… and it’s gone!
The equity bull story is suddenly looking quite ropey. There is no trade truce between China and the US, green shoots have been wilting in Asia (both Chinese PMI and money growth have disappointed, and the equity slump suggests further PMI downside) while geopolitical risks have been on the rise.
North Korea is back firing “unidentified projectiles”, and Iran is threatening to step up uranium enrichment. Turkey is doing whatever Turkey is doing, and Venezuela ain’t over. The US is not only boating about in the South China Sea, it has also deployed a carrier strike group to the Middle East presumably to mess with the Iranians.
Chart 1: Asian green shoots may wilt further following stock market slump
This has naturally left equities quite vulnerable, especially considering that profit-neutral valuation of the US equity market is close to an all-time high. Indeed, in our latest Nordea View we argued that equities were “priced for perfection”. Short-term support in the S&P500 could, however, be looming in the area of the four previous highs (2800-2825). This is below a gap in the index around 2840.
Chart 2: S&P500 – maybe gap at 2840 needs to be filled before support is found
In fixed income, asymmetry is the rule of the game. The central bank “put” is very much alive, as major central banks have shifted dovishly in various ways. The shifts suggest asymmetric responses from central banks and from the fixed income market to economic or financial developments. Significant setbacks in data or a tightening of financial conditions would likely prompt central banks to deliver more easing. In contrast, stronger activity or higher inflation should not have substantial influenceand would be welcomed rather than fought by central banks.
Chart 3: US 10Y yield – downside fairly limited
While academic economists are prone to argue that tariffs do not necessarily motivate lower interest rates, we think risks are skewed in that direction if macro sours or financial conditions tighten substantially. Insofar the 10y yield tracks front-end pricing as it has done since October last year, a market expecting two might drag the 10y yield down to ~2.30%. More than that would require truly adverse macro outcomes which appear unlikely.
Chart 4: EUR swaps – firmly stuck in its downtrend
In the In the Euro area, we find the tiering enthusiasm somewhat overdone, which suggests slightly higher Eonia rates in the very front. In the bigger picture, however, both the ECB as well as Euro-area macro will likely need to surprise hawkishly and positively to change recent fixed income trends.The downtrend in EUR 10y swap rates since October remains intact, and expectations of a dovish ECB decision in June are likely to keep it as such for now.
Italian BTPs have recently widened vs German bonds following some tough rhetoric against the European Commission’s latest forecast from Italy’s Salvini. It seems likely that Italy will come under increasing pressure from the EC later this year, but first we likely need a change of guard (after the EU parliamentary elections later in May).
What is most important in the week ahead?
Even if hard data such as Euro-area Q1 GDP or US industrial production for April were to surprise positively over the next few days, this will matter only a little. The numbers were gathered before the latest escalation of the trade war and could hence be considered “moo points”. A cow’s opinions!
Trade rhetoric will likely be the key driver of risk sentiment in coming week (will there be a deal, or will China retaliate, and if so: how?), followed by more forward-looking activity indicators.Before looking at numbers of global importance, we need to get the next round of Swedish inflation numbers out of the way. Swedish April inflation is due to be published on May 14.
Chart 5: The Riksbank – flogging a dead horse since 2015
With the Riksbank dead-set to push Swedish inflation to the 2% target, and the SEK at its weakest level vs the EUR in a decade, the April inflation number is likely to seal the fate of the SEK going into the summer. For all of the Riksbank’s massive stimulus, negative rates, a wild balance sheet expansion and the trade-weighted SEK seeing record-weak levels again and again, Swedish core inflation has averaged only 0.1 percentage points more since 2015 than its long-term average. We expect a CPIF inflation reading of 2.1% for April, in line with the Riksbank’s forecast, but risks are probably tilted to the downside. Swedish April inflation preview: Easter break
Chart 6: ZEW expectations has been improving on the back of a weaker EUR
Then there’s Germany’s ZEW expectations on 14 May. ZEW expectations have been improving on the back of a weaker EUR, and similar green shoots are visible in the Sentix survey. Much more important surveys such as Ifo and PMI are yet to show similar effects. A decent chunk of the positive impulse from a weaker EUR is likely to have been “priced-in” already by the ZEW number, and then there’s the reignited trade war and the associated pick-up in volatility. We suspect the figure could disappoint.
Chart 7: Higher rates usually drag down ISM after a long delay
In April, the US ISM manufacturing gauged finally slumped materially. For quite some time we have been arguing that past rate hikes and dollar strength will eventually show up in weaker US manufacturing sentiment, which has remained remarkably robust for quite some time. Our analysis suggests that further deterioration in the ISM manufacturing gauge is likely over time, but it could be that the sharp slump in April came as a belated effect after China’s “import stop”. As a result, we can’t rule out a temporary improvement in May. The New York “Empire” Fed (May 15) and Philadelphia Fed (May 16) surveys will provide clues as to where ISM manufacturing will be heading (next release June 3).
Chart 8: We expect trend weakness in US manufacturing sentiment, but a temporary rebound can’t be ruled out
First quarter GDP growth was surprisingly resilient in China, the Euro area and the US. Some of this reflect a build-up of inventories, which risks a growth setback in the next quarter or two. But an inventory build-up is not necessarily a huge problem if China or Fed stimulus manages to goose demand enough to quickly absorb lofty inventories. In this light the upcoming US retail sales figure may be important.
Chart 9: US retail sales likely robust in April
Credit card data indicate a robust continuation to US retail sales in April, and possibly a beat vs consensus expectation, which if it materialises might dent recently budding growth fears a touch.
Chart 10: Treasury’s GCA assumption implies Stealth QE of ~300bn
Finally, we wish to highlight the coming stealthy quantitative easing from the US Treasury. Relating to the now-binding debt ceiling, the US Treasury forecasts a drawdown of its General Cash Account (GCA) in coming months. The process may add almost USD 300bn of bank reserves (electronic dollars) to the banking system until the end of September. This amount is roughly three times as much as the Fed’s quantitative tightening until the end of September and can be seen as a form of temporary QE. After a similar shift in 2017, the dollar soon started to swoon, while Libor-OIS compressed and EURUSD xCcy basis swaps headed north.
Because of the debt ceiling, the US could be heading towards technical default later this year (after the so-called X-date). Recent tax receipts will make it possible to more precisely pinpoint this X-day in coming weeks, which will also influence the timing of the drawdown of the GCA.