Previous Day's Market Highlights
Flash PMIs Point to 'Boris Bounce'
Friday's flash PMI surveys provided further evidence of a post-election 'Boris bounce' in the UK economy, with the data beating expectations across the board.
Beginning with the manufacturing sector, while remaining in contraction, output rose at its fastest level in 9 months according to the latest PMI survey, with the index printing 49.8 - more than two index points higher than December's read.magnitude of yesterday's move.
Meanwhile, the services sector expanded strongly as 2020 got underway, with the PMI surging to a 16-month high of 52.9 - significantly better than expected, and a marked improvement on the stagnation seen in December.
The increases in output across both sectors of the economy also pushed the composite PMI to a 16-month high, with a read of 52.4.
These measures all provide strong evidence that there has been a sharp increase in both output and sentiment across the UK economy after December's decisive election result removed a significant amount of uncertainty from the outlook.
In fact, the magnitude of the post-election bounce is such that the increases in the services and composite PMIs were the biggest month-on-month increases since August 2016, while the manufacturing PMI jumped by the most since April 2019.
The sharp rebound in the PMI surveys, combined with a handful of other improving sentiment surveys last week, should see the Bank of England take a 'wait and see' approach at Thursday's policy meeting.
Two of the three policymakers to recently make increasingly dovish noises - Governor Carney and external member Tenreyro - indicated that rate cuts would be appropriate if downside risks to the economy began to emerge. It would appear to be difficult for policymakers to argue that the PMIs - combined with last week's strong labour market figures - are evidence of the downside risks increasing.
As such, policymakers will likely choose to leave rates unchanged this week, instead choosing to pay close attention to whether the firm sentiment surveys are followed-up by stronger 'hard' economic data.
Markets, however, remain somewhat unconvinced that a rate cut is fully off the table, with swaps showing that investors continue to see the decision as a coin-flip, pricing a roughly 48% chance of a 25bps cut later this week.
This continued elevated pricing of a rate cut, combined with some profit taking and a 'buy the rumour, sell the fact' reaction to the PMIs, meant that the pound's gains were limited on Friday.
Having hit a high of $1.3170 immediately after the release, the pound ended the day 0.4% lower against the greenback as market participants took some risk off the table ahead of the weekend.
It was a similar story for the pound against the euro, ending the day 0.1% lower having erased an earlier pop higher in the immediate aftermath of the release.
Risk-Off on Coronavirus Concerns
Away from the UK, and looking more broadly, markets struck a risk-off tone on Friday, as fears over the developing South East Asia coronavirus outbreak continued to preoccupy market participants' minds.
As at the time of writing - Sunday 26th Jan - China has confirmed almost 2,000 cases of the virus; with instances of infection also confirmed in many neighbouring nations, as well as far away as France and the US.
Despite around 56mln people being on virtual lockdown in a number of Chinese cities, all close to Wuhan where the outbreak began, the spread of the virus does not yet appear to be under control.
This is of concern to market participants largely due to the impact that both the virus and the lockdowns will have on the Chinese economy; particularly stunting demand in both the services and tourism sectors.
While it remains far too soon to judge the impact that the virus will have on the Chinese economy, the 2003 SARS outbreak is estimated to have knocked around 2% off Chinese GDP. The economy is now much larger, and more developed, hence the impact from the coronavirus could be much more significant.
For markets, these ongoing concerns resulted in investors going into classic defensive mode as the week drew to a close.
In FX, this resulted in demand for the dollar - which gained 0.2% against a basket of peers, nearing a 2-month high - and for the yen, which added around 0.3%. On the other hand, the risk-sensitive antipodeans struggled, with the Aussie and Kiwi dollars losing 0.3% apiece.
Elsewhere, typical safe-havens were well-supported. Spot gold advanced to a two and a half week high, adding 0.75% on the day; while Treasuries were also well-bid, with 10-year bonds falling 3bps, dipping below 1.70% for the first time since October.
In equities, the US benchmark S&P 500 slid 0.9% after reports that a second US case of the virus had been confirmed, with the decline representing the index's biggest 1-day loss this year.
Oil prices also declined, with fears of reduced demand from China weighing on prices. Global benchmark Brent ended Friday 2.2% lower, while US WTI crude settled with losses of 2.5%. Both blends ended the week with losses in excess of 6%, representing the third straight week of declines.
Of course, with the coronavirus not yet under control, and reports that the virus may be 'strengthening', developments on this front will remain the primary driver of risk appetite in the week ahead.
Any Other Business
- Friday's flash eurozone PMIs provided further evidence of the manufacturing slowdown bottoming out, with January's index ticking up to a 9-month high of 47.8. However, the pace of expansion in the services sector fell to a 2-month low 52.2, dragged down by ongoing strikes in France.
- Retail sales increased solidly in Canada last November, with the headline measure increasing by 0.9% MoM, and the ex-Autos measure gaining 0.2% MoM. While the data is slightly stale, all Canadian data points are of high importance with the BoC having adopted a firmly data dependent stance.
|Currency Pairing||08:00 Today||Vs 08:00 Yesterday||Four-Week High||Four-Week Low||% Change|
Today's Market Highlights
The Day Ahead
A fresh trading week gets underway with a relatively healthy data calendar, though market participants are set to remain focused on ongoing coronavirus developments.
On the data front, the highlight comes from Germany, this morning, with the release of the latest IFO sentiment surveys. January's business climate indicator is expected to have ticked up to its highest level since June, with a print of 97.0 expected.
Of course, the increase in business sentiment is set to stem largely from the signing of the phase one US-China trade deal, which has removed a significant degree of uncertainty from the outlook.
Across the pond, this afternoon sees a couple of notable releases. After stellar housing starts figures a fortnight ago, investors will be looking for the recent housing market strength to continue in this afternoon's new home sales. December's report is expected to show sales increasing by 0.725mln, a solid increase on November's 0.719mln.
Markets will also keep one eye on this afternoon's regional manufacturing survey from the Dallas Fed - expected to increase to -3.2 - after solid increases in other regional gauges, ahead of next week's nationwide ISM manufacturing PMI reading.
The Week Ahead - BoE & FOMC in Focus
Looking ahead, two notable central bank decisions are due this week.
On Wednesday, the first Federal Reserve policy decision of the year will be announced. The FOMC are almost certain to keep rates unchanged, leaving the target range for the Fed Funds rate at 1.50% - 1.75%.
The Fed's guidance for the year ahead has been clear that, barring a 'material reassessment' of the economic outlook, policy is set to remain on hold. With no significant changes to the outlook, and a degree of uncertainty removed by the phase one trade deal signing, there should be no policy or guidance surprises this Wednesday.
Investors will, however, pay close attention to any comments on the Fed's ongoing balance sheet expansion. While this is not QE, as I've stated numerous times before, the ongoing repo operations are providing support to risk assets. As such, if policymakers indicate that they may shortly be coming to an end, equities in particular will face stiff headwinds.
Meanwhile, on Thursday, attention will shift to Threadneedle Street, for the Bank of England's latest policy decision.
My base case remains for the BoE to leave policy on hold, though external MPC member Vlieghe is likely to join the dovish dissenters, resulting in a 6-3 vote split.
As outlined above, it appears more prudent for policymakers to take a 'wait and see' approach at this meeting; however the risk of a rate cut cannot be completely ruled out
Assigning rather unscientific probabilities, I'd say that there is a 70% chance of rates remaining on hold, and a 30% chance of a 25bps cut come Thursday.
While leaving rates on hold would likely see sterling rally; even a rate cut would not necessarily result in significant sterling downside. Should the BoE guide towards a cut being 'one and done' sterling losses should be limited.
Brexit Day Approaches - What Next?
Finally, this Friday is, more than three years on from the referendum result, the day that the UK will cease to be an EU member, and Brexit will take place.
However, this will be far from the end of the story, with negotiations over the future trading relationship then set to begin.
A timeline of some key dates to look out for over the 11 month transition period is below;
Today's Economic Calendar
|9.00am||EUR||Germany IFO Survey - Business Climate (Jan)||97.0||96.3|
|3.00pm||USD||New Home Sales (MoM - Dec)||0.725mln||0.719mln|
|3.30pm||USD||Dallas Fed Manufacturing Index (Jan)||-3.1||-3.2|