The Overnight Report: Weather Or Not

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By Greg Peel

The Dow fell 302 points or 1.9% while the S&P lost 2.3% to 1741 and the Nasdaq dropped 2.3%.

Bridge Street has all but shut up shop these past two sessions, with China on holidays, earnings results about to flow and an RBA meeting today. The index has been unmoved, ignoring Wall Street, the overnight futures, and yesterday a 2% fall in the Nikkei. With regard to monetary policy, yesterday’s economic data highlighted the extent of the balancing act the central bank must perform.

Australia’s manufacturing PMI fell for the third consecutive month, to 46.7 in January from 47.6 in December, implying the pace of contraction is increasing. Meanwhile the government is to consider an aid package for farmers unable to pay their debts due to drought. ANZ’s job ads series fell for the 21^st month of the last 23.

But house prices jumped again, to mark a 10% gain over 12 months. Building approvals eased in December, but were up 22% for the year. Yet clearly the pace of construction is insufficient to impact on the price of existing housing.

The RBA can also look to China, where recent data have also been weaker and the shadow banking system is again under scrutiny. China’s manufacturing PMI fell to 50.5 from 51.0 officially or to 49.6 from 50.5 on HSBC’s numbers. China’s official service sector PMI fell to 53.4 from 54.6 – still in expansion territory, but a five-year low.

And Wall Street is tanking. As to why it’s tanking, there are many elements to consider.

On the micro scale, price/earnings ratios were pushed to the limit in 2013 and December quarter earnings results and guidance are failing to provide the requisite justification. On the macro scale, the Fed is easing off the stimulus which, while having its own implications at home, has sparked an emerging market crisis as capital flows back to the US. Wall Street is also looking at China. And Wall Street is looking at recent economic data that have been clearly to the weak side.

The US manufacturing PMI plunged to 51.3 in January from 56.5 in December. This is the most recent in a run of disappointing numbers which began with the surprisingly weak December jobs number posted almost a month ago, and which have raised the question as to whether the Fed is premature in turning off the money taps. But the US has sat under heavy snow for two months and after a brief respite to ensure the Super Bowl wasn’t interrupted, the snow was back last night. The weather has been used as the excuse for all weak data releases since the December jobs release, and the January jobs numbers are due on Friday. Presumably they too will be snow-affected.

And then at the end of the day, US stock markets have run for a record period without a correction. That’s why, despite the sharpness of the selling, there appears to be little panic. Many in the market are welcoming this pullback. It is typical for stocks to be sold down on the last day or two of any month and bought back again on the first session of the new month. This didn’t happen last night, and indeed it is the worst start to any month since 1982. The S&P has now hit the 5% pullback mark. How far can it go?

It’s something for Janet Yellen to ponder. She officially became Fed chair last night. Thanks for coming.

Over in Europe, the ECB is facing its own dilemma. The eurozone PMI rose to 54.0 from 52.7 to mark the best result since May 2011, as Germany surged and even France showed improvement. Yet data on Friday showed annual inflation growth in the bloc of only 0.7%, suggesting the ECB needs to lower rates to avoid deflation and an implicit increase in the real value of debt. The ECB holds a policy meeting on Thursday.

The Bank of England also meets on Thursday, but the UK continues to be the star performer across the pond – at least economically. The UK PMI fell to 56.7 from 57.2 but remains solidly in expansion territory.

The US dollar index fell 0.3% last night to 81.02. But selling in emerging market currencies has not let up, with the Turkish lira down another 1.1% last night, the South African rand down 1.1% and the Indian rupee down 0.4%. Gold rose US$13.30 to US$1256.90/oz.

There was a rush into US bonds. The ten-year yield fell 9 basis points to 2.58%, suggesting to some that there’s more to the recent weak US data than just the weather, and that the emerging market crisis is of sufficient concern. The VIX volatility index jumped 16% to 21.5, suggesting that while there’s no real sense of panic, protection is being sought just in case. The VIX had not exceeded 22 since mid-2012, and indeed a trade above 20 has over that period signalled a market bottom.

The Aussie is the rabbit in the headlights, unmoved at US$0.8750.

When China goes on holidays the metals markets usually go quiet, but last night saw 1% to 1.5% falls in aluminium, lead, nickel and zinc, while copper fell 0.3% and tin was steady. West Texas crude fell US90c to US$96.59/bbl on the weak US PMI, while Brent dropped US22c to US$106.16/bbl.

Can Bridge Street ignore the futures lead again today? The SPI Overnight is down 99 points or 1.9%.

It’s not a great day for Challenger Diversified ((CDI)), Downer EDI ((DOW)) and REA Group ((REA)) to be releasing their interim results. The market nevertheless does not expect the RBA to cut its cash rate this afternoon.
 

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