Geopolitics aside, Friday’s US session was surprisingly upbeat. If you had suggested that we would have seen the US 2’s vs 10’s yield curve steepen 3 basis points (bp) to 81bp, driven by a 4bp move higher in the 10-year treasury and slight tick higher in the probability of a December Fed hike, to 36%, one would have been surprised given the poor payrolls data. We can also see that high yield credit spreads narrowed a few basis points, while the US volatility index (VIX) closed at 10.13%, so sentiment in US trade was reasonably upbeat.
In fact, we can see a reflationary thematic playing through markets, with copper continuing to perform well and the S&P 500 financial, energy and materials sectors all etching out reasonable gains.
The wash-up of 153,000 jobs created in the non-farm payrolls report, a tick higher in the unemployment rate to 4.4%, and a poor hourly earnings print at 0.1% MoM, was a sell-off in US fixed income and after initial weakness a slightly higher
USD. Clearly, traders had positioned for a fairly weak number, while looking through the areas where jobs were actually created and we can see a solid 36,000 created in manufacturing - this has been well noted. On this point, we can also see a strong pace of expansion in the ISM manufacturing report, with the index printing 58.8 and the strongest reading since April 2011. We can look at the new orders (60.4) and production sub-components of the index to see just how strong this report was and thematic of a US economy growing in excess of 3%.
We also heard from White House Economic advisor (and potential new Chair of the Fed), Gary Cohn, who again, talked up the idea of tax reform getting done.
So had the weekend news flow been quiet, we would have then be staring at the ASX 200 to open at 5744 (+20 points) and the Nikkei 225 at 19,696 (+5 points), so pockets of strength seen. We can look at ETF’s, such as the ASHR ETF (Deutsche X-tracker CSI 300), and see this closing trade up 1.2% and suggestive of a strong gain in Chinese equities. However, North Korea cannot stay off the radar for too long, and while this is the sixth nuclear test, it is the first since Trump took office, so the market will see this as a clear escalation of tensions and the sanctions recently talked about are clearly not the deterrent the US and Japan had been hoping for.
It’s this point which seems important, as the experts are keen to point out hydrogen bombs are a whole different league and can be mounted to Intercontinental ballistic missiles. There is a strong focus on China’s trade relations with North Korea and whether there could be sanctions placed on China or any of North Korea’s key trade partners. How this affects global trade and the relationships of these nations involved? The other point is we have seen the White House brief the press address, and rather than Trump, we have seen Defence Secretary James Mattis and General Joseph Dunford take the stage. So a strong military contingent and some are seeing this as a statement in itself.
There will naturally be some focus on Korean markets today, although USD/JPY is being well traded this morning, as is AUD/JPY, which has been sensitive to any tensions. USD/JPY traded into ¥109.23 in early inter-bank trade, but since FX trading has come online for all participants, we have seen some buying and the pair sits at ¥109.57 (-0.6%). AUD/JPY has had the bigger reaction and sits -0.8%, so one would expect S&P 500 and Dow futures to open lower by 0.4% or so. SPI futures, which closed 24 points higher (or 0.4%) at 5725 on Friday’s night session, should open at 9:50am AEST a touch lower, and any moves in S&P futures should give us a strong indication here.
The trend has been to buy pullbacks in risk assets of late driven by geopolitical concerns, so that could be something to watch here. The US crude and commodity futures open will also be in play, and this would have been an aspect of support for Aussie equities, with spot iron ore closing up 3.7%, while in the Dalian futures complex iron ore, steel and coking coal closed 2.5%, 3.9%, and 2.8% higher. The was a slight bid in US crude on Friday, and we saw BHP’s American Depository Receipt (ADR) closed 1% higher, while Vale’s US-listing closed 2.1% higher and indicative of how Aussie miners, like FMG and AGO may fare.
AUD/USD and AUD/NZD will get close attention today and throughout the week, as will EUR/USD given Thursday’s (9:45pm AEST) ECB meeting. AUD/USD is trading 0.3% lower this morning on the North Korea news. However, it’s a big week for the AUD, and the event risk gets underway today with Q2 inventories (consensus +0.3%) and company operating profits (-4%), both out at 11:30am AEST and feeding into Wednesdays Q2 GDP calculation. The market is of the view that we see Q2 GDP at 0.8% QoQ (economists range at 0.5% to 1%), with annualised GDP running at 1.8%. We also go into this meeting with speculative funds increasing their net long AUD position last week to 86,204 contracts (the most since April 2013) and a 20% chance of a hike by the February meeting.