Capital Markets: "Hopes of De-Escalation Help Markets Stabilize"

From Marc to Market:

Overview: The Iranian retaliatory missile strike on Iraqi-bases housing US forces initially sparked a dramatic risk-off response throughout the capital markets. The muted response by the US coupled with signals from Tehran that it had "concluded" its proportionate measures saw the markets retrace the initial reaction. It was too late for equities in the Asia Pacific region, and several markets (Japan, China, Korea, Malaysia, and Thailand) fell more than 1%. Europe is faring better, despite the disappointing decline in German factory orders. The Dow Jones Stoxx 600 is off marginally in late morning turnover, while US shares are trading fractionally higher. Bonds initially rallied strongly, with the US 10-year yield tumbling 12 bp to 1.70% at the extreme. Now it is now back at 1.80%, and European yields are slightly higher. In the foreign exchange market, the yen rallied on the initial news, with the dollar dropping to around JPY107.65. The greenback has subsequently recovered in full, and in the European morning was back to the JPY108.40-JPY108.50 area. Overall the dollar is little changed against the major currencies. While many emerging market currencies are lower, the South African rand, the Mexican peso, and Turkish lira are among the firmest. Gold had shot up to $1611 but is back near $1580 in Europe, and February WTI has surrendered the gains that had carried it to around $65.65 and is trading around $63.

Asia Pacific
While many countries in the Asia-Pacific region saw their December PMI readings increase, Japan stands out as an exception. The December composite PMI fell to new cyclical lows in this relatively new time-series for Japan of 48.6 from 49.8. Once again, Tokyo has increased the tax on consumption, and the economy weakened. Yes, there are other challenges, such as the typhoon, and slowing global trade, but tax stands out as directly self-inflicted. Increasing the VAT was once encouraged by multilateral lenders as a way to reduce the government's debt. Yet, just as we have learned that the symbol and what it is supposed to represent (symbolize) can be separated, so too did hiking the VAT take on a political life of its own distinct from its economic purpose. Earlier today, Japan reported real cash earnings were down 0.9% year-over-year in November, matches the year's average. The average over the past five years (60 months) and 10-years (120 months) is -0.3% and -0.4%, respectively. The time series suffers from some sampling issues. Attempting to correct for these produces a better reading, the base pay also weakened to its lowest level since May.

The dollar spiked to JPY107.65 in Asia, its lowest level since the first half of October, and quickly returned to the JPY108.20-JPY108.50 range. The 200-day moving average is found near JPY108.60, near yesterday's high, and that might be a sufficient cap ahead of US President Trump's statement expected later today. Over the slightly longer-term, the technical indicators suggest the path of least resistance for the dollar is higher. The Australian dollar lost a little more than 1% yesterday, and the losses were initially extended today to $0.6850, but it has stabilized. It is still threatening to extend the losing streak to the sixth session. A jump November building approvals (11.8%) was overshadowed by the geopolitical developments. A close above $0.6860, the (61.8%) retracement objective of the rally from the late November lows (~$0.6750) would be a preliminary sign that the selling pressure may have exhausted itself. Also lost in today's developments were better than expected Q4 earnings from Samsung that provides more evidence that the semiconductor overhang has been absorbed and prices have begun to firm. The Chinese yuan is little changed on the day after strengthening nearly 0.4% yesterday. It remains near its best level since early August.

Europe
Germany's November factory orders badly missed market expectations for a small rise and instead fell by 1.3%, the largest fall since July. Bulk orders seemed to be the driver, but foreign orders for capital equipment also fell, and consumer goods orders were little changed. The Bundesbank warned that the German economy likely stagnated in Q4 19. If there is any support for our contention that Germany has passed the worst, it may be that the October series was revised to show a 0.2% gain rather than the 0.4% contraction initially reported. Taken together, it means that factory orders have been essentially flat int he three-months through November....

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