The Market Today
U.S. Moves Forward with Tariffs on Chinese Import, BoJ Less Optimistic About Inflation
by Craig Dismuke, Dudley Carter
Empire Manufacturing, Industrial Production, Consumer Confidence, and Kaplan: The solid U.S. data kept coming on Friday, with the latest signal of strength reported in this morning’s Empire Manufacturing Survey for June. The index rose unexpectedly to its highest level in eight months and fourth highest of the cycle. New orders were stronger, matching their highest level since September, and shipments jumped to a three-month high. Signals for the labor market were also strong, with indexes tracking the number of employees and length of the workweek rising from their May levels. The month-over-month changes bode well for June’s ISM. The ISM-weighted derived composite index rose to its highest level in at least a year.
At 8:15 a.m. CT, the Federal Reserve will release industrial production data (expected +0.2%) from May which will include an update on manufacturing output (expected unchanged) and capacity utilization (expected 78.1%). Industrial production output has been solid over the last several months and capacity utilization has trended higher despite some unevenness in manufacturing output.
At 9:00 a.m. CT, the University of Michigan will announce the results of its latest consumer survey which expected to show confidence recovered modestly in June after slipping for two months from its highest level since 2004.
At 12:30 p.m. CT, Dallas Fed President Kaplan will make comments from Fort Worth at an event that will include a Q&A session with the audience and later with reporters. Kaplan, whose recent public comments place him in the three-hikes camp for 2018, will be the first non-Chair official to speak about the Fed’s Wednesday decision.
Yesterday – ECB Sparked Volatility in European Assets That Pulled Down U.S. Yields: Treasury yields ended Thursday lower, tracking sharp moves down in borrowing costs of major European sovereigns. At first glance, the ECB’s Statement read hawkishly but the nuance of the changes and Draghi’s follow-up discussion ultimately left markets with a notably dovish interpretation (more below). Moves in European assets stood out in the global results. After rising as much as 11.7 bps before the ECB’s decision, the Italian 10-year closed down 6.3 bps, an 18 bp swing. The German 10-year yield fell 5.6 bps after rising as much as 3 bps earlier. More eye-catching was the plunge by the bloc’s common currency. Against the Dollar, the Euro sank 1.9% in its single biggest daily drop since Brexit. By the close, a Euro bought less than $1.16 U.S. Dollars, a critical support level over the last 12 months. Conversely, the tumbling Euro boosted the Dollar which had its sharpest rally since the same day in June 2016 and ended at its strongest level since November. Despite surprisingly strong U.S. economic data, the gravity of the European moves pulled Treasury yields lower. The 2-year yield fell 0.4 bps while the 10-year yield edged down 3.1 bps. A day after the Fed projected another two hikes this year and three more in 2019, the spread between 2s and 10s fell to 36.9 bps, a new low since 2007. Stocks finished mixed with the Dow down 0.1%, the S&P higher by 0.3%, and the Nasdaq outperforming with a 0.9% gain to a new all-time high.
Overnight – U.S. Moves Forward with Tariffs on Chinese Goods, BoJ Sees Less Inflation: The focus overnight shifted back to the trade relationship between the U.S. and China although investors were keeping an eye on this week’s divergent signals from policymakers at the world’s largest central banks. The White House announced it was moving forward with a 25% tariff on $50 billion of goods imported from China “that contain industrially significant technologies.” Such goods have become a major pawn in the ongoing trade dispute between the two countries. If China retaliates, which they have promised to do, the White House said it is prepared to up the ante with a second round of tariffs. According to Bloomberg, the tariffs will affect 1,102 different product and be put in place in two waves, the first of which will begin July 6 and be applied to $34 billion of goods. Chinese stocks were weaker and finished near their lowest level since August. U.S. equity futures and Treasury yields moved to their lows of the day following the announcement. After the Fed sounded upbeat Wednesday, raising rates and quickening their projected pace over the next couple of years, investors looked through Thursday’ ECB announcement of a likely end date for its QE program to the ifs, ands, and buts of the decision, punishing the Euro and sending European sovereign yields tumbling. The Euro recovered modestly overnight but still fetched less than $1.16 while yields their moved further to the downside. Overnight, the BoJ left policy unchanged and was more downbeat on inflation, proving it remains behind the pack of major central banks on a trek towards less accommodative monetary policy. Inflation in Japan had been trending higher but reversed in the last couple of months, leaving the core YoY rate at 0.7%.
ECB Set Expected Date for QE End and Opened Door for Rate Hike Next Fall, But Left Lots of Optionality: The ECB said it would taper its QE purchases in 4Q and end them altogether by 2019. The also opened the possibility for a rate hike after next summer. However, both of those decisions were made contingent on the incoming data and the specificity of the rate guidance removed hawkish speculation about a quicker rate increase. In addition, the Statement maintained a commitment to reinvest cash flows for “as long as necessary” and Draghi sounded less than hawkish in his press conference. He said there has been “substantial” progress made on inflation but “significant” stimulus was still needed to ensure it was sustained. There was no specific discussion as to when they’ll raise rates, he said, and while not expected “the Governing Council stands ready to adjust all of its instruments as appropriate.” The updated projections revised down growth expectations for 2018, consistent with Draghi’s admission that the recent soft patch in the Eurozone economic data could last longer than some expect. Adding in their forecast for inflation to run at only 1.7% through 2020, the overall decision seemed to indicate the ECB wants to remove accommodation but sees little reason for a rush to the exit.