Main Themes: Investors continued to whet their appetite for risk after the China-US trade truce over the weekend. However, weaker readings for purchasing managers’ indices in the US, Europe and the UK led gains in US equities and bond yields to be pared. Locally, markets are focussing on the RBA meeting later today. Financial markets are priced for a rate cut from the RBA.
Share Markets: US share markets pushed higher, as the trade truce between US President Trump and China’s Premier Xi inspired investors to whet their risk appetites. The Dow Jones index closed 117 points higher (or +0.4%) and the S&P 500 index jumped 23 points (or +0.8%) to a new record of 2,964. These share market bourses were higher during the session, but pared some gains by the close due to weaker economic data.
Interest Rates: US 2-year treasury yields closed 3 basis points firmer at 1.79% and near the session high of 1.80%. US 10-year bond yields ranged between 2.00% and 2.05% and closed 2 basis points higher at 2.02%. Interest-rate markets continued to price around 32bp of easing at this month’s Federal Reserve meeting. A total of four rate cuts remain priced in by mid 2020.
Australian 3-year government bond yields ranged sideways between 0.92% and 0.94%. Australian 10-year bond yields traded between 1.33% and 1.36%. Interest-rate markets are attaching a probability of 76% to a 25 basis point rate cut from the RBA today.
Foreign Exchange: The US dollar index rose overnight from a low of 96.35 to near 96.9 and remains near this session high at the time of writing. Demand for the US dollar was helped by the stronger result for the US manufacturing purchasing managers’ index (PMI) compared with the Eurozone and the UK. EUR/USD fell from around 1.1370 to 1.1281. This fall was also underpinned by dovish comments from the European Central Bank’s new chief economist Lane contributing. USD/JPY ranged sideways between 108.20 and 108.53.
AUD/USD has depreciated ahead of the RBA board meeting and policy decision. The AUD/USD exchange rate fell from an overnight high of 0.7035 to a six-day low of 0.6956 and remains near this low now. Higher iron ore prices will help limit the downside for the AUD in the near term.
Commodities: Iron ore surged 4.5% to a fresh five-year high of US$123.35/dmt overnight, boosted by forecasts of declining Australian export shipments. Oil also closed higher, as an OPEC deal to extend output curbs by another nine months outweighed weaker PMI outcomes in the US, Europe and UK. However, gold recorded a sharp drop, as the demand for safe-haven assets continued to ease in the wake of a trade truce between Trump and Xi.
Australia: Dwelling prices across the Australian eight capital cities extended their decline for the 21st consecutive month, according to Core Logic. Prices fell by 0.1% in June, but this was the smallest decline since March 2018. Furthermore, it is the sixth consecutive month the fall in prices has lessened. The improvement was driven by Sydney and Melbourne. In Sydney, dwelling prices lifted by 0.3% in June, which was the first lift in two years. In Melbourne, prices rose by 0.2% in June, the first rise in 19 months. Dwelling prices might be nearing a bottom in these two cities, although prices are likely to hold around the bottom for some time.
The AiG performance of manufacturing index fell from 52.7 in May to 49.4 in June, moving into contraction territory for the first time since 2016. The drought was a factor weighing on conditions for manufacturers. In addition, weaker residential construction and softer consumer spending contributed to the softer reading.
The Melbourne Institute’s inflation gauge was flat in June for the second consecutive month. The annual rate edged down from 1.7% in May to 1.6% in June - the weakest in five months. The result suggests inflationary pressures remain subdued.
The RBA meets later today and we are forecasting a rate cut of 25bp to take the cash rate to 1.00% at this meeting. Market pricing is attaching a 75% chance to a rate cut today. We see this pricing as reasonable, as there is some prospect the RBA Governor chooses to wait and cut in August. We feel the RBA should not wait to cut, as the economic data is suggesting the economy needs more stimulus. However, there is some risk that the RBA waits to assess how the economy is evolving after a rate cut just last month.
China: The Caixin manufacturing PMI fell from 50.2 in May to 49.4 in June. It is back below the 50 level signalling contraction and it is the lowest reading in five months. Both this measure and the official PMI released over the weekend are telling a similar story of weakening manufacturing activity.
Europe: The unemployment rate fell from 7.6% in June to 7.5% in May. It is the lowest unemployment rate since July 2008.
The final Markit reading for the manufacturing PMI for June was 47.6 and was below the flash reading of 47.8. June’s final reading is also lower than May’s outcome of 47.7. Survey respondents indicated worries about the economic slowdown and weak forward-looking components.
Japan: The Tankan survey indicated a weaker outlook for the manufacturing sector. The large manufacturing index fell from 12 in the March quarter to 7 in the June quarter, the weakest outcome in nearly three years. For non-manufacturing, the index lifted from 21 to 23, but the outlook eased from 20 to 17. The data raises more doubts about whether the recent strength in industrial output can be sustained.
United Kingdom: The manufacturing PMI fell to 48.0 in June, from 49.4 in May. A reading below 50 indicates that manufacturing is in contraction territory.
United States: The ISM measure of manufacturing fell to 51.7 in June, from 52.1 in May, but remained in the expansionary territory (which is above 50.0). The new orders and prices indices fell to a 3½-year low of 50.0 and 47.9, respectively, but the employment sub index rose to 54.5 in June.
Markit’s manufacturing PMI was revised a touch higher to 50.6 in June, from the preliminary estimate of 50.1.
Construction spending dropped 0.8% in May, after an upwardly revised rise of 0.4% in April. Both residential and non-residential output posted declines in the month.
Today’s key data and events:
NZ Building Permits May prev -8.0% (8.45am)
AU RBA Board Meeting Jul exp 1.00% prev 1.25% (2.30pm)
AU RBA Governor Lowe Speaks (7.30pm)
EZ German Retail Sales May exp 0.5% prev -1.0% (4pm)
UK Nationwide House Prices Jun exp 0.2% prev -0.2% (4pm)
Besa Deda, Chief Economist