Tuesday, July 24, 2018

Capital Markets: "China Turns To Domestic Stimulus, Weighs on Yuan but Lifts Stocks"

From Marc to Market:
Following a record injection via the medium-term lending facility yesterday, China's officials unveiled a set of policies designed to support the weakening economy that soon could face a substantial drag from US tariffs. The effort focuses on boosting domestic demand. Measures include targetted tax cuts and accelerating new infrastructure. This is a clear shift away from the deleveraging campaign, and it appears that the State Council dropped the "neutral" characterization of monetary policy.

Chinese equities rallied. The Shanghai Composite rose 1.6% for a third consecutive rise. During which time, it is gained nearly 4.75%. Chinese shares that trade in Hong Kong rose 2.25%. It is the third day of gains as well. Chinese bonds weakened. It seems to be partly a function of the shift in Chinese policies, but also part of the global movement. The 10-year bond yield rose five basis points to 3.57%, the high for July.

Most Asian equity markets rallied. The MSCI Asia Pacific Index rose 0.65%. The beaten up KOSPI participated, gaining 0.5%, its largest gain in nearly two weeks. Foreign investors bought $165 mln of Korean shares, also the most in two-weeks offsets in full the sales this month. The solid performance in Asia has lifted the MSCI Emerging Market Index (+0.7%). It is near the upper end of this month's range.

After selling off sharply over the past two sessions, Japanese Government Bonds stabilized today. The yield of the 10-year benchmark was little changed at a little more than seven basis points. Although the 40-year bond that Japan auctioned today saw demand more than three-times the supply, some expressed disappointment with the auction, which produced a slightly lower yield than anticipated.

The poor flash manufacturing PMI (51.6 vs. 53.0 in June), the weakest since November 2016 underscores market suspicions that the BOJ wants to make its unorthodox policies orthodox, which means sustainable and minimize the squeeze on banks caused by the flat curve. At the same time, the volatile market reaction to even whiff of change spurred dramatic price action, and this may encourage the BOJ to bide its time at next week's meeting, with an eye toward the meeting at the end of October.

The reaction in the currency market to these developments is mixed. The yen is flat to slightly stronger, consolidating its recent surge. The dollar has not yet managed to retrace even the minimal 38.2% of the drop spurred by Trump's comments, which is found near JPY111.65. There is an $850 mln option at JPY111.75 and $560 mln at JPY111.15 that expire today. The dollar was fixed higher against the yuan, and the dollar is at new highs for the move. The offshore yuan is the weakest in the Asian currency complex, falling 0.4%, nearly twice the decline of the onshore yuan. After the yuan, the Korean won was the weakest in Asia, easing 0.3% near the year's low....