IIFT Daily Note with Peter Brown

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Daily Note – World Cup fever


The only show in town

United States: Solid Employment report

China:  Exports rebound

Eurozone: Falling Eurozone yields – problem for Draghi & Co

Good morning,

The World Cup starts this week and like most other Irish males, I will drop everything and be glued to the telly watching players whose names I can’t pronounce, from countries I have never been to, playing- hopefully- the beautiful game. The opener between Brazil and Croatia (whose players when playing for Yugoslavia used to be known as the Brazilians of Europe)  could prove an interesting one. Per head of population, the Croats have the best qualification record of any European team over the past twenty years; they have excellent players and, most importantly, nothing to lose. Brazil on the other hand….

There’s been lots of research carried out that tries to correlate football performance and economics, none of it too interesting, so let’s leave out the forced metaphors and sit back, relax and enjoy the game. Watch Uruguay, in fact watch all the Latinos as they are all strong –  stronger than their economies at least – although Argentina may come good in the next few years; until it goes bad again.

In terms of players, if the Croats get off to a great start, it could be Modric’s World Cup. He’s not spoken of in the same breath as Messi, Ronaldo, Neymar or Benzema, but he’s as good. In fact he was the only Real player together with Di Maria who turned up in Portugal a few weeks back. Watch out for Zadar’s finest in Rio.

Back to the main economies, and we are seeing strong employment numbers in the US which is making everyone chilled about the future and the figures were just good enough to keep the US equity train chugging along. US equities closed higher for the 3rd consecutive week.

In FX, there was little time for the dust to settle after Thursday’s puzzling Euro moves. We are left wondering what the ECB will do next as the Euro closes the week virtually unchanged .

Away from Europe, the Mexican peso was down roughly 50 bps as the central bank there stunned the market with a surprise pre- world cup 0.5% rate cut.

Slightly oddly, US fixed income rallied after the payrolls on mostly traders closing out of positions that were betting on a way above consensus employment number. After the initial buying flurry, prices drifted lower for the rest of the day. Like most asset classes, the range on the day was very narrow with 10-year UST’s trading in a 6 bp range closing close to the key 2.60% level. We reinstated our short US 10 year note investment after the employment report on Friday.

In commodities, I learned something new on Friday. While you would normally think that rain is good for crops (this committed suburbanite thinks so anyway), apparently too much rain has caused wheat to trade higher as fears over disease and corresponding lower yields has driven up prices. In gold, apathy remains the name of the game. In energy, volatility remains low and price action muted.

United States: Solid Employment report

Table 1 9 June

Nonfarm payroll jobs increased 217,000 in May (vs. consensus 215,000).

There’s been a lot of coverage regarding the level of nonfarm payroll employment as it has now exceeded its 2008 peak. Given the working-age population has grown significantly in the meantime, I see this as having little relevance in terms of future growth prospects. Looking at the chart below, you can see just how severe the 2008 recession was and how many jobs need to be created just to get back to 2008 levels.

There’s a good piece by Gavin Davies in today’s FT on this.

Figure 1: United States Employment Report – 4 Month Moving Average

Chart 1 9 June

The unemployment rate remained unchanged at 6.3% in May (vs. consensus 6.4%). The broader U6 unemployment rate, including marginally attached workers and those employed part-time for economic reasons, moved down one-tenth to 12.2%.

This number is keenly followed by Janet Yellen and it means we are still very far from rate hikes.

China:  Exports rebound

Table 2 9 June

Chinese export growth accelerated as expected.

Import growth was much weaker than expected. Underlying import growth is likely to improve with more ample domestic funding conditions as a result of the government’s policies.

Figure 2: China Import Growth YoY % 

Chart 2 9 June

We would like to see a pickup in imports in China as a sign the broader economy is improving. After a couple of days off weakness, we have return our long China investment to overweight.

Eurozone: Falling Eurozone bond yields create a problem for Draghi & Co.

As the dust settles on the ECB action last Thursday, Mr Draghi is going to face bigger problems down the road.

Euro-zone bond yields compressed even further on Friday as the ECB’s monetary injection attracted yet more foreign investment. This also is underpinning the Euro and is a scenario that is far from ideal for the ECB who desire a lower Euro.

Consider the YTD chart of Greek 10 Year yields which dipped to  new lows despite (as we wrote about last week) problems mounting for the current Greek government. With the possibility of a further restructuring of Greek debt in the autumn, Friday’s move implies that the market thinks Draghi will announce QE next and this will involve the ECB buying sovereigns.

Why else would you price Greek debt at 5%?

Figure 3: Greek 10 Year Yield %

Chart 3 9 June

The WSJ has this summary that’s worth a read and says:

Not only do relatively high yields in inflation-adjusted terms continue to make euro-zone assets attractive to foreign investors, but there’s also the prospect of yet more demand for these instruments from euro-zone banks. Indeed, that appears to have been a major market mechanism during the past couple of years: foreign and domestic flows triggering yield compression and currency appreciation.

Undoubtedly, the ECB’s measures will get lending flowing to the private sector in the region, if only at the margin. But if they also lift the euro, those good works will be undermined by an erosion of many of its member states’ competitive position.

Now we’re going to have a look at the football form, pick a few countries, head down to Paddy Powers and place our bets – just to give the games a bit of spice!

Portfolio: Expecting volatility to peak up

Table 3 9 June


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