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Whether this data has a significant effect on financial markets is unclear, given we are seeing a predominantly macro-driven market. The key themes really affecting sentiment are the UK referendum, Fed monetary policy and where to for the USD and CNY. The market will likely pay most focus to the China trade data, which is expected to show an increase in the surplus to $55 billion, helped by a lesser fall in exports (consensus of -4%) relative to imports (consensus of -6.8%). This data series has no set time, but keep in mind that last month we saw the data print released at 12:30 AEST (USD value). Chinese May FX reserves were released overnight and we saw a modest fall of $1.7 billion after adjusting the portfolio holdings for changes to FX valuation and coupon payments. The bottom line is, these changes shouldn’t be a concern and are thematic of Chinese capital flows that are stabilising.
The craziness that is fixed income
The overnight leads are fairly bland and although we saw the S&P 500 hold the April high of 2,011, despite a fairly hefty sell program going into the close, we saw the strange conundrum of buying in fixed income, the VIX, equities and oil. That’s not supposed to happen, but this is the crazy financial world we live in, totally engineered by developed market central banks. The most concerning factor, driven by falling inflation expectations and ever more creative central bank policy, is the now over $10 trillion of negatively yielding government bonds and the further $3 trillion of negative yielding corporate bonds globally. Consider that in October the level of negatively yielding government debt was a little over $2 trillion and one can see a worrying trend. We learnt this week that the average yield on outstanding German government debt has now fallen below zero for the first time, with over 40% of outstanding debt ineligible for the European Central Bank (ECB) to purchase under its QE program. We can see why they are moving more aggressively into the corporate debt space with the ECB starting this program today.
Japanese domestic banks now hold less than $900 billion of Japanese government debt, 40% below the holdings of 2011. This number has fallen consistently since Abenomics began and at the current pace, the BoJ will run out of bonds to buy from domestic institutions in 2017. Also keep in mind that over 80% of outstanding Japanese debt has a negative yield! Interestingly, foreigners have sold over $90 billion of Japanese equities this year. Weren’t Japanese equities supposed to be the best performing equity market this year?
This equation in the debt markets will continue for the foreseeable future, but there is no doubt the world of fixed income is in a strange and worrying spot. The fact is, what seems unconventional and shocking to many soon becomes mainstream and acceptable.
One wonders why Australian fixed income has worked so well this year. Adjust the Aussie ten-year for headline inflation (i.e ‘real’ rates) and one can still achieve a positive yield of 89bp. There are not many countries in the developed world who can say that. Is it sustainable though? It will be interesting to see Japan’s balance of payments data today for the level of buying of Aussie debt from Japanese institutions.
ASX 200 open
Turning to the open of the ASX 200, we are expecting to see modest losses, with our call being 5358 (-0.2%). Both the ASX 200 and importantly SPI futures (June) seem so comfortable in this 5300 to 5400 range it’s been in since 10 May and should continue to be traded as such. It’s all about energy today, with US crude breaking out again and looking like a thing of beauty. Further disruptions in Nigeria cited, but the API inventory print (released this morning) showed a massive drawdown of 3.56 million barrels. BHP looks set for an open 2.5% lower based on its ADR (American Depository Receipt), but there could be upside risks here given the moves in oil and the 2.8% increase in iron ore (spot). Banks should open on a flat note.