 from 2.4% in Q2, FDI climbed to 19.2bn rand from c.4bn, and trade surplus grew to 71bn rand from 64bn.
  • South Africa’s CPI slowed to 4.6% YOY in November from 4.8% in October. On a MOM basis, CPI slowed to 0.1% from 0.3%. Core inflation fell to 4.4% YOY from 4.5% and 0.0% MOM from 0.1%

Egypt’s external accounts are re-balancing. Its current account deficit narrowed to USD 1.6Bn in 3Q17 hitting a 3-year low from a deficit of USD 4.8Bn in the same period a year earlier helped by:

  • The trade deficit narrowing 5% to USD 8.9Bn.
  • A strong rebound in tourism revenues (256% YOY).
  • The 37% YOY jump in remittances reached a record-high of USD 6Bn (also attracted by a cheap currency).

Net inflows of FDIs in Egypt registered USD 1.6Bn, as a direct result of the 84.2% rise in the net inflow for oil sector investments, thus covering the CAD deficit. Portfolio investment net inflows rose to USD 7.5Bn against a net outflow of USD 0.8Bn the previous year as international investors are attracted by the large carry trade and a low risk of devaluation.
All these positive data flow can be attributed to the devaluation of the EGP and reforms undertaken a year ago.
Fitch has cut its 2017 GDP growth forecast for Nigeria to 1% from 1.5%. Although Nigeria’s 2018 budget had an oil production target of 2.3Mn bpd, the Fitch forecast was just above 2Mn bpd partly linked to expectations of violence in the Delta as elections approach in 2019.
Powered by a year on year jump of 99.13% in oil exports (supported by oil price increase and volume recovery), Nigeria’s trade surplus crossed the NGN 1Tn (2.8Bn USD) mark in 3Q17 for the first time since 2014.
Last, the Kenyan opposition party postponed indefinitely its plans to swear-in Raila Odinga as the ‘people’s president’ on December 12th 2017. This brings an end to a drawn-out political process which saw two disputed presidential elections and has weighed on the country’s economy. 

Wishing you all a very Merry Christmas and Happy New Year from the entire Austen Morris Associates team!

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Money Matters now takes a break and will return on the 2nd January 2018.

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