If China’s Not Thirsty For The ‘Black-Stuff’, Who Is?

This morning the EUR remains upbeat after unexpected positive German unemployment (-1k) and sales (+0.7%) data. Now that we have month-end demand out of the way we can focus on this Friday’s US NFP! It’s official, we are all becoming Chinese equity experts in training, and the ‘real’ experts are promoting not good things. The Shanghai Composite index officially became the world’s worst performer in August. Strike one, not good if we are relying on this economy to take us to ‘Neverland’! According to World Bank Asian Analyst’s it may fall another -25%! Strike two, as China’s economic recovery is not ‘sustainable’. The bourse has entered a ‘bear’ market phase after this weeks decline. Strike three, we all will eventually suffer!

The US$ is weaker in the O/N trading session. Currently it is lower against 13 of the 16 most actively traded currencies in a ‘whippy’ trading range.

Forex heatmap

Yesterday, three 3rd-tier US releases continue to support analyst’s view that’s it a production led recovery down South and not just in the auto-sector. This morning we get the ISM, definitely a stronger indicator with presence. Remember, production is going vertical from a low base, after global production shut-down were designed to burn off inventories. Now we are witnessing production and new-orders pushing towards an expansion mode, however inventories and jobs continue to be cut. Fear of job losses will weigh on consumer spending psyche. The first of the reports was the Chicago PMI, which managed a 50 print (balance between expansion and contraction). Secondly, the Dallas Fed’s manufacturing activity report also surpassed consensus expectations with a -9.1 reading that still signals contraction, but at a slower than expected pace. Finally, the NAPM-Milwaukee report was significantly stronger than expected with a sharp lift to 56 signaling solid expansion, in contrast to the consensus call for a 48 print.

Yesterday, it was announced that the default rate on US commercial mortgages held by banks more than doubled in the 2nd Q from a year earlier. This may be attributed to falling rents and occupancies for malls, office buildings and warehouses. In fact, loans that were 90-days or more past due climbed to +2.88% from +1.18%, y/y.

The USD$ currently is lower against the EUR +0.22%, GBP +0.51%, CHF +0.26% and higher against JPY-0.22%. The commodity currencies are mixed this morning, CAD +0.65% and AUD -0.45%. Yesterday’s Canadian GDP disappointed (+0.1% vs. +0.2%, m/m), and perhaps will solidify the theory that rate hikes remain further away that what dealers have already priced in. The pace of decline in the 2nd Q was sharper than most analysts had expected. However, it was the revision in the 1st Q that makes this report a difficult pill to swallow. The 1st Q headline was revised to a print that had an extra half-point contraction tacked on (-6.1% vs. -5.4%). Digging deeper, both the consumer and government spending showed gains in the Q, but, it was a sharp declines to both export and business investments, coupled with import leakages which managed to drag the Q down! Analysts agree that Canadian companies have much further to go in paring inventories (like their southern counterpart), for two reasons. Firstly, after accumulating most of last year, Canadian’s have reacted slower to the turn in the business cycle, as opposed to everywhere else! Secondly, it’s noted that inventory’s at current selling rates increased to 72-days (the highest level in 13-years). This and the value of the loonie will keep growth muted as predicted by the BOC last week. Take your lead from commodities and equities, as that’s what is dictating the direction!

The RBA kept O/N borrowing costs unchanged for a 5th consecutive month to boost their economy that’s expected to have ‘cooled’ in the 2nd Q. Governor Stevens left the overnight cash rate target at 3% and stated that ‘the present accommodative setting of monetary policy remains appropriate for the time being’. The AUD came under pressure as both investors and dealers pared future rate bets. Depending on what commodity prices do, expect short term upticks to be sold (0.8360).

Crude is higher in the O/N session ($70.42 up +46c). It had to happen and yesterday was the day when Crude prices fell out of bed, declining just under -5% and finally penetrated that stubborn $70 resistance level. It managed to fall the most in 4-weeks after Chinese equities entered a ‘bear’ market, which pushed global bourses down in tandem and heightening investor concerns that a slowdown in lending would impede an economic recovery in their country. China has been the go-to region that the rest of the world has been relying on to drag us out of the worst recession in 50-years. The Shanghai composite index has managed to slip -23% from its highs printed on Aug. 4th. Both last week’s API and EIA inventory reports, with their unexpected gains, have impeded aggressive upward price movements. The EIA weekly inventories rose +128k barrels last week to +343.8m vs. a forecasted decline of -1.15m barrels. This bearish report was supported by the earlier API release that showed that oil supplies climbed +1.3% (the most in 4-months), to +346.7m barrels. On the flip side, gas stockpiles fell -1.7m barrels to +208.1m vs. an expected -800k decline. Even more surprising, US total daily fuel consumed averaged +19.2m barrels over the last month, down -0.9% y/y. Fundamentals reveal there is a lot of supply in the market with little demand. China of course remains the biggest concern. If their economic activity subsides it will definitely put a cap on this market in the medium-term. It has been alarming that we had shifted away from the demand destruction theme. Speculators have bullied crude prices higher. We are now officially over the hump of the US driving season and just about to enter historically a weak demand month of Sept. Despite probably seeing the worst of the recession, global growth should remain subdued. OPEC meets in Vienna on Sept. 9th and a betting man will tell you that there will be no production quota changes. So why are prices higher? Gold prices advanced as investors took last week’s earlier decline as a buying opportunity. The questionability of sustaining economic growth continues to increase the ‘yellow metal’s’ appeal as an alternative investment ($952), mind you a weaker greenback would also help commodity prices.

The Nikkei closed at 10,530 up +37. The DAX index in Europe was at 5,405 down -60; the FTSE (UK) currently is 4,861 down -48. The early call for the open of key US indices is lower. The 10-year bonds eased 6bp yesterday (3.40%) and are little changed in the O/N session. Bonds’ prices are posed to break even higher as investors continue to speculate that the 6-month equity rally has outpaced prospects for growth, and by default it has increased demand for the relative safety of Government debt. Dealers have managed to keep yields close to their monthly lows as the market debates the inflation question. FI movements are rejecting that a Bernanke 10% unemployment rate will be capable of promoting growth any time soon.

This article is for general information purposes only. It is not investment advice or a solution to buy or sell securities. Opinions are the authors; not necessarily that of OANDA Corporation or any of its affiliates, subsidiaries, officers or directors. Leveraged trading is high risk and not suitable for all. You could lose all of your deposited funds.

Dean Popplewell

Dean Popplewell

Vice-President of Market Analysis at MarketPulse
Dean Popplewell has nearly two decades of experience trading currencies and fixed income instruments. He has a deep understanding of market fundamentals and the impact of global events on capital markets. He is respected among professional traders for his skilled analysis and career history as global head of trading for firms such as Scotia Capital and BMO Nesbitt Burns. Since joining OANDA in 2006, Dean has played an instrumental role in driving awareness of the forex market as an emerging asset class for retail investors, as well as providing expert counsel to a number of internal teams on how to best serve clients and industry stakeholders.
Dean Popplewell