Stocks weaker, THG strives for credibility

Stock markets looking a tad heavy in early trade Monday with all the major bourses tracking lower amid the customary cluster of inflation and slowing growth ‘fears’. The FTSE 100 eased back 0.2% from Friday’s 18-month high, losses for the CAC and DAX were larger. It’s been a mixed bag for Asia with Japan and Australia higher and Hong Kong and mainland China lower. US futures are a shade lower after a strong finish on Friday took the S&&P 500 back to within just 2% of its all-time high. Strong bank earnings buoyed sentiment – this week sees Netflix and Tesla among the big hitters and the first of the megacap momentum type names to report. Retail sales rose 0.7% in September, beating expectations in the process to show US consumers in fine health still. Chinese growth has slowed to 4.9% in the third quarter amid a crackdown on a broad range of business sectors, an energy crisis and a property market teetering under the weight of Evergrande. On a quarterly basis, the economy grew just 0.2%. Commodities are firmer, with copper re-approaching its May peak again and oil at over $82 for WTI and $85 for Brent. Nat gas is weaker though. Benchmark 10yr Treasury yields are at 1.6%. US industrial production numbers are on the taper later today.

THG’s Matt Moulding will forego his ‘golden share’ in a bid to restore confidence in the business among City investors. The plan will enable the company to apply for a premium listing on the LSE, likely in 2022, and on the face of things should go a long way to fixing a key grievance that investors have had about the company. But we should note that this dual-class structure was only ever going to last 3 years. Bringing forward the move by a year is not exactly sweeping reform. Nor is it a magic wand. Clearly, governance concerns run much deeper than a quick bit of airbrushing can cope with. And following the disastrous capital markets day last week, there are obviously far deeper concerns about the state of the business and a lack of visibility over how different parts fit together. Shares rallied 7% before paring gains – a drop in the ocean compared with the gigantic falls in recent weeks.

Sterling remains supported following hawkish comments from the Bank of England’s governor, Andrew Bailey, who said the central bank would act to curb inflation. He said that “we, at the Bank of England, have signalled, and this is another such signal, that we will have to act [on inflation].” It’s another firm signal that the BoE will act to get ahead of the curve by going early on rate hikes, with one increasingly likely this year. Markets have already braced for a swifter tightening of monetary policy, so sterling may not get much more from the BoE now.  Still momentum sides with the bulls for the time being. GBPUSD trades above 1.37 still, but has pulled back from Friday’s month high around 1.3770 with the dollar holding slightly higher at the start of the session. Meanwhile the pound has made a fresh 18-month high versus the euro.

GBPUSD Chart 18.10.2021

Bitcoin trades higher, moving closer to its all-time again as the first Bitcoin ETFs prepare to launch. The ProShares Bitcoin Strategy ETF, which will offer exposure to Bitcoin futures, could begin trading as early as today. It will trade under the ticker “BITO.” Unless there is a last-ditch intervention from the SEC, the ETF seems set to begin trading this week. Bitcoin rallied above $62k, moving ever closer to a fresh all-time high.

Bitcoin Chart 18.10.2021

FTSE makes new post-pandemic high, Bitcoin up on ETF hopes

GPs will be paid more to do what they used to do before the pandemic, like see patients face to face. This is what dislocation and the ‘new normal’ looks like: same service, costs more. That’s one of the reasons why inflation is not going to be as transitory as central bankers have been telling us.

Markets are not that concerned by this, so it seems. The FTSE 100 has broken out to a new post-pandemic high, stretching its recent range by a few more points on the upside to hit a high of 7,242 this morning. This marks a roughly 400pt reversal from the Sep 20th intraday low. It’s been a very tight range of that size since April but there are encouraging signs the FTSE can yet end the year at its pre-pandemic level of 7,700.

Why the rally? Key is energy – BP and Shell among the top performers of the last month and have a big index weighting. That’s BP and Shell, which are both up more than 20% in the last month as oil and natural gas prices have soared. WTI is back above $82 this morning. Next is the two big reopening stories – IAG and Rolls Royce, they are the best performers of the last month among the blue chips. Reopening of travel has been a major factor and we see more good news today with the move to lateral flow tests for international arrivals. Then third we have the big banks – HSBC, Lloyds, StanChart and NatWest have all rallied over 10% in the last month as rates have risen and the macro environment has held up pretty well. Bets the Bank of England is far closer to raising rates have helped, but global bond yields have also been moving higher. The FTSE is exposed to the winds of the global economy and trade, which despite it all are holding up well, and UK shares remain heavily discounted to peers. The FTSE 250, a better gauge of the UK economy, has ticked higher in the last few sessions but is down by around 5% from its Sep high.

Wall Street closed firmly higher yesterday amid a rush of positive earnings reports from the big banks. Walgreens and UnitedHealth also delivered positive results that indicate the large corporations are still able to deliver earnings growth and higher profits despite the rising costs. Supply chain problems will become more obvious when some more consumer discretionary names report, but so far the storm is being weathered. Meanwhile lower rates lifted the big tech boats. The 1.7% rally for the S&P 500 was its best day since March.

On the data front, US initial jobless claims fell below 300,000 for the first time since the pandemic, but inflation is not going away. US PPI was a tad cooler than expected but still running hot at 8.6% year-on-year, however core PPI ticked up to 6.8% from 6.7%. The headline 8.6% was the largest advance since 12-month data were first calculated in November 2010. Today – US retail sales, Empire State mfg index.

Bitcoin eyes $60,000 as traders bet the SEC is poised to allow the first exchange-traded fund based on BTC futures. The SEC is reviewing around 40 Bitcoin-linked ETFs and a report from Bloomberg suggests the regulator will approve some of these. Bitcoin spiked on the report, which indicated that Invesco and ProShares could be among the providers cleared to start trading on Bitcoin ETFs. With the kick on to the $60k level it may be a matter of time before we see a fresh all-time high.

Gold – pulling back to the 23.6% retracement as it pares gains in the face of the $1,800 test.

GBPUSD: Nudging up to the trend line again at yesterday’s 3-week high.

Stocks rally, inflation sticks, earnings on tap

Stock markets rose in early trade as investors parsed the latest signs of inflation and the central bank reaction function, whilst earnings season has got underway across the pond with some decent numbers from JPMorgan. Wall Street rose mildly, snapping a three-day losing streak. VIXX is off sharply, which maybe reflects increasing comfort that the market has stabilised, if not able to make new highs just yet.

Earnings season gives investors a chance to ignore some of the noise and market narratives and get into actual numbers. Only this time we expect the corporate reporting season to underline the inflation narrative – the question is whether it’s just inflation or stagflation. Probably we get a bit of both – watch for sandbagging. JPMorgan numbers were positive, but as ever the stock fell despite beating on the top and bottom line. Profits were boosted by better-than-expected loan losses. Trading revenues were robust, asset and wealth management strong, loan growth improving and likely to pick up in 2022. Delta Air Lines also posted numbers that topped expectations including a first quarterly profit ex-state aid since the pandemic. But higher fuel costs and other expenses will hit the fourth-quarter profit – shares fell over 5%. Today sees Citigroup, Bank of America, Morgan Stanley and Wells Fargo report.

Chinese producer price inflation rose 10.7% in September, the highest level since 1996. The China PPI number is an important leading indicator for global consumer inflation. On that front, US consumer price inflation accelerated in September to 5.4%, with prices up 0.4% month-on-month. Core rose 0.2% from August, leaving prices ex-volatile items like energy and food at 4%. US PPI inflation today is seen at +0.6%, +0.5% for the core reading.

Minutes from the Fed’s last meeting indicated the US central bank is likely to commence tapering asset purchases next month. “Participants generally assessed that, provided that the economic recovery remained broadly on track, a gradual tapering process that concluded around the middle of next year would likely be appropriate,” the minutes said.

Post the CPI and FOMC minutes we see Treasury yields lower, the dollar lower, gold firmer. Lower bond yields lifted megacap growth, or at least provided some marginal buying excuse to do so. Inflation is still hot but not getting much hotter. Narrative has clearly exited team transitory to support team sticky. The question now is whether we are at peak in/stagflation fears and this allows the market to move on to start pricing for 12-18 months hence, by which time you’d feel a lot of the post-pandemic bottlenecks and pressures will have eased. The problem for this – still team transitory if you like – is that anything that raises the costs of getting goods from source to consumer is inflationary and the pandemic has certainly been that. But so too is the shift in globalisation trends, eg Brexit.

Sterling is firmer as the dollar weakened in the wake of the CPI report. GBPUSD has broken free of the trend resistance and with bullish MACD crossover in play. Bulls would like to see the previous two highs on the MACD cleared (red line) to confirm reversal of the downtrend since May.

GBPUSD Chart 14.10.2021

Chart: Dollar index easing back to the middle of the channel, but faces pressure from bearish MACD crossover.

Dollar Index 14.10.2021

Yesterday I noted that gold was likely to face some volatility and break free from its recent consolidation. CPI numbers were indeed the catalyst and we saw gold prices hit the highest in a month, approaching $1,800 before pausing. Near-term, consolidation again with the 1hr chart showing a clear flag pattern with the lower end capped by the 23.6% line.

Gold Chart 14.10.2021

Chart showing gold price movements on 14.10.2021

Oil has firmed, with WTI recovering the $81 handle, though price action remains sluggish and sideways for the time being. OPEC yesterday cut its global oil demand growth forecast for 2021 but maintained its 2022 view and cautioned that soaring natural gas prices could boost demand for oil products.

OPEC cuts its demand growth forecast for 2021 to 5.82 million barrels per day, down from 5.96 million bpd. As we noted some months ago, it was always likely that OPEC would need to trim its 2021 forecast since it had always backdated so much of that extra demand to come in H2. The original 6m bpd forecast implied 1m bpd in H1, 5m bpd in H2, which always seemed optimistic. Critically, though, it was not wildly optimistic – demand has come back strongly after shrugging off the summer Delta blues. The cartel maintained its 4.2m bpd growth forecast for next year. EIA inventories today – a day late due to the Columbus Day holiday – forecast 1.1m build.

Crude Oil Futures Chart 14.10.2021

Nat gas – holding the trend support and 20-day SMA, bearish MACD crossover still in force.

Natural Gas Chart 14.10.2021

Hays shares +4% as fees rose 41% from a year ago. Strong leveraged play on record numbers of job vacancies and staff shortages. Shares have been flat the last 6 months, though +17% YTD, +45% the last 12 months leaves not a lot of room left on the table.

Dunelm still performing strongly against tough comparisons. Total sales in the first quarter increased by 8.3% against a very strong comparative period in FY21, when sales grew by 36.7%. Gross margins were down 10bps and expected to be 50-75bps lower than last year for the full year. Management warned on supply chain problems and inflation but stressed that good stock levels should provide them some cover. Some way to go to for the shares to recover recent highs but encouraging signs.

Stocks lower, rates on the move

Stock markets declined on Tuesday morning following on the heels of a wobbly session on Wall Street, with losses of around 0.5% for the broader European Stoxx 600. The FTSE 100 continues to chop in a sideways direction, trading just below 7,100 it is held firmly within the range of the last 6 months, whilst the DAX is back to the lower end of the recent range to test the 200-day moving average once more. Inflation worries persist, though our tradeable US natural gas and oil prices have edged back from the highs. Yesterday saw WTI rise above $82 for a fresh multi-year peak, before paring gains to take an $80 handle this morning. Coal prices in China meanwhile have risen to a new all-time high. Copper has rallied 7% this month, though it’s still ~10% below its May peak.

 

Rates are on the move again with the 10-year US Treasury note at 1.63%, a four-month high. The 2yr note yield also notched an 18-month high. Earlier we saw UK gilt yields spiked on markets believing the Bank of England could act early to tame inflation. The simple way of looking at this is higher energy costs = higher inflation expectations = early, faster central bank tightening. Later today we hear from the Fed’s Clarida and Bostic, whilst a 10yr bond auction in the US will be watched for demand. US CPI inflation numbers are due tomorrow.

 

On Wall Street, sentiment looked fragile as early gains reversed the market closed at the session low. The S&P 500 fell 0.7%, with similar losses for the Nasdaq and Dow Jones. Lots of churn, little real direction to this market right now until the macro picture on inflation and CB reaction function is better understood. Asian shares were broadly weaker as another deadline for Evergrande bond coupon payments has passed.  

 

EasyJet shares declined more than 2% despite sounding a confident tone over the reopening of the travel sector. The company reported Q4 headline losses decreased by more than half with positive operating cash generated. Management now expects a headline loss before tax of slightly more than £1.1bn. However, on a more upbeat note the company says it sees positive momentum carried into FY22 with H1 bookings double those of the same time last year. 

WTI: Finding support at the 23.6% retracement of the move up off the Oct 7th swing low.

Oil Chart 12.10.2021

GBPUSD: Pulling back from yesterday’s 2-week high, where it retreated from our trend line, now sitting on the 23.6% retracement of the Mar ‘20 to May ‘21 rally at 1.35950.

GBPUSD Chart 12.10.2021

Slow start for equities, Asos tumbles

Soft and sluggish start for European equity markets – typical Monday morning feel until we all get out of bed. FTSE 100 is out the traps better at +0.2%, with banks, basic resources and oil & gas leading the way higher this morning, DAX lower at -0.3%. Rates are up – US 10yr Treasury note north of 1.6% and 2s and 5s highest since around March 2020. Last week’s nonfarm payrolls missed expectations, but Fed chair Powell says it’s about accumulated progress, not a blowout month. After the first flush of summer and two very strong prints, jobs growth is slowing and wages are up sharply at 4.6% – the stagflation bears may point out. US stocks froze somewhat in the headlights of the miss, declining mildly on Friday but nevertheless posting a positive week. The S&P 500 posted its best since August, the Dow Jones its strongest since June.

US and inflation on deck this week will be the focus, but so too earnings season as it gets underway on Wall Street. Earnings on tap this week include JPMorgan Chase, Goldman Sachs, Bank of America, Morgan Stanley, Wells Fargo, Citigroup, Delta Airlines and Walgreens Boots Alliance.

As mentioned a couple of times last week, the question facing investors is whether earnings calls are positive – supply chain woes, labour shortages, etc etc. And this takes us to the point also made last week – are we at peak inflation/stagflation/supply chain fear? The macro outlook still seems somewhat cloudy in terms of growth, policy and inflation, but that does not mean equities cannot make gains – climb the wall of worry, as the saying goes. Indeed, there are signs that some of the worst of the container shipping problems are rolling over. The stagflation shadow may be around for a while, but this may now be fully ‘priced’. What we don’t know is whether equities – particularly US and megacap growth which has dominated and is now a large part of the S&P 500 by weighting – will roll over as the Fed starts to taper and we see rates move higher. Whilst it has been choppy and volatile, so far the move to 1.6% on 10s from the August lows at 1.17% has not produced panic. Since peaking in early September, the broad market is down ~3%, whilst the Nasdaq 100 is about 6% lower. Not without damage, for sure, but the move has been fairly orderly, rotational, and is seen has a ‘healthy’ type of correction that is generally supportive for equities in the longer run.

Of course, don’t expect companies to waste a good crisis. Remember the warnings due to Covid that generally turned out to be fake news. This quarter’s earnings schedule should feature some pretty heavy expectation management that may create good opportunities for entry points. Corporate sandbagging might weigh on individual names temporarily though the broad market should be able to withstand this.

Asos shares tumbled this morning as CEO Nick Beighton steps down and the company warned of continued supply chain problems. Revenues also missed expectations, but undoubtedly the departure of Beighton, who has steered the company through an incredible period of growth, is a contributing factor. A big loss for the company. The search is on for a successor who can deliver £7bn of annual revenue within the next 3 to 4 years. Annual results were impressive with sales growth of +22% and profits +36%, but expectations for the next year are being massaged down to 10-15% with first half sales in mid-single digits. Asos is not wasting this supply chain crisis to lower the bar. Zalando down more than 3% in sympathy.

Energy markets remain in sharp focus with all-time highs for Chinese coal echoing loudly this morning. Nat gas is steady around $5.70, though European prices remain volatile. Oil is higher again with WTI north of $81. Declining inventories, supply kept in check, demand recovering post the big summer Delta wave fear = bullish for oil. CFTC data shows speculators getting longer oil.

Oil Chart 11.10.2021

Sterling on the move: GBPUSD has broken resistance and cleared the recent range to reach its best level in two weeks. The pair has broken out to 1.3670 in early trade this morning with a clear bullish bias having cleared out the ranges. Sterling is firmer thanks to increased speculation the Bank of England will raise rates sooner than previously expected. MPC member Michael Saunders said households should prepare for «significantly earlier» interest rate rises as inflation pressure rises – though he didn’t necessarily signal that November is on the table. Remember markets were pricing for Feb hike of 25bps and Saunders said that “markets have priced in over the last few months an earlier rise in Bank Rate than previously and I think that’s appropriate”. This morning the money markets have brought this forward to Dec – arguably on Saunders remarks, arguably were heading that way anyway. We should note that Saunders is on the hawkish end of the committee and voted to halt the BoE’s bond buying programme early.

GBPUSD: MACD bullish crossover, just now running into trend resistance.

GBPUSD Chart 11.10.2021

Bitcoin: momentum positive but pulling back at $57k, the 78.6% retracement.

Bitcoin Chart 11.10.2021

Stocks climb but price action still choppy

Choppy: Stocks are firmer in early trade following yesterday’s losses. For all the movement we have seen, the FTSE 100 is tracking slap in the middle of its 6-month range. But now it’s facing near-term resistance from its 50-day and 100-day averages at 7,092/7,078, which seem to be capping any rallies at the moment, whilst the 200-day support at 6,913 is looking good for a retest. The DAX moved up more than 1%, or about 170pts, to around 15,150 as it looks to recover its 200-day moving average at 15,037. You are in ranges now where you feel it could break either way – as noted earlier this week you need to feel that the repricing for risk from a different macro outlook and rate environment (higher yields) has bottomed, that the valuations are looking healthier, earnings can deliver beats not misses and that we’ve passed peak inflation/stagflation ‘fear’ (if not the actual environment, which could last for many months).

Wall Street reversed early losses to rally on signs of progress on the US debt ceiling. The Dow Jones industrial average erased a drop of 400pts to end the day up 100pts. The S&P 500 rallied 0.4% as mega-cap tech rallied as bond yields didn’t really push on and investors thought they’re close to being oversold. But it’s still all rather indecisive. The S&P 500 continues to chop around its 100-day SMA and the 4,300 area. Futures are indicating higher with 10yr yields back down to 1.52% from 1.57% hit yesterday, the highest since June.

Senate Minority Leader Mitch McConnell said Republicans would back a short-term motion to raise the debt ceiling. “To protect the American people from a near-term Democrat-created crisis, we will also allow Democrats to use normal procedures to pass an emergency debt limit extension at a fixed dollar amount to cover current spending levels into December,” he tweeted.

ADP reported that private payrolls increased by 568k jobs last month, easily topping expectations. Allowing for the usual ADP caveats, this is a positive signal ahead of the nonfarm payrolls report on Friday – remember a key release ahead of the Fed’s November meeting re tapering.

Natural gas was the big story as prices spiked out of control in Europe/UK. US Henry Hub prices did reach a new multi-year high before reversing, apparently on comments from Vladimir Putin who said Russia would seek to stabilise the market and pump more gas. There is a lot going on there – political machinations aplenty and questions over whether much of the problems in the market have been Russia’s doing in the first place (weaponization of gas), but it did seem to cool the market. Prices are down 15% from yesterday’s $6.46 peak and now testing lowest in a week around $5.50 and possible bearish MACD crossover in the offing could signal a top.

Oil was weaker too as it also seemed to consolidate after extending the rally into overbought conditions – as highlighted on Tuesday. Inventories were mildly bearish too, rising 2.3 million barrels last week. The US said it was considering releasing oil reserves to cool prices – always a political hot potato in the US as much as in Europe. WTI is close to 5% below yesterday’s high at $76, possible test of near-term Fib and trend support around the $75.60 area.

Crude Oil Futures 07.10.2021

Talking of rising fuel costs, these are feeding into rising inflation expectations. UK inflation expectations topped 4% for the first time since 2008. A gauge of US inflation expectations has moved to its highest since June.

In FX, the euro made fresh YTD lows yesterday but is steadier this morning, with EURUSD back to 1.1560. Looking a tad oversold but the fresh low needs to mark a bottom soon or further selling can take off on another leg lower.

EURUSD Chart 07.10.2021

Germany Coalition Colours

After a wild ride in the polls where the CDU, Greens and SPD each took the lead one after the other in the months leading up to the election, the Germans eventually voted for None of the Above. Every party was left disappointed:

• The CDU posted their worst ever result at 24.1%
• The SPD came too close to the CDU/CSU for comfort, just ahead at 25.7%
• The Greens had hoped to clear 20% but managed barely 15% of the vote
• The FDP had hoped to come third but added less than 1 pct pt to their last result
• The Left barely scraped the 5% threshold

The two traditional large parties, the CDU and SPD, together failed to reach even 50% of the vote, demonstrating the frustration of German voters as they look for a new home.

Breakdown of German Federal Elections by party and vote share.

This decline in the two main parties means that for the first time in post-war Germany a majority coalition will require three parties. But which three will it be?

Traffic Light or Jamaica

Beep beep! We can’t help but think of frustrated drivers when we hear Germany might end up with a traffic light coalition. So-called because it would include the parties who are denoted by the colours Red (SPD), Yellow (FDP), and Green. But in a dramatic lurch off the autobahn, just switching out one large party for the other and bringing in the CDU/CSU (Black) would apparently leave us sitting in the Caribbean sunshine, with those colours representing Jamaica’s national flag.

Forget this dizzying array of colour combinations. You only need to look at the election results to know that the government will be going left and going green.

The two parties with the most momentum and therefore the most mandate to govern are the SPD and the Greens. The latter saw their vote share jump by two thirds since the last election, they’ve regularly polled in at least second place in the last three years, and they’ve firmly put environmental issues on the map. All the Chancellor candidates of the three biggest parties responded firmly that climate change is man-made when asked by Die Zeit magazine.

For the SPD, their man Olaf Scholz commands the most public support to become leader of Germany. Even one-third of CDU/CSU voters have to admit he would be a good Chancellor, according to a post-election poll from Infratest Dimap:

Graphics showing Infratest Dimap German Chancellor preference results.

That same poll shows that 60% of CDU/CSU voters think their candidate, Armin Laschet, has performed so poorly that he should resign.

Forming a coalition isn’t just about racking up the numbers: it must have public support as well. Just remember Pedro Sanchez in Spain who became Prime Minister in June 2018 despite his party holding only 84 seats. He was able to govern for almost a year before he had to go to the polls.

The CDU simply cannot claim enough support to be a senior party in government after results like these.

Christian Lindner – Court Jester, not Kingmaker

So why is the FDP still pursuing the CDU? This all comes down to their leader, Christian Lindner, who managed to resurrect the party after their disastrous election result in 2013 where they failed even to overcome the 5% threshold for parliamentary representation. He has certainly effected an impressive turnaround, enough that he almost formed part of the coalition after the 2017 election.

But he walked out of those negotiations, using words that will soon come to haunt him: “it’s better not to govern than to govern wrongly”. In doing so he forced the CDU back into a grand coalition with the SPD and subjected Germany to almost six months without a government. It became the straw that broke the camel’s back for Merkel, as she announced her retirement just seven months after that. This leaves Lindner a dangerous and unreliable coalition partner. If the SPD and Greens were to include the FDP they run the risk of always being subject to a potential walk-out, giving Lindner uncomfortable outsized veto power. The Green Party co-leader Habeck has already cautioned that a «traffic light» coalition is not just ‘red and green with a bit of yellow speckled on it’.

It might be bearable if Lindner were on the same policy page as the other traffic lights. But ideologically, he’s too far away from the SPD and the Greens, not least because he wants to reimpose the debt brake whilst the others understand that doing so would kill the economy. The co-leader of the SPD warned the morning after the election that ‘the FDP wants dramatic tax cuts, they don’t want to take out loans but they also want to invest. That’s voodoo economics, it doesn’t work’.

The Political Compass test (you can take it yourself here) places parties on the left-right economic axis, along with their position as authoritarian versus libertarian. You can see from their analysis of the German parties just how far out there the FDP sit:

Graphic showing political alignment of German political parties.

But the FDP think they hold all the cards, and will try to play off the CDU against the SPD. In overplaying his hand, Lindner will fail to compromise and so will not form part of the government.

The Super Grand Coalition

For the SPD, doing a deal with the FDP is not a price worth paying. Scholz would prefer a weakened CDU to an awkward Lindner. And so, after all the sound and fury of backroom deals and coalition quibbles, the SPD and Greens will be left with two choices: Either become Germany’s first post-war minority government; or bring back into the tent a humiliated CDU/CSU who will obey their radical policy platform.

The latter would be more likely to last the parliamentary term, not least given it represents the votes of almost 70% of the population. But to sell it to the public, we must first go through the rigmarole of entertaining the FDP as a potential option. It’s only by airing how intransigent they are to the public that the electorate will understand why the FDP can’t be part of the government.

This is also required to sell the eventual coalition to the parties themselves. Both the CDU and SPD are struggling with internal party strife. Scholz in particular needs to put his stamp on the SPD having lost out on becoming their leader just two years ago. Laschet might find he loses out entirely and is reshuffled away in order for the CDU to retain some scrap of power.

The colours have been nailed to the mast: Germany is going left and going green.

The US Debt Ceiling: The Only Way Is Up

With Democratic lawmakers currently working to pass a multi-trillion dollar infrastructure bill, Republican senators have rediscovered their fiscal conservatism, which appeared to temporarily desert them during the Trump era. Given their minority status in both Congressional chambers, McConnell and co are relying on a tool that served them well under the Obama administration – the debt ceiling.

Republicans are demanding that Democrats reduce the scale of their planned infrastructure bill, whose price tag could be as high as $3.5 trillion. Without cooperation on that issue, Republican senators say they will refuse to cooperate on the issue of the debt ceiling. With Senate Majority Leader Schumer already ruling out the use of the reconciliation workaround, which allows for a simple majority for a bill to pass, the only path to resolution on this issue is through a normal Senate vote. This is critical, given the 60-vote requirement for regular bills to pass in the Senate – any debt ceiling resolution will require at least 10 red-state senators to break ranks and vote aye. The achievement of 60 votes is made yet more difficult by the potential for moderate Democrats to join their Republican colleagues in blocking action on the debt ceiling, with Joe Manchin having previously expressed his discomfort with the national debt.

Secretary Yellen now says that the US is likely to hit its debt ceiling on the 18th of October, meaning the federal government will be unable to fulfil its financial obligations after this date unless the ceiling is raised or suspended. This latter point is crucial and has been somewhat muddied by Republican spin on this issue. In reality, the debt ceiling is not about new government spending at all, it is about the government’s ability to fulfil spending promises that it has already made. Such obligations include both welfare payments and the maintenance of the national debt, meaning the potential economic consequences of this saga go far beyond the passage or non-passage of Biden’s infrastructure plan.

This is not the first time that Republican lawmakers have employed such a strategy, using it in both 2011 and 2013 to extract concessions from President Obama. In both of these cases, the concessions achieved were relatively minor, and the Republicans were eventually forced to settle for a moral victory at best. On top of that, the Democrats were able to avoid the bulk of the political backlash, with only 31% of the country saying that they were to blame for the crisis in 2011. So why use such a tactic again, given that it appears on the surface to have been so unsuccessful in times past?

  • Firstly, the political landscape has shifted drastically since episodes one and two of this trilogy. President Biden is a far less formidable political adversary than his former boss, particularly with regards to charisma and control over the media narrative. McConnell will be betting that his party can do a better job of deflecting blame towards the Democrats now they don’t have to compete with Obama’s overwhelming political celebrity. This strategy already appears to be paying off, with just 16% of poll respondents blaming the Republicans for the potential default.
  • Secondly, let us not forget who the intended audience of this political stunt really is – the Republican base. Having the support of even just 31% of the country is more than enough to achieve success in US elections given their historically low turnout, especially in the midterms which are now on the horizon. Turnout will be key in 2022 and this savvy political ploy will increase Republican chances of breaking the Democratic stranglehold on Washington next year by enticing conservative voters to the polls.

With all of this being said, the actual probability of US debt default is virtually zero. This Republican routine would be much more convincing if we hadn’t seen it twice before already. Does anyone really believe that it is a coincidence that all three debt crises have come in the year prior to a midterm election? Or that lawmakers (and their donors) with combined stock portfolios in the billions would seriously allow the devastating economic damage such a default would guarantee? The final nail in the coffin for the convincingness of such a threat is the Republican voters themselves. One of the best-kept secrets in Washington is that red states receive far more in net federal spending per capita than blue states. Whilst conservative voters may love the idea of national fiscal responsibility in theory, they are far more attached to personal financial solvency in practice. If the Republicans actually allowed this debacle to get to a point where the government stopped sending welfare checks, it would be their voters who would suffer the most, and the potential political benefits of this gambit would be nowhere to be seen.

This is not to say that no economic damage will be done or that no panic will occur. In 2011 a resolution was agreed just two days before the debt ceiling was due to be reached and resulted in a US credit rating downgrade and the loss of 1.2 million jobs by 2015. Rather, the very worst fears of the financial markets will not be realised – the debt ceiling will be raised and the infrastructure bill will pass in one form or another. But it’s going to get very messy and very noisy before we get there.

Outcomes:

  1. The panic and political manoeuvring will continue, and may even stretch beyond the October 18th date stated by Yellen, if the Treasury gets creative with their accounting. This uncertainty will hit markets and the real economy but this is a sacrifice Republicans are willing to make. McConnell looks set to trade a few points in the S&P 500 for a few points at the polls in the midterms – a bit of a bargain in political terms.
  2. Moderate Democrats will use this pressure as leverage against the left in their own party who are pushing for the headline $3.5 trillion bill to be realised. This will lead to further infighting among the Democrats which the left will likely lose, meaning a smaller infrastructure package than initially intended.
  3. The chances of the Democrats maintaining or expanding their control in Washington just went down.

Stocks rally into quarter end

It’s month and quarter end. Scores on the doors are FTSE 100 up 1.6% for the quarter, 0.5% for September, which is not bad going considering the kind of volatility we have seen. Less positive for the US indices with the S&P 500 down 3.6% in September, just holding onto its quarterly gain of 1.4%. The Nasdaq 100 is down 5% this month. The DAX is down for both the month and the quarter. Hang Seng –15% almost for the quarter after all the tumult for tech stocks and Evergrande. Three-quarters of the way into 2021 and the S&P 500 is up 16%, the FTSE 100 up 10% and the DAX up 12%. The FTSE All World Index – a measure of global stocks – is lower for September, flat for the quarter, but still up 26% over the last 12 months. Flattish performance this quarter reflects stagnating growth rates globally and a rocky month we have just seen. September lived up to its promise for volatility, October is set to bring more with inflation, central bank tightening and slowing growth combining to create a less positive backdrop for equity markets. Investors should also be keeping a close eye on Washington – whilst a default is unthinkable – the merry dance keeps bond markets guessing.

This morning European stock markets opened firmly in the green after a broadly positive session in Asia, though shares in Tokyo and Hong Kong fell. The selloff on Wall Street on Tuesday failed to gather steam, with the broad market managing a mild gain yesterday, though the Nasdaq notched a mild decline as the pressure from higher bond yields and inflation concerns persisted.

Boohoo shares tumbled 10% as the company warned that rising costs were hitting margins. Management warned on supply chain and wage costs, whilst a higher number of customer returns and ongoing business investment were also a factor in the lower margin guidance. Boohoo might be at the sharp end of rising input inflation but it’s a marker for the rest of the market. We might expect to see other companies performing a similar degree of expectation management, albeit there is always the chance some will be sandbagging.

The FTSE 100 broke clear of the recent range to notch its best since Sep 7th, clearing a high above 7,150 and taking back into the area traded in the second half of August. Weakness in sterling might be a factor in its favour.

Dollar on the rampage: Sterling continues its run lower despite UK growth being revised higher than earlier estimates. GDP rose by 5.5% in the second quarter, above the initial indication for growth of 4.8%. It means the economy is about 3.3% below where it was before the pandemic. Meanwhile, house prices chalked up a 5th straight month of double-digit rises. Cable is still in the doldrums however after two large down days, with the 1.340 round number support tested this morning. Fears that the Bank of England will be raising rates just as growth is stagnating is hurting sentiment towards the pound a touch, whilst the dollar is going gangbusters. DXY has broken above 94 with an exceptionally strong move yesterday and EURUSD has a 1.15 handle again for the first time since July last year. USD is just moving a little lower in early trade after yesterday’s rampage.

Briefly:

• China’s manufacturing sector entered contraction for the first time since the pandemic

• Oxford Nanopore Technologies shares open at 545p on debut, above the IPO price of 425p, extend gains to trade +40% higher around 588p.

• Look ahead to German inflation later in the session, plus more from Powell and a raft of Fed speakers. Chicago PMI and weekly unemployment claims also on the tape alongside the final US Q2 GDP reading.

Stocks firm in Europe after US selloff

The rise in global bond yields that’s been gathering pace since the delayed reaction to last week’s Fed meeting saw US indices finally crack properly. Mega cap growth took a pounding, sending the Nasdaq down 2.8%, whilst the heavy weighting of these stocks on the S&P 500 sent the broader market lower by 2%. Jay Powell, facing scrutiny from lawmakers in Congress, said inflation could stay «elevated» for longer than previously predicted. Investors are also paying close attention to events in Washington as Republicans once again blocked efforts to raise the debt ceiling and avoid a government shutdown and potential default. European stock markets were firmer in early trade, tracking the middle of the recent ranges. The FTSE 100 continues to trade in a range of a little over 100pts.

Next rose 2.5% as it once again raised its full-year outlook. In the six months to July, brand full-price sales were +8.8% versus 2019 and +62% against 2020. Profit before tax rose to £347m, up +5.9% versus 2019. Full-price sales in the last eight weeks were up +20% versus 2019, which management said ‘materially’ exceeded expectations. The strong outrun means Next is raising full-price sales guidance for the rest of the year to be up +10% versus 2019. And its forecast profit before tax has been raised to £800m, up +6.9% versus 2019 and +£36m ahead of previous guidance of £764m.

The dollar is making new highs, hitting its best since Nov 2020 even as the bond selling takes a pause. US 10yr rates have edged back to around 1.51%. Elsewhere, Citi cited Evergrande as it cut its China 2022 GDP forecast to 4.9% from 5.5%. A key gauge of long-term Eurozone inflation expectations rose to the highest since 2015.

Sterling moved to fresh YTD lows, with GBPUSD touching the 1.350 support. Some have pinned this on fuel (lorry driver) shortages and panic buying. Others have raised the stagflation klaxon because of the fuel problems. This looks like finding a narrative to suit the price action. Nothing changed yesterday relative to the day before. Much like we saw in the bond and equity markets, things move. And cable maybe is seeing a flushing out of some weak hands post the BoE hawkishness. What we have seen is the way sterling moves in a risk-on, risk-off fashion and yesterday was clearly risk off. Expectations for the BoE to raise rates before the Fed may create problems if the BoE has to walk that back in the face of a tougher economic backdrop. Clearly, bulls were caught in a bit of a trap last week and we need to see a bottom formed before we get excited again.

GBP USD Chart 29.09.2021

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