The Market Today
Worker Shortage Hits Manufacturers; China’s Stealth Trade Weapon
by Craig Dismuke, Dudley Carter
Factory Orders, Durable Goods Revision, Auto Sales: Today’s calendar brings mostly secondary reports including May’s Factory Orders report at 9:00 a.m. CT and the final revision to May’s Durable Goods Orders report. Already, the Durable Goods Orders report showed better-than-expected growth in business investment by way of the big April revisions. Of primary importance today will be the June auto sales data. Auto sales are expected to tick up from 16.8 million units (annualized) to 17.0 million. As of April, GM no longer participates in the monthly reporting, having opted for providing sales figures quarterly. As one of the most significant contributors to the data, it devalues the importance of today’s figures.
SIFMA has recommended an early close for the bond market today in anticipation of tomorrow’s Independence Day holiday.
Yesterday – Stocks Staged an Afternoon Recovery, Treasury Curve Flattens to New Cycle Low: U.S. stocks struggled most of Monday, but an afternoon climb pushed the major indexes to a positive finish in the first trading day of the third quarter. The S&P 500 dropped 0.7% in the first few minutes of trading amid a return of trade concerns that had weakened global equities overnight. But the midday turnaround left the index 0.3% higher at the close. Tech companies closed atop the index and the financials sector gained for just the second time in 16 sessions. Energy companies were the largest drag and ended the day down 1.6%. Commodities were weaker as contracts fell across the energy, metals, and agriculture complexes. Brent (-2.4%) and U.S. WTI (-0.3%) both dropped after President Trump tweeted that he had asked to King Salman of Saudi Arabia for an even larger increase of OPEC’s production caps than the organization had announced just over a week ago. Treasury yields, which had moved lower overnight, reversed as stocks recovered and after the ISM’s manufacturing index surprised to the high side of estimates. The 2-year yield rose 2.0 bps to 2.55% while the 10-year yield settled up 1.1 bps. Despite the directional reversal, the overnight flattening trend held. The spread between the 2-year and 10-year yield reached a new cycle low of 31.9 bps. The Dollar was stronger but halved its daily gain late in the session as the Euro bounced on reports of positive developments around infighting among members of the German governing coalition.
Overnight – Tone Turns Upbeat as Asia Stocks Recover: Another shaky start defined the first several hours of the Asian session but a more happy-go-lucky tone took over in the afternoon and the global scene has improved from there. Chinese assets have become a mainstay of the market news cycle as the July 6 deadline for U.S. tariffs on Chinese goods approaches. China’s yuan remained a popular topic overnight as the PBOC set its fixing rate as 6.65 yuan per U.S. Dollar, the weakest since August 2017. That spurred analysts to continue the debate of whether the recent and rapid depreciation is a laissez-faire trade retaliation or simply an acknowledgment of divergent economic situations. A couple of prominent PBOC officials spoke overnight pledging stability and implying it was the latter. Those remarks helped both the yuan and Chinese stocks recover into the close. European markets opened stronger as tensions eased in Asia with most national indexes up more than 1% and all sectors of the Stoxx Europe 600 in positive territory. U.S. equities are firmer and Treasury yields rose and fell with the Chinese currency, with the 10-year yield climbing back to 2.88% (+0.5 bps) after earlier falling 2.85% (-1.8 bps). The 2-year yield was up 0.8 bps at 2.56%, and yes, the spread between the two slipped to a new cycle low.
As an aside, China’s yuan has now dropped from 6.28 yuan per Dollar to 6.65, a 5.9% drop since trade rhetoric began in early March. Given that China exported $505.5 billion in goods to the U.S. last year and the U.S. exported $129.9 billion to China, the currency devaluation could already have a $37 billion impact on trade (just taking into account the first order currency impact). While China’s stock markets have been hit harder than U.S. markets by the tariff announcements, China may already be winning the trade battle through a more stealth form of trade protection.
June 2018 Monthly Review: The Treasury curve flattened to a new cycle low in June as strong data fueled expectations that growth could top 4% in 2Q for the first time since 2014 but longer yields were stagnant in response to other uncertainties. The 2-year yield added 10 bps while emerging market concerns, a dovish ECB decision, and renewed angst around trade weighed on global equities and kept the 10-year yield essentially flat. The U.S. said it would move forward with tariffs on $50 billion of Chinese imports which pushed Chinese equities fell into a bear market and the yuan to a more-than-six-month low against the Dollar. Oil was a major focus, as an OPEC announcement for increased supply failed to ease pricing as lower U.S. inventories and supply disruptions in Canada, Libya, and Iran proved more impactful. Click here to view the full monthly review.
Construction Spending Rose on Stronger Private Residential, Government Outlays: Construction spending rose 0.4% in May, 0.1% less than expected, and there was a mix of revisions to the April (smaller gain) and March (smaller decline) data. On balance, the most recent trend is only slightly softer than expected. Private residential investment, which accounts for just over 40% of total construction spending, rose 0.8% MoM and helped absorb a 0.3% decline in Dollars spent on nonresidential projects. Within the residential activity, all three categories improved over April levels: single family homes +0.6%, multi-family housing +1.6%, and home improvement +0.9%. In the public sector, spending on non-residential structures, which account for essentially all government spending, extended its strong recent run. For the three months ended in May, total government construction spending rose at a greater-than-17% annualized pace, thanks in large part to a skyward trendline at the state and local level.
Slower Supply Chain Boosted Manufacturing PMI to Second Strongest Since 2004: The ISM’s manufacturing index rose unexpectedly in June, primarily because of a notable slowdown in supplier delivery times. The headline PMI, which was expected to decline marginally to 58.5, moved up from 58.7 to 60.2 and matched its second best level since 2004. Four of the five components that drive the headline saw only minor changes. The indexes tracking production (best since January) and inventories (second lowest of the year) were slightly stronger while new orders (second highest in four months) and employment (below the 12-month average) ticked lower. But the 6.2-point increase in the supplier deliveries index accounted for over 80% of the PMI’s net monthly change. That index, which tracks how long it takes manufacturers to receive materials and supplies for production, jumped to its second highest level since 1969. Slower delivery times are generally associated with a brisker pace of economic activity. And while there were a couple of mentions of strong economic activity in the comments section, most of the space was saved for complaints and cautions. A couple of areas that multiple respondents vented about the most were multifaceted concerns around tariffs and a shortage of transportation capacity.