Macro:

Economic data continue to signal improvement. US GDP was revised up to 3.2%, consumer confidence surged to new cyclical highs, NAPM ISM improved, house prices are growing steadily without signs of overheating, employment and wage data are steady if not buoyant. Inflation data in the Eurozone also indicated stability while PMIs continue to improve particularly in Italy and Spain. China’s official manufacturing and non manufacturing PMI’s showed marked improvement (although the Caixin PMI moderated from October.) Japanese consumer data showed some improvement but remains generally weak. Manufacturing data from South Korea is showing the rippling effects of the Samsung Galaxy Note 7 debacle’s effect on whole supply chains in the nation. India’s GDP was weaker than forecast.

 

Equities:

Equities took a rest from the Trump stimulus induced rally. Emerging markets saw the worst of it while Europe and India were most resilient. There is a growing, creeping feeling that sentiment in Europe has overshot fundamentals and that there is value and growth in the Old Continent relative to America. We certainly subscribe to this view. Europe’s ills are political in nature and the multiple impending elections are an overhang on market sentiment.

 

Bonds:

Bonds continued their duration led selloff with 10Y UST and 10Y bund both 7 bps higher. Italian sovereigns tightened sharply in the run up to the referendum, and despite the difficulty of Monte dei Paschi to close its capital raising deal as investors began to realize their likely overreaction to these 2 events. In Asia JGBs extended their decline.

Globally, credit tightened across IG and HY, trading against equities which corrected last week. EM bonds continued to decline, however.

Our favoured sectors of US RMBS turned in another boring but buoyant return, as did leveraged loans, again beating coupon, and bank capital, rallying 0.9% despite the problems in Europe and the focus on Italian banks. Stay with these 3 sectors, they are less impacted by retail fund flows and react more to fundamental asset quality than liquidity, no mean feat in the era of central bank policy driven markets. Their predictability will likely prevail as we switch into a fiscal stimulus regime.

 

FX:

The surging USD took a rest last week but the strength of the dollar is unlikely to fade quickly. Too many factors stand in its favour including Fed policy, interest rates, inflation, capital flows and growth. Then there are the problems facing other major currencies.

European growth is stabilizing, and ECB policy is at least for now at a standstill. They could accelerate it at the Dec 8 meeting but this is unlikely. The EUR is being held back by concerns on the political front, most proximate of all being the Dec 4 Italian referendum, not to mention the Austrian election recount on the same day. Dutch, French and German elections loom next year, and Brexit lurches around in search of some direction.

The BoJ’s policy may have been drowned out by the US elections and OPEC and the Italian referendum but policy is still super loose. While the Japanese economy has shown some promising signs of growth, it remains weak and together with the BoJ’s limitless policy keep the JPY under pressure.

The question may soon arise, and this is not the base case, but one ought to entertain the thought anyway, is, what happens if Trump becomes increasingly hard line or unhinged as he takes office. Fundamental factors notwithstanding, currencies are constructs of confidence. Where else might an investor hide, if not in USD? The EUR is dogged by too much political risk, the JPY by a weak economy and a determined BoJ. What other havens can the risk averse investor find, not to make a buck but to merely seek shelter?

 

Commodities:

On November 30, OPEC announced an agreement to cut production by 1.2 million b/d to 32.5 mb/d, a substantial cut. In addition, other major non OPEC producers agreed to participate in balancing the market with production cuts of 600,000 b/d with Russia bearing 300,000 b/d of the cut. Saudi Arabia will shoulder the bulk of the OPEC production cuts, reducing output by almost 500,000 b/d, while Kuwait, Qatar and the United Arab Emirates agreed to 300,000 b/d of reductions. Iran, which had resisted cuts and was a risk to the deal, agreed to freeze its production at almost 3.8m b/d, close to its current rate. Iraq, which has disputed its need to cut and was a risk to the deal, agreed to a 210,000 b/d supply cut while Libya and Nigeria were granted exemptions.

We have been of the view that supply would become constrained in non-OPEC, ex US production due to insufficient capital expenditure on investment and future capacity, primarily due to serious questions about the long term relevance of fossil fuels. This view supports a gently rising oil price with a cap around 55 – 60 USD a barrel where a significant portion, though not all, US shale oil is commercially viable, and will begin both increasing supply and hedging activities. The OPEC November 30 deal merely accelerates this agenda.

 

Week ahead:

Dec 4

  • Italian referendum on constitutional reform

Dec 5

  • European PMIs
  • ISM Non-Manufacturing
  • Eurozone Sentix, retail sales
  • Fed’s Dudley speaks
  • Euro finance ministers meet.

Dec 6

  • Eurozone GDP
  • US unit labor costs, trade data

Dec 7

  • India RBI rate decision
  • German IP
  • Taiwan trade
  • UK IP, mfg
  • Brazil inflation
  • UK industrial trends, NIESR GDP
  • Japan current account

Dec 8

  • ECB rate decision. Draghi press conference.
  • China trade data
  • EFSF and ESM to be rated by Fitch
  • Japan capital spending

Dec 9

  • India trade data
  • China PPI
  • Brazil inflation
  • Juncker, Dijsselbloem and Schulz speak in Maastricht
  • UK sovereign debt rating by Fitch
  • China CPI
  • European IP and mfg
  • UK trade data

Dec 10

  • China credit data