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FX Update - Chinese stock market blowout remains the primary concern

Written by Ian Dobbs on July 7th, 2015.      0 comments

2:30pm(NZT)
Market Overview:
After five months of negotiations, countless deadlines and one referendum, are we any closer to an agreement between Greece and its creditors? The short answer is no. In fact for almost all major forecasting institutions the base case scenario is now a Greek exit. It’s still a very fluid situation but with the Greek economy close to collapse and relations between the two sides are at an all-time low, conditions are hardly conducive to a productive dialog. Meanwhile in China, authorities are struggling to contain the bursting of a stock market bubble. The three week plunge in Chinese equities of almost 30% wiped out close to US$3.0 trillion in market value, more than ten times the gross domestic product of Greece last year. For New Zealand and Australia what’s going on in China is far more important than the never ending Greek saga. The Chinese central bank's efforts to stabilize the market just over a week ago by cutting interest rates and reducing reserve requirements failed to do the job. This past weekend they went a step further with a range of measures, the most eye opening of which is to effectively to pledge billions of central bank funds to a market stabilization funds that will buy stocks through 21 major security houses. This helped the market bounce over 7% at one stage yesterday, but at the close it was only 2.4% higher. Some 80% of transactions in China’s stock market are carried out by unsophisticated ‘retail investors’. The 20 million or so trading accounts opened from mid-April to mid-June are currently badly underwater and you have to imagine they will all be happy to exit their trades on any potential bounce. The action taken by the Chinese authority’s shows just how worried they are about the negative economic consequences of a stock market collapse.
 

Australia
The Australian dollar has seen real pressure over the past week as disappointing data and soft commodity prices have weighed. Retail sales for May came in below expectation at +0.3%, with the prior result also revised down a touch. The Australian trade deficit narrowed in May, but not by as much as expected. April’s deficit was also revised to be even wider than originally reported. Iron ore, which is such a key commodity for Australia has fallen more than 10% in a little over a week. Production in Australia and Brazil is not being met with demand from China and few are predicting the situation to improve any time soon. All of this will be of concern to the Reserve Bank of Australia (RBA) who have their regular interest rate meeting today, the result of which will be release at 4.30pm AEST. Although no one is expecting a cut from the central bank today, they may well reinforce their easing bias. On Thursday we have employment data to digest and with issues creeping into the compilation of the figures over recent months, it’s been a tough one to predict.
 

New Zealand
The only economic data of note released since last week’s poor dairy auction has been the NZIER’s Quarterly Survey of Business Opinion (QSBO). It hit the wires earlier this morning and confirmed other confidence indicators that have shown declines recently. The QSBO declined from 23 prior to a reading of just 5 in the second quarter. That’s the lowest level in three years. Developments in China, further weakness in dairy prices, and declines in confidence indicators are all combining to see many forecasters calling for two, or even three, more interest rate cuts from the RBNZ. The New Zealand dollar has been weighted on by all of the above, and along with a healthy dose of risk aversion early on Monday morning thanks to the Greek referendum, it traded to a fresh five year low against the USD. There is no other economic data scheduled for release from NZ this week, but with plenty of action in the wider market volatility will remain high.
 

United States
Recent economic data from the United States has been somewhat underwhelming, and it won’t have strengthened the case for a September interest rate hike by the Fed. The non-farm payrolls figure came in below expectation at +223k, although that is still a healthy level of job gains. The unemployment rate fell to 5.3%, close to what the Fed considers full employment, but its decline was driven by the participation rate - the share of the working age population in the labour force - falling to the lowest level in 40 years. More concerning was the stagnant wage growth which came in flat versus +0.2% expected. That caused the year on year rate of wage growth to fall back to 2.0% from 2.3%. That’s hardly going to convince the Fed that a pickup in inflation is just around the corner. Factor order data also hit the wires late last week and this too came in softer than forecast. The report also contained negative revisions to core durable goods orders, which have now shown no growth in over a year. Last night we got the latest reading of ISM non-manufacturing PMI. The index did increase to 56.0, but this was below forecasts which had been for an outcome of 56.5. Still to come this week we have the trade balance, the FOMC minutes, weekly unemployment claims and a speech from Fed Chair Yellen to digest.
 

United Kingdom
Although manufacturing PMI from the UK declined last week, we did see improvements in both the construction and service sector readings. Both those PMI’s also came in above forecast and this suggests the economy should continue to grow at a reasonable pace. Growth in the service sector is of particular importance as it makes up two thirds of the UK economy. The PMI outcomes are consistent with growth picking up from 0.4% in quarter one to 0.5% in quarter two and it keeps a Bank of England (BOE) interest rate hike in the next six months well on the table. Tonight we get manufacturing production data then later in the week we have the BOE rate meeting to draw focus.
 

Europe
Greece has again dominated headlines not only in Europe, but around the world this week. The referendum held on Sunday produced a resounding ‘no’ vote to the previously proposed conditions of further reform and austerity demanded by Greece’s creditors before any more financial assistance it granted. PM Tsipras believes the referendum has strengthened his hand in negotiations. The reality is he has burnt any bridges with creditors who now have deep distrust of him and it’s going to be harder than even to come to an agreement. He’s also pushed the country to the brink of economic collapse. If he doesn’t reach a deal extremely soon, there won’t be much of an economy left to rescue. The banking system is teetering on the brink of insolvency. It has only kept alive the past few months with emergency liquidity assistance from the ECB. Against all promises from the Greek government before the referendum, the Greek banks will not be opening today or tomorrow. If this goes on for much longer a social catastrophe will unfold. Shops are already ready running of stock and soon hospitals will run out of medicine. It’s hard to see how a referendum has helped the situation. What has strengthened PM Tsipras’ hand at the negotiating table was the release of an IMF report on Thursday that showed the IMF have believed for a long time that Greece’s debt level is unsustainable. Yet the EU, ECB and IMF have steadfastly refused to talk about a debt renegotiation during negotiations to date. The coming days will be critical to see if there is any chance the two sides can come together, but for most forecasters it looks very much like a Greek exit is on the cards.
 

Japan
The key economic release from Japan in the past week was the quarterly Tankan survey. It’s a massive survey of business sentiment with a near 100 per cent response rate, and this makes it one of the best barometers of economic health in Japan. It continued to show a theme that’s been prevalent for some time now, with improving confidence indicators for large manufacturing and non-manufacturing companies, but stagnate readings for smaller firms. The weaker Yen is certainly helping large manufacturers who also forecast strong capital expenditure plans for the year. This will have made pleasing reading for the Bank of Japan (BOJ) after recent mixed data suggests the economy may have it a temporary soft patch in the second quarter. Still to come this week we have the current account, core machinery orders and consumer confidence data.
 

Canada
The only data released in Canada since last Wednesday’s disappointing GDP figure, was the Ivey PMI reading out last night. The index fell to a three month low at 55.9 from a prior reading of 62.3. Although a decline was expected, this pressured the Canadian dollar somewhat that has also been weighed on by recent declines in oil prices. There is still plenty to digest over the coming days with the trade balance, building permits and employment change all set for release.
 

Major Announcements last week:
  • Australian Private Sector Credit MoM +.5% as expected
  • German Unemployment rate 6.4% as expected
  • Q1 UK final GDP .4% as expected
  • European Core Inflation .8% as expected
  • Canadian GDP MoM -.1% vs +.1% expected
  • US ISM Manufacturing PMI 53.5 vs 53.1 expected
  • US Non-farm Payrolls growth 223k vs 230k expected
  • Australian retail Sales +.3% vs +.5% expected
  • NZ NZIER Business Opinion 46.4 vs 47.8 previous
  • NZ GDT Price Index -5.9%
 

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