MARKET INSIGHT: Can The US Inflation/Growth Mix Turn More Constructive For Risk Assets?
Overnight, US data was better than expected, particularly the upward revision to the final PMI reading for August, and the resilient ISM outcome. As we noted yesterday, weakness in key North Asia economies painted downside risks to these outcomes. This backdrop continues to favor the USD from a relative growth standpoint. Still, there were some encouraging signs from a broader risk appetite standpoint.
- Most notably was the sharp decline in the prices paid in the ISM survey (52.5 versus 55.3 expected and 60.0 in July). This is the lowest level for this sub-index since the middle of 2020.
- It also fits with some downside momentum in the Cleveland Fed Nowcaster for headline CPI. The MoM Nowcaster for this index is now close to flat, while at 8.24% for the YoY estimate. This is down from recent highs.
- The first chart below plots the differential between the Atlanta Fed GDP Nowcaster less the Cleveland Fed CPI (YoY) Nowcaster. This metric is a very rough stagflation proxy for the US economy on a relatively high frequency basis. The other line on the chart is global equities.
- Essentially, as US inflation outcomes/expectations have outpaced GDP growth, global equities have typically fallen this year. Hiking Fed policy is obviously a key driver of this trend. While the relationship in the chart below is by no means perfect, the correlation is reasonable for 2022 at +64%.
Fig 1: Global Equities & US Stagflation Proxy
Source: Atlanta Fed/Cleveland Fed/MNI - Market News/Bloomberg
- If the current relationship continues to hold, it points to risks of an improvement in the global equity backdrop. That is, if we see the inflation nowcaster continuing to come down relative to the GDP nowcaster or vice versa. Although presumably, the biggest shift can come from the inflation backdrop.
- A better inflation/growth backdrop also argues for a steeper curve US curve, see the second chart below, which arguably fits with the inflation side of equation having the greater potential to move more over coming months.
- For the USD, the relationship with the stagflation proxy is generally inverse, that is worst readings for the proxy have generally correlated with higher USD levels this year, although the correlation isn't as strong as the equivalent with global equities.
- Of course, the Fed will likely have final say on how things unfold. A clear caveat is that even if inflation moderates it may still feel the need to be quite aggressive given the high starting point for price pressures.
- The other potential headwind is growth prospects outside of the US, with China’s Covid related policies a likely constraint on China’s rebound prospects, while the EU growth backdrop is far from assured.
Fig 2: US 2/10s & US Stagflation Proxy
Source: Atlanta Fed/Cleveland Fed/MNI - Market News/Bloomberg
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US: /TAIWAN: House Speaker Pelosi Vows U.S. "Will Not Abandon" Taiwan
During a joint press conference with Taiwanese President Tsai Ing-wen, U.S. House Speaker Nancy Pelosi pledged that the U.S. "will not abandon our commitment to Taiwan," adding that it has made a "bedrock promise" to always stand with the island.
- Pelosi's remarks were largely symbolic and lacked details. While some may be parsing her comments in an attempt to look beyond the veil of U.S. strategic ambiguity re: commitment to Taiwan's security, the Speaker did not offer any fresh insights/declarations on the matter.
- Tsai told reporters that Pelosi's visit was a sign of international support for Taiwan and said that the island "will not back down" despite "deliberately heightened military threats" from China.
JGBS: Tight Trade, Futures Off Lows, Curve Bear Steepens
JGB futures edged away from their overnight trough during the Tokyo morning, although the contract has stuck to a very narrow range, hitting the lunch bell -22 vs. settlement.
- There hasn’t been anything in the way of meaningful domestic news flow to digest since the Tokyo open, although there has been confirmation that U.S. House Speaker Pelosi will visit Japan on Thursday, in what will be another leg of her heavily-watched trip to the Asia-Pacific region.
- Cash JGBs run 0.5-3.0bp cheaper on the day, with 10s providing the weakest point on the curve. Much of the long end has stuck to ranges established in early dealing after the initial cheapening adjustment in lieu of Tuesday’s core global FI moves (10s being the exception).
- The breakdown of the latest round of BoJ Rinban operations revealed the following offer/cover ratios:
- 1- To 3-Year: 2.14x (prev. 2.66x)
- 3- To 5-Year: 2.78x (prev. 3.22x)
- 10- To 25-Year: 4.21x (prev. 4.85x)
- These results may provide very modest support to the space in early afternoon dealing, but we wouldn’t expect much tangible impact to come from this matter in isolation. More support is likely to come from the uptick observed in U.S. Tsys during the Tokyo lunch break.
AUSSIE BONDS: Looking Further Afield For Impetus
There has been little in the way of meaningful idiosyncrasies to drive the ACGB space thus far, with YM -10.5 & XM -6.5 at typing, moving away from overnight/early Sydney lows on the wider impulse observed in core global FI markets, with regional participants perhaps willing to fade Tuesday’s European/NY cheapening. Cash ACGBs sit 2.5-11.0bp cheaper across the curve, with bear flattening in play. Local data was headlined by a modest beat for retail sales volumes covering Q2, which was accompanied by a downside revision to the Q1 reading, although the space shrugged off that release, with focus on the health of Australian consumer and knock-on impact for RBA policy in the months ahead. NZ labour market data from across the Tasman also had little in the way of lasting impact.
