Daily Market Reports | Jul 06 2012
By Greg Peel
The Dow closed down 46 points or 0.4% while the S&P lost 0.5% to 1367 and the Nasdaq closed flat.
Economists are predicting China will post a June quarter annualised GDP growth result of 7.6%, down from 8.1% in the March quarter and the lowest level since the GFC. The result is due next Friday, a mere week after the close of the quarter. Developed nations take three months to tally a quarterly GDP result, thus it is widely acknowledged that these rapid Chinese results are more crafted than calculated.
Whatever the case, Beijing no doubt already has a handle on what that result will look like on Friday, which may well explain why yesterday the PBoC announced a cut to the benchmark lending rate of 31 basis points to 6.0%, and to the deposit rate of 25bps to 3.0%. While the world has been expecting another cut in the near term given the clear slowing of the Chinese economy, it is unusual for Beijing to cut twice in two months. China has seen weakness in PMI results this week and next week the GDP release is accompanied by industrial production and retail sales data, figures which are likely already known by Beijing as well.
If the result is 7.6% or close to it, Beijing will have met its target set at the beginning of the year of 7.5%. We know the numbers are not completely manipulated because in past years Chinese growth has never come close to earlier targets of 8%, even holding stubbornly in double digits. But the signal provided by two rate cuts in quick succession – which belie Beijing's historical “softly-softly” approach – would tend to suggest the Chinese economy has been slowing more rapidly than Beijing had wanted to orchestrate. With China's major export partner Europe in recession, and the US in uncertain times, the risk is Chinese growth could slow too fast, bringing the economy in for an oft touted “hard landing”.
So Beijing is now back-peddling rather quickly before reaching the cliff. For some time now analysts have been predicting a second half turnaround for China, with easier monetary policy the driving force. Such a view has led to now long-held assumptions commodity prices will pick up as we head towards the end of 2012. Clearly this is an important prediction for the Australian market.
While the Chinese cut is big news, all eyes were on Europe last night as the ECB stepped to the podium. The world had been expecting at least a 25 basis point cut in the ECB cash rate to 0.75%, and that's exactly what Mario Draghi delivered. The announcement was nevertheless met with some disappointment. Other than those believing 50bps was needed, there had been a general expectation a rate cut would be accompanied by other QE-style measures, such as another LTRO and/or further direct bond purchases. These were not forthcoming.
It is a little hard to predict exactly which way the euro would have run if further easing measures were announced. Stimulus implies currency devaluation, which should lead to a lower euro, but stimulus also implies economic growth potential, which would support the euro. The fact the euro fell 1.1% last night would tend to suggest the market was more disappointed than anything else, and that the eurozone is not getting the support it needs from the ECB to back-stop the new direction announced at last week's EU summit. Perhaps most telling is the 0.8% jump in the US dollar index last night as global money again flowed towards the reserve currency, despite the reserve currency's own supposed upcoming devaluation (QE3).
The ECB did, indeed, take one extra step however, in lowering the central bank deposit rate to zero. This is the rate at which the commercial banks can deposit money with the ECB. By lowering that rate to zero, the ECB is killing off the incentive for banks to retain funds on their balance sheets for safety purposes and encourages them to lend into the “real” economy instead. Many an economist has highlighted this step as a necessary one if hopes of a return to European growth are to be in any way realised.
This is thus good news, although at the end of the day it was probably Mario's Draghi's press conference comments last night that had global markets more worried than hopeful following fresh easing measures. Draghi noted the eurozone downturn has become more widespread, hitting the major economies as well as the peripheral economies. The rate cut was thus intended to address problems for the whole of the eurozone, not just the basket cases. These words were taken to be rather ominous, although with economists already predicting a June quarter GDP contraction for Germany they should not have come as any great surprise.
This is, however, the nature of rate cuts and other policy measures. Markets get very excited about monetary policy easing, as if it's a case of “party on”. The reality, however, is that easing means nothing more than weakness in the economy. Easing does not herald in a boom.
With this in mind we note the Bank of England also delivered on expectations last night, increasing its asset purchases (QE) by GBP 50bn to GDP 375bn. The UK economy is also staring at recession, just before the attention of the world is squarely focused on London.
So last night we had three of the world's major economies effectively devaluing their currencies, with a fourth (the US) expected to follow suit sooner rather than later. One would assume that gold must have had a real kicker last night on this confirmation, but instead gold fell US$11.30 to US$1603.90/oz. Clearly the strong US dollar was a factor, but gold's drop speaks more to “risk off” as the world comes to appreciate that mass stimulus is not such a good sign.
While the euro finished decidedly weak last night, European stock markets were not too fazed. France fell 1.1%, but Germany only fell 0.5% and the UK managed a 0.1% gain. Over in the US, Wall Street had its own economic data to digest as traders nursed independence hangovers.
The US service sector PMI fell to 52.1 in June from 53.7 in May. The result is not as bad as the manufacturing equivalent ,which fell into contraction, but worse than expected nevertheless. On the other hand, the June ADP private sector jobs number showed a full 176,000 jobs created when economists had expected a mere 100,000. Wall Street is littered with the corpses of those assuming a direct read-through from ADP to non-farm payrolls, but the result was enough to have Goldman Sachs lifting its forecast of total jobs added to 125,000 from 75,000.
The result is out tonight, and given much disappointment has previously resulted from being too optimistic ahead of the release, and not to mention the generally dour mood emanating from Europe, Wall Street could not hang on to earlier gains.
The stronger US dollar left commodity prices a little soggy last night. Base metals all fell around 0.5% and West Texas dropped US86c to US$86.80/bbl. Brent, however, gained US57c to US$100.70/bbl. The Aussie dollar remained steady at US$1.0286.
The SPI Overnight fell 9 points or 0.2%.
So tonight it's US jobs, and last night's precursor might suggest a good result. But will a good result be “good” or will it diminish expectation of QE3? Strewth, we do this every other year – spend months bouncing around meaninglessly on “will he, won't he?” Bernanke tipping. It does get rather tiresome.
What we must also note is that Alcoa will report its June quarter earnings result on Monday night, thus kicking off the next US earnings season. Last quarter we led in with depressed expectations, only to yet again surprise to the upside, and this season the expectations are again a bit pessimistic. We can only now wait and see, and the season lasts a good month.
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