Tuesday, June 18, 2019

Capital markets: "Draghi Ends Calm Ahead of FOMC, Sending the Euro and Yields Down"

From Marc to Market:
Overview: ECB President Draghi underscoring the likely need for more stimulus broke the subdued tone as market participants took a "wait and see" stance ahead of tomorrow's FOMC decision. Draghi's comments sent the euro through $1.12 for the first time in two weeks and drove European bonds yields to new lows. Asian equity markets were mostly higher, with the exception of Japan. As order returned to Hong Kong, it was the Hang Seng that led the region with a little more than a 0.9% gain. European equities picked up after Draghi's comments, and the Dow Jones Stoxx 600 was about 0.8% higher in late morning turnover, led by the interest-rate sensitive utilities sector and health care. Financials were struggling under the prospect of still lower rates. Despite concerns about the "doom-loop" of European banks exposure to their sovereign bonds, the rally in bonds has done little for bank shares. Consider that with today's 10-13 bp decline in Italy's benchmark 10-year yield, the bank shares are lower for the fourth session in the past five. Over the past month as Italy's bond yield has fallen 50 bp, the bank share index is off roughly 11%. European benchmark yields outside of Italy are off around five to seven basis points with most hitting new record lows. US shares are trading higher, and the 10-year yield has slipped a couple basis points to nearly 2.05%. The dollar is firmer against most of the major currencies save the Japanese yen. The lower rates in the high-income countries are reigniting the yield hunt into emerging market and helping to lift the liquid, accessible and volatile currencies, like the South African rand and Turkish lira. East and central European currencies are being dragged lower by the euro. The Chinese yuan is practically unchanged (~CNY6.9265).

Asia Pacific
The minutes from the Reserve Bank of Australia's meeting earlier this month underscored the dovish bias.
Additional stimulus was deemed "more likely than not." The central bank appeared to call on the government (fiscal policy) to bolster efforts to support the labor market. It noted that mortgage arrears were back near 2010 highs, but not spurring systemic stress. Separately, Australian reported that its index of house prices fell 3% in Q1, which was a bit more than expected and takes prices down 7.4% year-over-year. It was the fourth consecutive quarter that the year-over-year rate contracted and it is doing so at an accelerated pace. In Q1 18, house prices had gained 6.8% year-over-year.

In China, new house prices rose 0.71% in May for an 11.3% increase from a year ago. New houses prices have risen by an average of 0.62% in the first five months of 2019. In the same period a year ago, house prices averaged a monthly gain of 0.48%. China manages both supply and demand, and it appears that the rise in house prices may be more a function of supply constraints rather than robust demand.

The dollar has held above JPY108 since last Monday. There is only a $530 mln option struck there that is set to expire today, and larger options there will expire in the coming days, including $2.7 bln tomorrow and $1.3 bln on Thursday. The first target of a break is JPY107.75, but our reading of the charts suggests an objective near JPY107. The dovish RBA minutes have sent the Australian dollar to new lows (~$0.6830) since the January 3 flash crash that saw it drop to around $0.6740, which is next important target. Previous support near $0.6865 may become resistance.

Europe
Draghi and a collapse in German investor confidence have stirred the foreign exchange and debt markets....
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