Weekly Update - Yields rise on oil cuts and data

There are signs that global manufacturing activity could be bottoming, although seasonal effects may exaggerate the improvement.

The RBA kept interest rates on hold on Tuesday. Australian Q2 GDP was in line with expectations but contained some worrying trends related to consumer spending.

This week, Australian unemployment is expected to remain steady, and the ECB will likely keep rates on hold, while US headline CPI is forecast to reaccelerate.

Last week, rising bond yields made it difficult for growth assets to hold on to the previous week's gains despite a slight improvement in the global activity outlook. The US dollar strengthened.

There were few surprises in the Australian Q2 GDP report. The quarterly change of +0.4% was in line with expectations, while the annual figure slowed by less than expected to +2.1% yoy as the previous quarter’s figure was revised slightly higher. However, GDP per capita was negative for the second quarter in a row, decreasing by -0.3% over the 12 months ended June. Underlining the ongoing pressure on consumers, household consumption fell to just +0.1%, even as the household saving-to-income ratio fell for the seventh consecutive quarter to 3.2%, its lowest level since June 2008.

Inflation expectations rose after a surprisingly strong ISM Services report showed a reacceleration in prices. At the same time, Russia and Saudi Arabia announced they would extend the production cuts due to expire this month until the end of the year. The Brent crude future rose +2.4% over the week and is up +4.4% since the beginning of the month.

The next US CPI reading is due out on Wednesday this week. Headline CPI is expected to rise from +3.2% yoy to +3.6% yoy, while the annual core inflation rate, excluding food and energy price changes, is expected to continue to decline from +4.7% yoy to +4.3% yoy.

The stronger ISM reading was accompanied by a drop in weekly initial jobs claims from a revised 229k last week to just 216k. The numbers were surprisingly positive, even allowing for the cleaning up of 5k fraudulent claims from Ohio.

The data is not universally strong, but the improvement is broad enough to have pushed the Atlanta Fed.’s GDP nowcast estimate to as high as +5.6% for the current quarter. The improvement appears exaggerated and is likely to moderate before reaching the end of Q3 this month.

The positive change seems to be attributable to a combination of seasonal effects and what may be a bottoming of the global manufacturing slowdown. With inventories relatively low, an improvement in new orders is refuelling optimism that manufacturing is recovering, and that the US may be able to avoid a “hard landing”.

There were also more positive developments on the other side of the Pacific. The Caixin China Services PMI was weaker than expected at 51.8 but still signalled mild expansion. The increase in the manufacturing PMI from 49.0 to 51.0 translated into an annual decline in exports (-8.8%) that was not as weak as feared and showed a clear improvement on last month’s -14.5% yoy decline. It was a similar story for imports, which improved from -12.4% yoy to -7.3% yoy. Consumer price inflation also climbed out of deflationary territory to +0.1% yoy in August.

However, there was a sudden plunge in German factory orders from +3.3% in June to -10.5% yoy in July. US factory orders also dropped sharply by -2.5% in July, although excluding transportation (aircraft) orders, the figure was a much better +0.8%.

Given the noise in the data, it’s likely too early to say whether the improvement will be maintained or the seasonal effects will reverse in the coming months. Even with the higher expected CPI reading, the market is still not expecting the Federal Reserve to raise rates again this month or in November. This Thursday, the market expects the ECB to remain on hold at 3.75%.

The RBA also kept rates on hold at 4.1% last Tuesday. The statement had remarkably few changes, with the only significant modification referencing risks emanating from the Chinese real estate sector.

In his final speech as Governor at the annual Anika Foundation event, Dr Philip Lowe reflected on some of the longer-term issues facing the RBA, including lamenting that the recent review had not explored the links between fiscal and monetary policy.

He also discussed the need for strong economic policy frameworks, the importance of raising productivity and the fact that credit and asset prices cannot be ignored in setting monetary policy. Over the weekend, the G20 managed to finalise a joint communique. However, there was obvious tension between the major trading blocs. Presidents Xi and Putin did not attend.

Besides US CPI figures and the ECB meeting this week, the latest Australian business and consumer confidence surveys will be published. August unemployment is expected to have remained at 3.7% when released on Thursday. The latest monthly data updates from China will follow on Friday.

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