Counterpunch!

Counterpunch!  Risk assets were trounced yesterday in response to some aggressive moves by China.  China fought back and traders finally opened their eyes to the reality of a trade war.

 

MY TWO CENTS

 

  1.  It’s not magic, it’s manipulation.  As reported here yesterday morning, China hit back with a one-two punch by suspending agriculture purchases from US companies and allowing its currency, the Yuan, to fall to its lowest levels in over ten years.  Currency markets are highly liquid and generally (very generally) reflect the flows of funds that move between countries as investors seek the strongest, highest yielding investments.  Strong economy, high yielding bonds in country A?  Sell country B investments, convert currency to country A and purchase country A investments.  The increased demand for currency A pushes it up, thus strengthening the currency.  OK, so what, isn’t a strong currency good?  It is if you purchasing things from countries whose currencies are weaker, but the other edge of the double-sided sword is that countries with weaker currencies will purchase less goods from the country with the stronger currency as goods will cost more after conversion.  This is precisely why Trump is particularly sensitive and vocal about his disdain for a strong Dollar as he believes (as theory states) that a weaker dollar will help sustain the current economic expansion by keeping exports up.  Imagine, now, that if you wanted a weaker currency in order to goose your exports and stimulate your economy, what could you do if Twitter rants are not working?  Well, you can sell a lot of your own currency in the open market and weaken it, right?  Wrong!  That is considered currency manipulation and the international trading community sanctions nations that do it.  There are some exceptions in which a country is allowed to act in the open market with its currency.  In order to keep a stable currency, countries are able to buy and sell in order keep it within a reasonably stable band thereby minimizing currency risk in international trade.  In China’s case, the PBOC sets a fixing level daily and conducts open market operations to keep the Yuan on or close to the fixing level.  As the Chinese economy has been suffering there has been market pressure on the Yuan, so the PBOC has been buying Yuan in the open market to prop it up, which is acceptable.  Yesterday, in a move to retaliate against the latest round of announced tariffs, the PBOC allowed its currency to free fall through some important psychological levels by curtailing its purchases.  Trump’s response?  A tweet calling China a currency manipulator.  WHILE YOU SLEPT the US Treasury officially labeled China as a currency manipulator, which can bring some more economic sanctions… to add to the mounting pile.

 

  1.  Next up: more turbulence.  Yesterday’s market move is proof that stocks are on shaky ground.  Trade jitters plagued the markets for much of 2018 causing stocks to sell off when things looked dim only to rise up on hopes of a resolution, usually sparked by a statement by the Administration.  Words, not actions, gave hope to traders despite obvious signs that a real deal with China was not likely.  In response to a weakening global economy brought on by trade tensions, the Fed shifted its policy to dovish which served to draw attention away from the trade war and onto monetary stimulus.  The Fed’s dovish talk kept markets satisfied allowing the S&P500 to rise some 20% despite a clearly weakening global economy, failing trade talks with China, and slowing earnings growth.  The Fed finally cut interest rates, as promised, and the market’s reaction was mixed, initially selling off.  Investors were hoping for something more aggressive like a larger cut or some super dovish talk from the Chairman, and they got neither.  Before the rate cut could settle in, President Trump threw a spanner into the works with a surprise announcement of a new 10% tariff due to affect consumer goods from China starting September 1st.  Markets sold off in response to the reality check that the trade war is real and still very much happening.  If traders were not convinced, China’s weekend counterpunch served as a reminder.  With 43 days until the next Fed meeting and the new tariffs due to kick in 3 weeks or so, markets will be subject to continued volatility.  Unless, of course, if Trump was just kidding about the tariffs.

 

THE MARKETS

 

Stocks were pounded yesterday in response to China’s latest salvo against the US in the ongoing trade war.  Words turned into action as China allowed the Yuan to weaken and suspended purchases of US farm products.  Traders also began to factor in the costs of the next round of tariffs which will surely hit consumers.  The S&P500 fell by -2.98%, the Dow Jones Industrial Average dropped by -2.90%, the Russell 2000 sank by -3.02%, and the NASDAQ 100 sold off by -3.6%.  Money moved into safe haven assets such as treasuries, gold, and bitcoin.  Ten-year treasury yields fell by -14 basis points to 1.70%, gold rose by +1.59%, and Bitcoin jumped by +12.73%.

 

WHAT’S NXT

 

– The Bureau of Labor Statistics will release its JOLTS which is expected to show 7.326 million job openings compared to last month’s 7.323 million.

– St. Louis Fed President James Bullard will speak.

– The Treasury will auction off $38 billion 3-year notes.  Pay attention to this and the ones over the next few days as China is one of the largest holders of US Treasury securities.

– This morning’s earnings had misses by Mallinckrodt, Regeneron, and Aramark.  Tenneco and Becton Dickinson beat Wall Street estimates and we will hear from Duke Energy, Chesapeake Energy, and Blue Apron prior to the Bell.  After the bell earnings include Devon Energy, Disney, Diamondback Energy, ADT, and Weight Watchers.

daily chartbook 2019-08-06

 

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