The Monday Report

This story features ANZ GROUP HOLDINGS LIMITED, and other companies. For more info SHARE ANALYSIS: ANZ

By Greg Peel

No Bottom Yet

The benign close on Bridge Street on Friday is not much worth analysing, given all that has transpired in the meantime. Suffice to say industrials and telcos posted 1% falls and the resource sectors lost 0.6%, but the banks were slightly positive and a bit of green elsewhere resulted in a close of down 8 points for the ASX200.

Of more significance is the reality that a bottom is clearly not yet nigh for crude oil prices, despite what appeared to be some bottom-picking activity last week. West Texas crude fell US$1.25 or 3.4% on Friday night to US$35.48/bbl, representing a seven-year low. Brent fell US$1.84 or 4.6% to US$37.90/bbl.

Renewed selling was triggered by a report from the International Energy Agency which downplayed any expectation for a recovery in oil prices in 2016. The IEA is pessimistic about any easing in global oversupply ahead of a ramp-up of Iranian production once sanctions are lifted. The Agency was particularly critical of OPEC, blaming the bloc’s “freewheeling” supply policy.

OPEC’s total output in November was 900,000 barrels per day more than the estimated demand rate for OPEC crude in 2016.

The oil price fall proved another kick in the teeth for Wall Street, which is struggling to put together any sort of traditional late-year rally. The US stock indices posted their biggest one day falls since August, led down by the energy sector. The Dow closed down 309 points or 1.8% while the S&P lost 1.9% to 2012 and the Nasdaq fell 2.2%.

But it was not just the price of oil, per se, which spooked Wall Street.

I have warned in this Report recently of the flow-on risk into the US financial sector of junior shale oil producer defaults and bankruptcies due to persistent low oil prices. Many an oil producer has funded costs through high-yield junk bond issues and the potential for default is putting a lot of pressure on the junk bond market.

So much pressure that the high-yield Third Avenue Focused Credit Fund announced on Friday night a freeze on investor redemptions. Third Avenue is concerned the rush to redeem would lead to a fire sale of the fund’s assets at destructive prices. The freeze will allow Third Avenue to liquidate the fund in an orderly fashion. It hopes.  

The last time frozen redemptions were front page news on Wall Street was in 2008. And it is not going to help junk bond markets that the Fed is expected to make its first rate hike this week.

Despite that expectation, the US ten-year Treasury yield fell 10 basis points on Friday night to 2.14% as investors rushed to withdraw their investments in high-risk, high-yield instruments and  transfer into safe haven government bonds. Heightened fear was also apparent in the VIX volatility index, which jumped 27% to 24.6, taking it into nervousness territory.

Trade War

And it was not just the price of oil, or junk bond issues, that spooked Wall Street on Friday night.

In the wake of the inclusion of the Chinese renminbi in the IMF’s basket of global reserve currencies, the PBoC announced on Friday it was planning to loosen the currency’s peg against the US dollar and instead switch to a peg to a basket of global currencies – potentially 12 to 13 in total. The central bank is yet to provide details on currency weightings, or just how the switch will come into effect.

But it was not lost on markets on Friday night that the move amounts to a further devaluation of the renminbi. The fear is that in trying to revive its flagging export sector, China is orchestrating a trade war. The peg announcement on Friday follows an announcement from Beijing earlier in the week that export taxes on steel, pig iron and other products would be reduced, potentially leading to further dumping of cheap steel on global markets.

What Beijing should really be doing is addressing China’s steel production overcapacity, and indeed overcapacity in the refining of a range of metals. But to do so too aggressively would bring about the sort of social backlash Beijing forever fears, given the implicit loss of jobs. Capacity reduction will thus be a very long process, one presumes.

The whole point of the ECB’s beefed up QE policy is to lower the euro to ensure Europe’s export-led economy can recover. Japanese QE has a similar goal. With the PBoC now becoming aggressive in its own currency devaluation attempts, one wonders just where the “race to the bottom” and subsequent trade war potential can end.

And all the while, the Fed is set to raise.

The impact of the PboC announcement on Friday was evident in moves on European stock markets on Friday night. A 2.2% fall in London is understandable given the weighting of energy stocks in the FTSE, and renewed oil price weakness. But oil weakness is good for energy-importing European countries, yet the German stock market fell 2.4% on Friday night and France 1.8%.

But on the other side of the coin, the world in general is desperate to see the Chinese economy stabilise. Beijing might be ready to fight a battle in export markets, but for other export economies, China is critical as a customer. This means everything from US iPhones to German heavy machinery, French wine and Australian iron ore.

In this front there was actually good news over the weekend. Beijing provided China’s November “data dump” on Saturday.

Industrial production rose to 6.2% year on year growth, beating forecasts of 5.7%. Retail sales posted the strongest reading of 2015 with a gain of 11.2%. And at 10.2%, year to date fixed asset investment also proved to be better than expected.

The numbers suggest Beijing’s many and various stimulus efforts over the year may finally be starting to gain some traction. This is good news, but in the context of all else that’s happening in China, and of falling oil prices, the impact will no doubt still be lost as markets enter the new week.

Other Commodities

Iron ore fell another US50c to US$37.00/t on Friday night.

The US dollar index fell 0.4% to 97.57 (the renminbi is not in the index basket) which should have provided some support for commodities, but clearly not for oil or iron ore. But there were at least some positive moves for base metals prices in London.

US-based Freeport-McMoRan is now among those global resource sector companies announcing planned production curtailments. While Beijing may be moving very slowly on addressing overcapacity in China, Chinese metal smelters are themselves taking a more active stance in addressing their own oversupply issues. There is thus a glimmer of optimism returning to beaten-down base metal markets.

On Friday night copper jumped 1.9% and nickel 1.7%, while lead rose 1.1% and zinc 0.8%. Only tin and aluminium remained subdued.

Gold was US$5.00 higher at US$1077.30/oz.

The Aussie dollar fell a full 1.4% to be at US$0.7188 on Saturday morning, thanks to oil and iron ore prices, but has rebounded somewhat this morning to US$0.7203 thanks to the positive Chinese data released over the weekend.

The SPI Overnight nevertheless closed down 73 points or 1.5% on Saturday morning.

The Week Ahead

It’s the big one on Wednesday night. You may have heard about it. The Fed will hold a policy meeting and provide quarterly forecast updates, and Janet Yellen will hold a quarterly press conference.

It is not expected that any US data release ahead of that meeting will affect the Fed’s decision. This week’s releases include the CPI, housing sentiment and the Empire State activity index on Tuesday, housing starts and industrial production along with the Fed statement on Wednesday, and leading economic indicators and the Philadelphia Fed activity index on Thursday.

Friday is the quarterly quadruple witching derivatives expiry in the US, which itself often provides for heightened volatility, and being so soon after the Fed decision one presumes this may well be the case.

Japan and the eurozone will release trade and industrial production data this week and both the ZEW and IFO surveys will be closely watched in Europe.

New Zealand will release its September quarter GDP result on Thursday.

Australian data releases are thin on the ground this week, other than house prices and vehicle sales tomorrow. Tomorrow also sees the release of the minutes of the RBA’s December meeting and the government will deliver the mid-year budget update. An RBA Bulletin will be released on Thursday.

On the local stock front there is a trickle of AGMs this week including those of both ANZ Bank ((ANZ)) and National Australia Bank ((NAB)) on Thursday.

The ASX sees its own form of “quadruple witching” expiry on Thursday, and on Friday the recently announced changes to S&P/ASX index constituents come into effect.

Rudi is now off on his annual break and thus will not be making any media appearances until the new year.

For further global economic release dates and local company events please refer to the FNArena Calendar.

Find out why FNArena subscribers like the service so much: "Your Feedback (Thank You)" – Warning this story contains unashamedly positive feedback on the service provided. www.fnarena.com

Click to view our Glossary of Financial Terms