January 5, 2016

Markets Today: An ugly start to the year

The first day of trading for many markets was a memorable one, with some big falls in equity markets. With the plunge in risk appetite, the Yen was the best performing currency

The first day of trading for many markets was a memorable one, with some big falls in equity markets. With the plunge in risk appetite, the Yen was the best performing currency.

The bad start to the year really all began following Saudi Arabia’s execution of Saudi cleric Nimr al-Nimr, a critic of the kingdom’s treatment of its Shiite minority. Over the last couple of days, this has escalated tensions between Iran and Saudi Arabia and added to mounting geopolitical risk in the Middle East. As strong words flowed back and forth between the two countries (and others, which butted in) oil prices went on a rollercoaster ride, with Brent crude rising to as high as $39 per barrel, having traded as low as $36.10 at the end of last year before the execution.

On the economic front, the release of China’s latest Caixin PMI, showed a modest miss relative to expectations, coming in at 48.2 versus 48.9 expected. Signs of further economic manufacturing contraction in China, along with the imminent ban on share trading by major shareholders about to be lifted, sparked a significant fall in Chinese equities. After falling by 5%, the first circuit breaker was triggered, and trading eventually halted after the CSI-300 had fallen by 7% for the day. Other Asian markets were affected, with Japan’s Nikkei down 3.1% and the Hong Kong’s Hang Sang index down 2.7%.

So there was enough bad news lurking around before the beginning of the European/US trading sessions, but manufacturing data added to the concerns. In the UK, the Markit PMI fell to 51.9, well below market expectations of 52.8. The US ISM manufacturing index fell to 48.2 compared to expectations for a rise to 49.0. Amongst the detail, the employment component was particularly weak, falling to 48.1 compared to 51.3 the previous month. As if that wasn’t enough bad news, construction spending data showed a 0.4% m/m contraction in November, well below market expectations for a 0.6% increase. Lost in the mix of bad data was a European manufacturing PMI figure that was broadly in line with expectations at 53.2.

The combination of geopolitical concerns in the Middle East, weak economic data in China and the US, and thin holiday trading markets was a deadly one that saw some big moves in equity markets. Following the carnage in Asia, Europe’s Stoxx 600 index fell by 2.5%, the FTSE100 fell by 2.4%, Germany’s DAX was down by 4.3% and the S&P500 is down 2.2% as I write. This is one of the weakest ever starts to trading for equity markets. Thankfully, the first day of trading for the year has no predictive power for the rest of the year.

In currency markets, the Yen flourished. USD-JPY traded as low as 118.70, after being around 120.30 before the Chinese PMI data were released. There has been a recovery of sorts for the US dollar, with the cross currently sitting at 119.30.

Notably, the US dollar has also been well supported, and is the second strongest currency of the majors, even managing to eke out a small gain against the Swiss franc in this risk-off environment.

EUR/USD has traded in a roller-coaster like fashion. After trading at 1.0827 before China’s PMI, the cross zipped up to 1.0946 last night, before falling to 1.0781 early this morning, and it currently sits at 1.0825. GBP/USD largely followed that ride, trading in a range of 1.4663-1.4816 and currently sits at 1.4712.

Hardest hit were the EM and commodity currencies. In the last 24 hours the NZD has been the hardest hit. NZD/USD is down 2%, trading as low as 0.6720 just before NZ sunrise, and currently sits at 0.6750. The NZD was well overdue for a downward correction, following its strong spurt in December. In December, NZD/USD was up 3.8%, being the strongest performing major currency, despite lower risk appetite, falling commodity prices, and a narrowing NZ-US short rate spread.

The AUD has also been out of favour and has fallen more or less in line with the NZD. After spending much of yesterday morning hovering just below 0.73, it has fallen steadily since and traded as low as 0.7156 this morning and currently sits at 0.7185. AUD/NZD has traded in a rough 1 cent range over the past 24 hours, between 1.0620-1.0710 and currently sits at 1.0650.

Despite the carnage in equity markets, US Treasuries showed only a modest fall. The 10-year rate drifted lower in a fairly orderly fashion and currently sits 3bps lower at 2.24%, having traded in a range of 2.20-2.29% over the past 24 hours.

Investors still expect only a modest increase in the Fed Funds rate this year, closer to two 25bp increases, rather than the four rate hikes projected by the median FOMC member. The US 2-year rate sits at 1.03%, having traded as high as 1.10% at the end of last year.

The calendar over the next 24 hours is fairly light, with no major releases to help trigger further gloom. Minor releases include Germany unemployment data, UK construction PMI, EC CPI, ISM New York data and an NZ dairy auction.

If the last 24 hours is anything to go by, 2016 is shaping up to be an interesting year. Buckle your seatbelts.

For further FX, Interest rate and Commodities information visit nab.com.au/nabfinancialmarkets


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