Although no change to the Fed Fund Rates was expected to be announced last week, markets did appear slightly uptight ahead of the FOMC meeting; mostly in anticipation for an update on the balance sheet unwind. The message was that if the economy remains on its current trajectory, the central bank will look to commence the unwind of its balance sheet ‘relatively soon’; we interpret this as a September announcement with a taper move in October, currently. The only significant change to language was that inflation is now running ‘below’, from ‘somewhat below’, the Fed’s 2% target. The Fed’s favoured PCE core reading for Q2’17 came in at only 0.9%qoq, from a downwardly revised 1.2% first quarter. The Fed’s Kashkari stated that he has been in favour of slowly reducing the balance sheet despite his concerns over inflation.
US Treasuries sold-off after a bout of better than expected Markit PMIs and confidence data earlier in the week, remained largely flat ahead of the FOMC meeting, rallying off the more dovish picture, eventually moving higher towards the end of the week. The benchmark 10-year, closed 5bps higher last week, at 2.29%. The dollar remained relatively flat in the days leading up to the FOMC gathering, but collapsed thereafter. Stronger data on Thursday, including improved durable goods (due to a pick up in aircraft orders) and bloomberg consumer confidence, and a bounce back into positive territory of the Chicago Fed Activity Index, saw a slight bounce up in the dollar. Growth in the second quarter was stronger at 2.6%, but missed expectations, with the employment sector remaining a drag; mostly resulting from poor wage growth. This coupled with continued in house politics over the healthcare and tax reform once again saw the greenback struggle to find its feet; with the DXY index falling 0.64% over the week.
Later today we have the July Chicago purchasing managers index, and pending home sales readings. A pretty data heavy Tuesday kicks-off with personal income and spending; the former expected to come in unchanged at 0.2%. The Fed’s favoured PCE prints follow, with softer than previous ISM manufacturing expected in the late afternoon. The ADP employment change for July will hit the screens on Wednesday, +190k expected. This will be followed by Markit services and composite PMIs, and factory and durable goods orders. The all important employment data takes centre stage on Friday, where markets are looking for an additional 180k jobs in July, unemployment to have fallen to 4.3% and average hourly earning up marginally to 0.3%mom. With ‘recess’ upon us for the next month or so, markets should remain fairly balanced, with few surprises from a central bank perspective; that is after Wednesday’s BoE meeting. The upcoming debt ceiling deadline in the US will however grab some attention; particularly as Mr. Trump attempts to push forward with his growth-driven spending reforms.
The commodity market enjoyed a bounce last week, with the likes of Brent Crude gaining 9.3%. Metals continued to perform well off the back of stronger growth prospects in China. Copper was a stand out performer last week, up 5.35%. One of our favoured holdings in Southern Copper 7.5% 2035’s has rallied to 4-year highs this month. The Baa2/BBB+ bond continues to offer exceptional risk-adjusted expected returns of around 14.5% with an attractive yield of 5.25%, and 3.3 notches of credit notch cushion. The US company is headquartered in Phoenix Arizona with mining activity predominantly undertaken in Peru and Chile.
Elsewhere, the offshore renminbi gained 0.3% against the dollar over the week. Economic data releases continue to firm up growth stability, with industrial profits up 19.1% in June. This jump in profits will no doubt allow policymakers room to clean-up the country’s debt; one of the main agendas stated at the financial work conference. Some other good news came from rating agency, Moody’s who upgraded its outlook for China’s banks to stable. Yulian Wan, a Moody’s analyst noted that the upgrade reflects ‘our expectations that non-performing loan formation rates will be relatively stable at current levels’, adding that the ‘government's adoption of more coordinated policy measures to curb shadow banking will help mitigate asset risks for banks, and address some key imbalances in the financial system’. In what is a very light data week for China, this morning opened with PMI readings for July which were marginally softer than expected, but remained in expansion territory; adverse hot weather, and floods in southern China resulted in slower production. The only other data releases this week are the Caixin PMI prints.
As we usher in August, a historically quiet time, we suspect geopolitical concerns will continue to plague markets. The likes of North Korea launching another ICBM, Trump’s strong comments to China, ongoing Sino-US trade struggles, and Russia's response to US sanctions, are amongst some of the key events we will be monitoring this week.