The Market Today
U.S. and Mexico Reach Trade Agreement, All Eyes on Canada Now
by Craig Dismuke, Dudley Carter
Trade Deficit Jumps in July but Wholesale Inventories Rebound: The Advance Goods Trade Balance for July showed a significant jump in the monthly goods trade deficit from $67.9 billion to $72.2 billion. The $4.3 billion increase in the monthly deficit marks the largest increase since March 2015. The trade deficit shrunk an unusually large $82 billion in 2Q (annualized), boosting GDP 1.1% to 4.1%. As discussed when the initial 2Q GDP estimate was released, the boost from external trade was, and remains, unlikely to be repeated in 3Q. On the opposite side of the equation, July’s initial read on wholesale inventories showed a 0.7% MoM increase. Inventory accumulation actually shrunk $28 billion in 2Q dragging 1.0% from the GDP tally. It is expected that inventories will rebound in 3Q, perhaps boosting GDP sufficiently to offset the expected drag from external trade.
Canadian Trade Talks; Home Prices; Consumer Confidence: At 8:00 a.m. CT, the S&P CoreLogic Home Price Index is expected to show home price gains slow from 6.5% YoY to 6.4%. At 9:00 a.m., the Richmond Fed manufacturing Index is expected to weaken fractionally, as is the August report from the Conference Board on Consumer Confidence. Markets will also be paying attention to any headlines out of Washington where Canadian officials are meeting with U.S. officials to discuss a trade agreement.
Yesterday – Trade Deal Lifted Stocks on Hopes of Successful NAFTA Rewrite: U.S. stocks jumped at the open on an early headline that the U.S. and Mexico had reached a trade agreement that would alter some key provisions of NAFTA. While the details seemed to reflect minor changes (more below), Canada remained on the sidelines for now (although the country’s Foreign Minister was reportedly headed to Washington Tuesday to join talks), and the red tape of congressional approval was still uncut, the fact that NAFTA hadn’t simply been put through the shredder led to markets’ sigh of relief. The Dow ended up 1.0% and above 26,000 for the first time since February 1. The Nasdaq rose 0.9% to another all-time high close. The S&P 500 added 0.8% and notched a second consecutive record close. Under the hood, trade-sensitive sectors led the gains with materials companies out in front. Industrial companies also got a boost, helped out by gains in capital goods producers and transportation companies. Auto companies, a subsector of the consumer discretionary sector, outpaced all others with a 3.9% gain. Interest rates also played a role in the sector splits, with higher rates helping financials but hurting utilities and real estate. On the day, the 2-year Treasury yield rose 2.1 bps as the 10-year yield added 3.6 bps, lifting the 2s/10s spread off last Friday’s cyclical low of 18.8 bps. The trade developments drove the Dollar lower, with the greenback closing at its lowest level since August 1. Against the Mexican peso, the Dollar weakened 0.7% but closed off the lows. The Canadian loonie strengthened 0.5% against the Dollar.
Overnight – Less Trade Uncertainty Clears the Way for Modest Risk Gains: Global markets have shown less emotion towards yesterday’s news about a trade deal between the U.S. and Mexico. After strong gains and another record close in the U.S., equities in Asia were only marginally stronger and the Stoxx Europe 600 has given up early gains to trade just 0.1% higher. China’s CSI 300 was left out of the modest Asian gains after President Trump indicated during the announcement about the deal with Mexico that talks with China remained on hold. He said “They want to talk, …it’s just not the right time to talk right now [about U.S.-China trade], to be honest.” While there was less power behind the gains in Europe, the imprint from less trade uncertainty remained evident. Autos were a top performing sector, as were materials and industrials. In currencies, the Mexican peso added to yesterday’s gains against the Dollar and daily trends for Canada’s loonie portended positive developments from talks between U.S. and Canadian trade officials that begin later today. The Dollar weakened 0.4% against the Canadian currency to its lowest level since May 30. In the U.S., equity futures showed the major indexes should add to yesterday’s gains while Treasury yields inside of 30 years were holding around Monday’s closing levels.
Relief that USMFTA Means NAFTA Isn’t Completely Imploding: The White House announced a new United States-Mexico Free Trade Agreement (USMFTA) yesterday and now hopes to get Canada on board, replacing the reviled NAFTA. Without Canadian involvement, Congress is highly unlikely to ratify any new trade arrangement. Moreover, the USTR is negotiating under TPA (trade promotion authority) granted by Congress to renegotiate NAFTA, not to strike bilateral trade deals. As such, the subsequent threat from the President (and advisors) to penalize Canada with auto tariffs if they do not acquiesce to the new deal by the end of the week is a paper tiger and runs afoul of WTO rules. Nonetheless, free trade within the region is critically important to all three countries and Canada is now under the gun to become part of the deal. As for the details of the deal, it requires that 75% of an automobile be made in the three-country region (up from 62.5%), increases the share of auto workers subject to the $16/hour minimum wage requirement to 40-45%, limits companies’ and countries’ ability to quickly challenge national policies, and makes it easier for Mexican workers to join labor unions. The deal leaves agricultural products duty-free and does not address the recent steel and aluminum tariffs imposed by the U.S. All in all, the USMFTA is unlikely to move the economic needle, increases non-tariff trade barriers between the U.S./Mexico and North America/World, still needs Canadian involvement, must be ratified by Congress, and does not resolve the big challenge – trade with China.