Europe’s equity market bounce on Friday was of the ‘blink, and you’ll miss it’ sort - with a commodity theme.
Concave to convex
A concave week for European shares? Earlier smatterings of green faded fast. A disproportionate positive contribution from the year’s worst-performer, telecoms – led by two of the biggest sector underperformers (BT and Telecom Italia on ‘break-up talk’) at that – was an unreliable uptick. The region’s sensitivity to collateral commodity metal damage also continues. Copper has fallen off the wagon after its first three-session rally since late August. This has abruptly ended respite for Europe’s mining shares.
When Dr. Copper catches a cold
Among principal global indices, COMEX’s main copper contract’s strongest correlation coefficient over the year to date is with the Shanghai Composite (0.4141%; linear returns). That’s not particularly surprising though it is a reminder that industrial commodities (including crude oil) are a common denominator for jointly-negative session across Europe and Asia. As for oil, emerging market turmoil also casts shadow on an already deteriorating supply/demand structure. This is underscored by builds shown this week in gasoline and crude inventories with uncertainty about what happens after 4th November, the date when the second round of reinstated sanctions on Iran will kick in. Saudi Arabia’s intentions remain opaque. Up the commodity food chain in gold, buyers are still lightly taking up opportunities offered by the latest dollar pause and safety flows. But equity investors are largely looking through this. Gold’s lustre is thin and on balance unlikely to last. All told, it looks like stock markets with a high dependence on basic resources are exposed to the dwindling reflation trade through that thin armour. This should hold true in weeks ahead.
U.S. indices set to remain immune
U.S. shares have participated—in fact led, chiefly via the Nasdaq 100—this week’s descent. But the tech-dominated market’s reversal has only sliced a sliver off U.S. indices’ upward divergence. As discussed this week, it’s simply too soon for ravages of trade disputes and dollar dominance to become more evenly distributed whilst U.S. readings affirm the economy remains on cruise control. Confirmation of another strong month in labour markets on Friday would play to the narrative, though reaction may be delayed for a session or two. (Expected: 191,000 payrolls vs. July’s 157,000, 3.8% employment rate vs. 3.9%, 2.7% hourly earnings growth; unchanged). Even if the data fall short, it will—of course—not mean the slowdown that is increasingly widely expected late in 2019, has arrived early.
Hairline dollar cracks
A warning that U.S. equities might forego their usual slight benefit from strong payrolls came from the dollar’s barely perceptible uptick after robust ISM non-manufacturing data on Thursday, including a milestone in the employment index. Another clue is that the 2-year/10-year Treasury spread looks capped under a late July peak, pointing to weakening resolve among dollar bulls, a subset of wavering risk appetite overall. We think this slight angst will quickly pass, though it is a window for other majors, chiefly the euro and sterling. Note that despite a supposed lift for the pound by iridescent Brexit news, it is about 0.3% lower this week. The euro is up 0.9%.
Trade, Trump, China – and maybe Japan
If there’s one thing that can obscure market captivation with the U.S. job market, it’s Trump commentary and speculation. An overnight report suggested Japan could return to a more central position in the frame for a dose of the U.S. President’s trade ire. A threatened $200bn tariff ramp has overhung the whole week, bookended by China’s overnight reminder that it considers retaliation obligatory. China’s FX regulator just announced a “small drop” in its huge FX reserves (the majority is in dollars). In July, the holdings surprisingly inched higher (just the odd $1.51bn) to $3.112 trillion, despite cross-market gyrations. This week’s surprise fall is largely immaterial, and the FX regulator has reiterated stable intentions. Even so, speculators are alert to any tiny hint that China’s monetary authorities could deploy reserves (including U.S. Treasurys) in the trade conflict. Trade can keep the market’s rapt attention for the remainder of Friday, at least.
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