BREXIT IN A DITCH
Oct 31 was when Britain was to exit the European Union, with Prime Minister Boris Johnson saying he would rather be “dead in a ditch” than delay Brexit again. But with the UK parliament failing to play along, he’s been forced to ask for an extension and the EU will decide on Monday or Tuesday long it will be.
Presumably unwilling to die in a ditch, Johnson is still holding out hope that parliament will pass his Brexit deal with only a short delay, or agree to a general election that might give him a majority to ram through his deal. So what next?
A disorderly Halloween Brexit looks unlikely. As to the outcome of an election, if there is one — anyone’s guess. Polls suggest Labour are lagging Johnson’s Tories but these have proved unreliable in the past. So, what we will get for sure is Brextension and also possibly an election. German wealth manager DWS, meanwhile, remind us of another option — cancelling Brexit altogether. That seems unlikely but DWS reckons chances of this are close to 50:50.
JUST ONE MORE TIME..
There are no guarantees in life, but a 25 basis point Fed rate cut next week is widely considered a sure thing. You can see it in the CME’s FedWatch tool, where odds of a cut in the fed funds target rate to 1.50-1.75% are at 94%. That’s up from about 84% a week ago and 64% a month ago.
The expectations are also apparent in the yield curve, where the spread between 2-year and 10-year Treasuries has widened to around 18 basis points. It was below 4 bps just after the Fed’s last rate cut. That slice of the curve inverted in August, sparking fears of a U.S recession that would force the Fed to join the negative rate situation of other developed economies.
The 3-month/10-year yield curve too has turned positive after being inverted for the most part of six months. That’s down to a fall in shorter-dated yields, reflecting confidence the Fed has at least one more cut up its sleeve.
What next though?
Clues may lie in U.S. company earnings. As we near the half-way mark for the Q3 season, we’ve seen more upside surprises than misses from S&P 500 companies. That’s giving investors a reason to be optimistic about the business cycle. With Friday’s October payrolls report likely to show unemployment at its lowest level in half a century and wages ticking up, not too many folks will want to bet the house on a December Fed rate cut.
SLOWER, DEEPER, LONGER IN JAPAN
Once the Fed meeting is past, attention will turn to the Bank of Japan which announces a policy decision the following day. The BOJ is likely to warn markets of slower economic growth than expected and also that policy rates might go even deeper into negative territory. Such messaging would indicate the super-easy policy bias will be extended until possibly end-2020.
Governor Haruhiko Kuroda says the BOJ could “certainly” cut rates further and analysts reckon a move to -0.2% or even -0.3% are possible from the current -0.1%. But no one is quite sure what it would take to make that cut.
Export-reliant Japan is already smarting from the trade war and slowing global demand. A higher sales tax rate has just kicked in. And Japanese banks are feeling the pain of a flat yield curve that keeps even 10-year yields negative. But given the BOJ isn’t given to shock and awe, there’s palpably more excitement over Tokyo’s tiffs with the International Olympic Committee on the schedule for road athletics than next week’s policy meeting. More negative policy rates could leave investors as bleary eyed as the early morning marathoners.
BANKS: TIME FOR A BOUNCE?
Coming up: A crucial week for European banks. Names such as Deutsche Bank, HSBC, Credit Suisse, ING, BNP Paribas, and Santander will report third-quarter numbers and by Friday, results from 61% of the sector will be known.
Euro zone lenders’ travails are well known, their margins relentlessly pressured by the euro zone’s ultra-low interest rates. No surprise analysts have been downgrading earnings estimates for 19 straight months. Little joy is expected in Q3.
But — and there is a but.
With the Brexit fog starting to dissipate and so much growth gloom already priced in, it might just be time for investors to turn a blind eye to bank margins and focus on the positives. And banks will benefit, albeit only slightly, from tiered ECB rates that should offer a small reprieve from penalty charges they pay on idle cash.
Moreover, bank shares are cheap, carry dividend yields close to 6% and are this year’s worst performing European sector. If an economic recovery materializes, they should be first in line to benefit.
PREDICTABLY UNPREDICTABLE
rom Hong Kong to Beirut to Santiago, protests and civil unrest have been raging, posing a headache for investors as well as governments.
Hong Kongers have been protesting for greater democracy for five months, while in Chile tens of thousands have gathered for mainly peaceful protests over inequality. In Lebanon, banks have been shut for seven working days as hundreds of thousands flooded the streets in anger at the political class, while in Baghdad a protestor has died after being struck in the face by a tear gas canister.
With many money managers and risk analysts fearing the world might be on the cusp of its first recession in more than a decade, the root cause of unrest – inequality, joblessness, government spending cuts and corruption – may only deepen.
All that is upping concerns that governments may unwind reforms and embark on spending splurges to placate the masses. But fiscal loosening in a world swamped with debt and heading into another downturn will unnerve creditors and bond holders, especially those holding government debt as an insurance against recession and a haven from volatility. Investors’ focus in coming weeks may be on the streets of global capitals.
