Money Matters 9th October 2018

As there are no major policy events scheduled for the coming week in developed economies, financial markets are going to mainly focus on inflation releases in the US and in various Euro Area member states. In addition, ongoing political noise risks volatility in asset prices, such as news related to Brexit talks, trade discussions and political tensions within the European Union about the Italian government’s lax approach to fiscal policy.
In emerging Asia, the economic diary is also very light. The data with the greatest potential to move markets will come from China, when the country releases its money supply and foreign trade statistics. The former will be a good indication of whether recent policy measures have started to impact the economy, while the latter will shed some light on the effects of trade tariffs. Latin American markets might gradually shift their focus away from Argentine crisis management and Brazilian elections, as Mr. Bolsonaro gained the largest number of votes in the first round of presidential elections. This week, inflation data are released by Brazil, Chile, Mexico. Furthermore, the Peruvian central bank holds its monetary policy meeting. In Africa, high-frequency indicators will be released, such as inflation in Tunisia and Egypt, and manufacturing performance in South Africa.
gas-pump-petrol-stations-petrol-gas-284288UNITED STATES
S&P 2,886 -0.97%, 10yr Treasury 3.23% +17.16bps, HY Credit Index 342 +8bpsVix 16.22 +2.70Vol 
Rising oil (WTI for November delivery at USD 73.6/bbl; Brent for December delivery at USD 83.1/bbl) spilt over to financial markets in the US. Stock markets had a rough week, as the majority of the broad indices fell. The S&P 500’s uptrend came to a halt, as the index decreased 1% by the end of the week. The index was dragged down primarily by consumer discretionaries, which lost about 4.4% of their value. Oil prices pushed up inflation expectations too, which in turn raised Treasury yields. As a result, the 2-year rose 7bp to 2.89%, while the 10-year jumped 17bp to 3.23, bringing the 2s10s spread to 35bp.
The September jobs report in the US brought a lower-than-expected non-farm payroll (NFP) figure of 134,000. Some portion of unexpectedly weak employment growth can be explained by adverse weather conditions in September, while some of it is justified by the fact that the US’s economy has reached the state of full employment, which implies that the available labour force has become scarce. On the bright side of the release, NFP numbers were revised up in the previous two months, which broadly offset the weakness in the September figure. The unemployment rate fell 0.1ppt to 3.7%, while average hourly earnings hovered at 2.8% YoY.
The September jobs report is strong enough to keep the idea of reflation alive, i.e. that inflation in the US has returned and bears the potential to accelerate further going forward. Should wage pressure translate into domestic inflation, the repricing of assets will continue, as the Fed’s forward-looking rate hike trajectory might become steeper.
Eurostoxx 3,326 -2.44%, German Bund 0.55% +10.30bps, Xover Credit Index 283 -7bps, USDEUR .871 +0.88%
Tensions between the Italian government and the EU weighed on market sentiment in the Euro Area. The deterioration of sentiment was well-reflected in European stock prices, as most of the major indices decreased – expressed in terms of USD – last week. European bond yields rose across the board, as oil prices raised inflation expectations. Consequently, the yield on the 10-year German Bund rose 10bp to 0.56%. The impact lifted all European bond yields, including Italian, which have been burdened by idiosyncratic issues as well. Due to the combined effect of the two stimuli, the Italian 10-year spiked 28bp to 3.52%, bringing the spread over the Bund to 296bp, a level last seen in 2013.
September PMIs in the Euro Area signalled stable growth in 2018 Q3. The Euro Area composite output PMI was revised down slightly to 54.1, the lowest reading since Nov-2016. The services sector PMI was 54.7, bringing the level of the index to the highest since June. The composite PMI is still highest in Germany, at 55. French composite PMI comes second at 54.0, Spain is third, at 52.5. Finally, Italy is at 52.4.
According to media speculations, the ECB might change the capital key rule in October or December meetings, since the capital key – which defines how much of each Eurozone countries’ sovereign debt is owned in the asset purchase programme – is due for rebalancing.
HSCEI 10,388 -4.55%, Nikkei 23,783.72 -1.52%, 10yr JGB 0.16% +0bps, USDJPY 113.710 +0.12%
Asian markets delivered a weak performance during the week. The broad MSCI Asia Pacific ex. Japan index fell 5.2% in USD. The Indian stock market was one of the greatest detractors as the index lost 7.7% of its value in USD. Indonesia, Taiwan and Pakistan also underperformed compared to their peers, decreasing 5-6% in USD, respectively.
The Indian central bank (RBI) surprised markets by holding the key policy rate on hold, while the market broadly expected a 25bp hike in response to the recent INR weakness. The tone of the MPC’s statement came through relaxed, as MPC members saw no significant domestic price pressures from elevated oil prices and currency weakness. The MPC pointed out that the output gap has closed and there are upside risks for overheating in the coming quarters. This can be interpreted as a hawkish comment, which signals that members stand ready to hike rates further if domestic developments warrant such a move, while external developments will not influence them to a huge extent.
Philippine CPI inflation hit 6.7% YoY in September, while core inflated eased to 4.7% YoY. Food inflation was one of the largest contributors to the elevated headline figure, as food prices rose 9.7% YoY, due to the bad agricultural harvest and adverse weather conditions.
As inflation is likely to remain outside the central bank’s inflation target band and FX weakness persists, the central bank will need to consider the continuation of the tightening cycle at its next rate setting meeting – especially given that it has been behind the curve for a long time.
The Chinese central bank (PBOC) announced on Sunday that the reserve requirement ratio (RRR) will be reduced by 100bp effective on 15th October. According to the PBOC, the main purpose was to support the real economy by enhancing the stability of the banking sector’s funding and by improving the liquidity structure of banks and financial markets, while the monetary policy stance or the overall liquidity position of the Chinese banking system did not change.
This step by the PBOC implies that Chinese authorities continue to take measures in an attempt to minimise the adverse impact of ongoing trade discussions. As a consequence of such short-term measures, long-term structural plans (e.g. deleveraging) are put on hold – temporarily.
Jair Bolsonaro, far-right lawmaker and presidential candidate of the Social Liberal Party (PSL), arrives to cast his vote in Rio de JaneiroLATIN AMERICA
MSCI Lat Am 2,633 +2.19%
Latin American stock markets were weak during the week, as the majority of the broad stock indices fell. The only exception was the Brazilian market, which gained 6.7% in USD, as the first round of elections approached on Sunday.
Jair Bolsonaro gained the greatest number of votes in the first round of Brazil’s presidential elections on Sunday. Fernando Haddad was second. The outcome matched projections of political polls that Mr. Bolsonaro and Mr. Haddad would progress through to the second round of elections. According to latest simulations, it will be a close call between Mr. Bolsonaro and Mr. Haddad in the second round. Latest polls indicated that Mr. Bolsonaro’s chances are somewhat higher, as his rejection rate decreased, while Mr. Haddad’s rejection rate significantly increased just before the first round.
Financial markets favour Mr. Bolsonaro over Mr. Haddad, as the former’s pro-market and pro-business rhetoric appeals to investors. Although the economic plans of Mr. Bolsonaro are not crystal clear yet, the fact that he has already enlisted an adviser who is in favour of privatisations and overhauling the pension and tax systems relaxes financial market players.
The second round of voting will be held on 28th October. Should Mr. Bolsonaro be able to strengthen his support, and ultimately win, Brazilian asset prices will bounce and sustain their gains. 
The announcement of a trilateral NAFTA agreement should help restore business confidence in the Mexican economy and stabilise Mexican asset prices, as visibility on the horizon ahead is always favoured over uncertainty. The new pact US-Mexico-Canada Agreement (USMCA) governing about USD 1.2tn in trade, reduces tail risks-related to external trade between the three parties. The deal includes a chapter for dispute settlements, a chapter focused on transparency for exchange rate practices, a recognition of Mexico’s sovereignty on hydrocarbons, stronger regional content rules for autos, a cap on Canadian/Mexican auto exports to avoid auto tariffs, a 60-day exemption in case of further national security tariffs, etc.
The agreement should grant support to the Mexican central bank’s policymakers, as members saw trade negotiations between the three parties as a potential source of uncertainty that could lead to persistent FX weakness and higher inflation. As talks have finally concluded, the MPC might shift away from its hawkish stance to a more neutral one.
Africa 9th October 2018AFRICA
MSCI Africa 730 -7.33%
The broad MSCI EFM Africa index fell 7.3% in USD, as the majority of the African markets sold off. The South African stock index delivered the weakest performance compared to its African peers, as the index lost 6.8% of its value in USD.
According to central bank officials in South Africa, the central bank will only intervene if excess volatility in the domestic FX market prevails and need to be addressed. The MPC continues to closely monitor developments in the domestic economy and in its financial markets. The Deputy Governor argued that the exchange rate acted as a shock absorber and adjustment mechanism.
The Deputy’s speech implies that the MPC favours a weaker currency to a higher policy rate, as the economy has been struggling to expand, as a higher policy rate could dampen economic growth.
Egypt’s non-oil private-sector activity shrank in September to its lowest level in nine months. The Emirates NBD Egypt Purchasing Managers’ Index (PMI) for the non-oil private sector weakened to 48.7 in September from 50.5 in August, putting it below the threshold of 50. It was the first time the sector had contracted since June. New export orders in September, due to the decline caused by weaker foreign demand for Egyptian goods and services. Despite the dip below 50, the outlook remains positive.
Tunisia’s annual inflation rate in September fell to 7.4% from 7.5% in August. The central bank of Tunisia expects an inflation rate of 7.8% this year and 7% next year. The International Monetary Fund (IMF) called for further monetary tightening by Tunisia to tackle the country’s record levels of inflation.
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