Don't Confuse Market Relief With Optimism
(Bloomberg Opinion) -- The S&P 500 Index reached a milestone Monday, rising to its highest point since early November while recovering all of December’s harrowing plunge. Many pundits said the rally reflected optimism that the U.S. and China will come to an amicable agreement on trade after President Donald Trump postponed the date for boosting tariffs on Chinese imports. Perhaps the more likely reason was relief.
The move really means that the Trump administration is postponing higher taxes on Americans by not doubling tariffs on some $200 billion of Chinese goods at a time when U.S. economic growth is rapidly decelerating. A government report on Thursday is forecast to show that gross domestic product slowed to a 2.4 percent annualized rate in the fourth quarter from 3.4 percent pace in the third quarter and 4.2 percent in the second quarter. Indexes compiled by the Federal Reserve Banks of New York and Atlanta that attempt to track growth in real time show GDP this quarter expanding at a less than 1.5 percent rate. Some strategists, such as those at Bank of America, say the markets will come to realize that continued tariff postponements without any sign of meaningful progress would just extend the uncertainty. Although Trump said the U.S. and China are “getting very, very close” and that a summit with Chinese counterpart Xi Jinping could be in the offing, he also tempered that optimism by both saying a deal with China might happen fairly soon or may not happen at all. That may help explain why the S&P 500 spent most of the day parings its gains, closing up just 0.12 percent after rising as much as 0.75 percent.
Moody’s Investors Service summed up the hefty challenges that still remain. “While some compromise may be reached between the U.S. and China on certain trade matters, the process is unlikely to be smooth and the U.S.-China relationship should remain contentious, swinging between compromise and conflict, and involving frictions not only on trade, but also on technology, investment and geopolitics,” Marie Diron, a managing director for sovereign risk at Moody's wrote in a research note Monday.
BOND TRADERS AREN’T IMPRESSED
For reasons that remain unexplainable, the stock market continues to ignore the message being sent by the world’s ultimate risk-free assets: U.S. Treasuries. Despite the good feelings permeating equities this year, the bond market can’t seem to shake off the blues. For example, yields on 10-year Treasuries rose all of 1 basis point Monday to 2.67 percent. Yields on all Treasuries ended last week at an average 2.59 percent based on the Bloomberg Barclays U.S. Treasury Index. That compares with 2.61 percent at the end of 2018 when the consensus was that the global economy was about to fall off a cliff. “The stubbornness of rates remaining range-bound is informative as to just how significant of a bearish risk to the Treasury market a grand compromise with China has always represented, though to be clear the announced delay does not equate to such an agreement, rather a ‘we’ll see’ mentality,” the top-ranked rates strategists at BMO Capital Markets wrote in a Monday research report. The U.S. is not alone. Yields on government debt from major economies globally ended last week at 1.29 percent, versus 1.33 percent at the end of December. The economists at Citigroup wrote in a note over the weekend that they had no choice but to lower their global GDP growth forecast for 2019 to 2.9 percent from 3 percent.
GIVE THE YUAN ITS DUE
China’s yuan usually gets overlooked when it comes to the list of reasons why the global stock market has staged such a stunning rebound this year, but it shouldn’t. The yuan has appreciated some 2.83 percent this year to its strongest level since July. At a recent 6.6891 to the dollar, the currency is moving further away from the critical 7 per dollar rate that it approached in late October, spooking global markets. That rate was seen as likely sparking a capital flight from China, throwing growing global markets in disarray. But now, no one is really talking about that anymore. Perhaps more than the trade talks with the U.S., the yuan has appreciated as authorities signal they will ramp up their stimulus efforts to keep the local economy from slowing much further. The government’s evolving stance was underscored by President Xi Jinping’s call for stable growth late last week, while on Monday the banking regulator said the deleveraging push had reached its target, according to Bloomberg News. China’s economy likely bottomed in the fourth quarter, and strong credit growth in January may provide further stimulus, China International Capital Corp. chief economist Liang Hong wrote in a Feb. 24 note. Economists surveyed by Bloomberg see growth slowing to 6.2 percent in the second quarter and remaining at that pace for the rest of the year.
EMERGING-MARKETS SCARE THE SHORTS
The turnaround in the yuan has certainly given emerging markets a boost. The MSCI Emerging Markets Index of equities rose on Tuesday to its highest level since the start of August. Inflows to exchange-traded funds that buy stocks and bonds of developing nations more than tripled to $1.1 billion in the week ended Feb. 22, according to data compiled by Bloomberg. Almost $400 million went to Chinese and Hong Kong assets. At the same time, short interest on the Vanguard FTSE Emerging Markets exchange-traded fund slumped to the lowest level since December 2012, according to Bloomberg News’s Aline Oyamadato, citing Markit data. Here, too, investors are being a tad too complacent, at least judging by Citigroup’s latest outlook. “Our fundamental framework remains unchanged with the tailwinds to growth from fiscal stimulus and accommodative policy fading and being offset by strengthening headwinds in the form of trade tensions and episodically tightening financial conditions,” the Citigroup economists wrote. “This sits against a backdrop of a maturing business cycle in which resilience to future shocks is being eroded.”
WHEN TRUMP TWEETS, OIL LISTENS
The one area of the markets where Trump’s tweets seem to have the most impact is commodities. West Texas Intermediate futures tumbled as much as 3.81 percent in their biggest slide since December after Trump tweeted that prices are too high and called on OPEC to “relax and take it easy.” He’s probably not wrong, as oil had risen to $57.81 a barrel on Friday, the highest since November and up from last year’s low of $42.36 in December. Still, prices have a ways to go before exceeding their high of $76.90 in early October. The rebound came after OPEC and its allies started a new round of output cuts last month to avert a surplus being created by record U.S. shale-oil output and fragile global fuel demand, according to Bloomberg News’s Grant Smith. Smith notes that rising oil prices are an obstacle for Trump as he exerts diplomatic pressure on two major OPEC nations: Iran and Venezuela. The dilemma OPEC faces is whether to suffer through a rout in oil prices that batters their export-dependent economies or defy Trump, who could enforce legislation that shakes the group to its foundations. Nevertheless, traders may want to consider the idea that Saudi Arabia may insist that, if the U.S. genuinely fears a supply shortage, it should tap its emergency supplies, according to Olivier Jakob, managing director at consultant Petromatrix GmbH in Zug, Switzerland. “Saudi Arabia is probably going to call Trump’s bluff and ask the U.S. to use its Strategic Petroleum Reserve instead,” said Jakob.
A slew of U.S. housing data lands on Tuesday. Just because it’s the end of February and the reports cover December doesn’t mean the data should be dismissed for being “old.” In fact, there’s the potential for the data to come in worse than forecast, given the recent data showing retail sales fell in the most in nine years in December. If consumers weren’t spending money on holiday gifts, they sure weren’t spending it on big ticket items such as housing. First up is housing starts, which the government is forecast to say fell 0.2 percent in December after a surprising 3.2 percent gain in November. Next, the Federal Housing Finance Agency is expected to say that its house price index jumped 0.4 percent in December, the same as the previous month. And finally, the S&P CoreLogic Case-Shiller report is forecast to show that home prices in 20 U.S. cities increased by just 0.3 percent, bringing the 12-month gain to 4.50 percent, which is the smallest since January 2015.
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This column does not necessarily reflect the opinion of the editorial board or Bloomberg LP and its owners.
Robert Burgess is an editor for Bloomberg Opinion. He is the former global executive editor in charge of financial markets for Bloomberg News. As managing editor, he led the company’s news coverage of credit markets during the global financial crisis.
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