E Markets: Pendulums

The best performers last week in G10 were AUD and NZD up 1.6% – both reflect the renewed faith that global growth can be saved by the simplicity of a Trump deal. CNY led the winners in emerging markets as the PBOC pushed the fixes with the Yuan up 1.55% for the week to 6.76 – with 6.71-6.73 the next key support.  If the focus last week was on positive US-China talks, the week ahead is about Europe with UK Brexit and ECB Draghi speech key event risks. Throw in that the Greek Tsipras government likely faces a confidence vote and on-going French protests– all put the EUR/USD relationship back in play after the pendulum of risk moved from despair to euphoria in two weeks. Given the weakness of the European data and the messy politics ongoing, ECB Draghi has a thin wire to balance for investors as they face the liquidity trap. Watch 1.1640 and 1.1300 for the new swings and extremes 1.12-1.17 into the ides of January. 

A stronger USD next week may bring back the negative correlation to S&P 500 

The bounce back in oil prices may be the other problem and issue for Europe and the US as the inflation noise of energy may proves less helpful in 1Q just as it did in 4Q. Emerging Markets may be moving off the current account/real rate focus and back to commodities accordingly.  

India INR off 1.25% was the notable loser last week with oil a key part of the story, politics, RBI policy was the rest. Mexico MXN gained 1.5% with the AMLO financial reform push, the IPO tax cut from 35% to 10% being the most notable driver. Brazil gained 2% with pension reform hopes key. The finer point of tracking FX markets as a barometer for global asset flows reveals a richer diversity of outcomes in the last week than just a return to risk-on and risk-off thinking, making the pendulum analogy less important and the wrong focus for the awful eight risks into the week ahead. 

Thematically, markets have been stuck on China, European politics, Brexit and US politics. But there are more clocks ticking with many different time lines for potential blow-us and surprises than the present tape for global equities suggests. 

Higher oil prices hits FOMC/ECB patience

Themes: 

  • US/China Talks: More is less. US Treasury Secretary Steven Mnuchin told reporters Thursday night that Vice Premier Liu He, the most senior economic policy adviser to President Xi Jinping, would travel to Washington later in January to continue trade negotiations. The talks held in Beijing last week were seen as constructive but insufficient to get the deal with intellectual property and technology transfers still the sticking points. 
  • China Growth: Pump priming dry wells. The hope that the PBOC RRR cut and the fiscal stimulus plans from Beijing will counter the current slowdown continues. The risk/reward of unwinding reforms is not obvious and the fear that even with a trade deal growth won’t reignite extends with the data in the week ahead crucial to that thinking. 

  • FOMC Patience: Expensive Powell Puts. The flip-flop of the FOMC Chair this week was seen as troubling to many Fed watchers as the bowing of the central bank to market turmoil and fears regardless of underlying economics makes the loss of forward guidance and the shift to data dependency create rather than smooth market volatility. The cost of the Powell S&P 500 puts is going to be higher than those of past Chairman. 
  • US Shutdown: 23 Days and counting. The longest partial government shutdown in history continues with no end in sight. Some argue this doesn’t matter as it’s less government, others see it beginning to hit the pipeline of work – from IPOs to ETFs and beyond.  The longer the shutdown lasts the more impactful it becomes. 
  • 4Q Earnings: Forward guidance key. Bank earnings from JPM and C start the week, with 2018 a banner year but outlooks for 2019 are key.  Expectations for 2019 are modest and anything supporting the bounce back in risk will be seen as positive. The 4Q earnings rate so far is 10.6% according to FactSet with 4% of the S&P500 reported while estimates were for 12.3% on Dec 31, 2018. The number of negative guidance issued rose to 72 – still below the 5Y average of 76. 
  • EU Politics: Yellow Vests and more. The French protests ahead of a key debate this weekend make clear Macron is still in trouble. The brittle truce of Italy with the EU on its budget is at the “pretend” stage for investors, while the May EU elections are heating up with Poland and others leading anti-EU struggles over spending, immigration and more. 
  • Brexit:No way out.  The delay expectations support GBP and May even as next week seems to be a real deadline and a trigger for uglier politics ahead. 
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