***While it’s easy to get myopic about domestic trends heading into earnings season with the VIX > 20, that doesn’t mean the rest of the world suddenly ceases to exist. International growth, inflation and policy developments have been and will continue to have an outsized impact on asset class returns broadly. As such, we thought the following country-level summaries of recent noteworthy economic developments would be helpful to quickly contextualize such risks. Please email us to the extent you’d like to dig into a specific economy further or if you’d like to see a similar write-up on an economy not mentioned below due to a lack of material incremental news flow or data releases.***
In China, while accelerating export, import and trade balance growth juxtaposed sharply with decelerating auto sales growth in December, it coincided with a sharp acceleration in the growth rate of Chinese exports to Hong Kong (evidence of fake invoicing). Also in December, headline inflation ticked up sequentially, while PPI remained at its deflationary lows. All of this is contributing to what we’ve previously identified as a nascent and tepid trend of economic stabilization in China. We describe it as such because our work would suggest that said stabilization is not at all sustainable on a multi-quarter basis. Elsewhere in China, SAFE continues enacting various measures to limit yuan outflows and reduce offshore yuan positions and liquidity. As we’ve previously stated, the CNY needs to depreciate by as much as 10-15% vs. the USD, but any such devaluation will come at a measured pace. Beijing has no interest in AFC-style rapid devaluations and will continue to use their wide arsenal of tools – including coercion and capital controls – to achieve this objective, which effectively implies the bearish CNY overhang is here to stay. All told, we reiterate our bearish bias on Chinese capital markets and the yuan.
In Japan, minutes from the BoJ’s December 17-18th meeting confirm more of the same with respect to guidance on Japanese monetary policy: QQE expansion is unlikely to be a near-term event due to the board’s sanguine guidance on Japanese growth and inflation. While the December economy watcher’s survey and consumer confidence index readings were supportive of their bullish outlook, on the margin, trends across the preponderance of Japan’s high-frequency growth indicators continue to paint a decidedly mixed picture. Moreover, core CPI remains well shy of their official +2% target and long-term breakeven rates continue to collapse to new Abenomics-cycle lows. Given these dynamics, we continue to think QQE expansion is an inevitability due to a variety of reasons. That said, however, a delay should perpetuate additional covering of consensus yen shorts, which bodes poorly for the Japanese equity market at large. As such, we reiterate our neutral bias on Japanese capital markets and the yen for the time being. For more details, please refer to our 1/6 note titled, “The #CurrencyWar Is a War On Your PnL; Engage Appropriately”.
In India, the advent of decelerating industrial production growth in November coincided with the release of accelerating CPI data for the month of December – the both of which are confirmatory of our #Quad3 outlook for the Indian economy. Indian financial markets are responding appropriately: short rates and the INR are pricing in a dovish RBI, while stocks and long rates are falling victim to capital outflow pressures. While the latter signals are justified, we do not think the RBI has much, if any, scope to ease monetary policy – which is likely why you’re seeing Modi enact what little policies he can implement on the fiscal policy front (see: crop insurance program) in the face of political gridlock that has stalled more meaningful economic reforms such as the long-awaited GST. All told, we reiterate our bearish bias on Indian capital markets and the rupee.
In Taiwan, sequentially accelerating export growth in the month of December is in line with our #Quad1 outlook for the Taiwanese economy. While we remain fundamentally bullish on Taiwanese capital markets, the fact neither has responded well to the dramatic surge in cross-asset volatility we’ve experienced in recent weeks would seem to paint a dour picture for global equities broadly. If you can’t buy Taiwan, what can you buy?
In Brazil, the advent of slowing retail sales growth in November coincided with the release of accelerating CPI data for the month of December – the both of which are confirmatory of our #Quad3 outlook for the Brazilian economy. Brazil just can’t seem to escape its deep, stagflationary recession in spite of receding base effects and dramatically loosening fiscal policy – both in relative and absolute terms. Elsewhere in Brazil, the country’s longstanding practice of indexing for wages, as well as various key goods and services are once again perpetuating fears of incredibly sticky stagflation, which is being priced into long-term breakeven rates. Also, with $7.9B of foreign currency bonds coming due in 2016 as at a time when at least a [record] third of all Brazilian companies are spending half their earnings to service debt, we can’t help but call out the risk of further sovereign downgrades and incremental capital outflows. All told, we reiterate our bearish bias on Brazilian capital markets and the real.
In Mexico, consumer confidence ticked up marginally in December while industrial production growth decelerated, also by a marginal degree. This divergence highlights the decidedly mixed nature of trends across Mexican high-frequency growth data. That, plus structurally depressed and decelerating CPI gives Banxico all the cover it needs to be as rhetorically dovish as it is inclined to be. Banxico Governor Agustin Carstens had previously been guiding Mexican monetary policy to be in line with that of the Federal Reserve (recall they hiked when the Fed hiked), but his latest comments suggest something on the order of Fed-style QE may be in the works if capital outflows continue to exert pressure on Mexican capital markets and those of emerging markets broadly. That would be incredibly and inappropriately dovish and both short rates and the MXN have picked up on this rhetorical shift. All told, we reiterate our bearish bias on Mexican capital markets and the peso. Mexico is one of many emerging market economies that have not adequately shielded their currencies from capital outflows that have been perpetuated by USD strength resulting from the now-G5 monetary policy divergence. For more details, please refer to our 12/16 note titled, “Macro Playbook Update: Keep Betting On #StrongDollar #GlobalDeflation” as well as our #CurrencyWar theme as detailed on slides 46-71 of our Q1 2016 Macro Themes presentation.
In Russia, the advent of decelerating CPI data for the month of December is in line with our #Quad1 outlook for the Russian economy. What is not in line are crude oil prices plunging to new lows and pending fiscal tightening measures – the confluence of which may send Russia back into #Quad4 indefinitely; Russian capital and currency markets have been and continue to aggressively price in this risk. Regarding the aforementioned fiscal tightening measures, Finance Minister Anton Siluanov recently stated that measures totaling 1.5T rubles ($2B), including a -10% cut in spending that spares outlays on the military and social services, are needed to avoid a shortfall of more than 6% of GDP this year: “If we consider today’s oil price and the ruble exchange rate and don’t take any measures, the deficit could more than double compared with the budget we have passed… We have enough reserves, resources for 2016, but we need to make decisions this year that would allow to balance state finances in 2017, 2018, 2019 and beyond.” It’s worth noting that Russia’s Reserve Fund – which is drawn on to plug gaps in the budget – has fallen -35% since its August 2014 peak of $91.7B. Additionally, Russia’s budget itself is based on Brent crude oil averaging $50 per barrel – which is +64% higher than where it closed today. All told, we reiterate our bearish bias on Russian capital markets and the ruble. As long as #StrongDollar deflation persists, any bounce(s) in Russian economic growth due to receding base effects is likely to be short-lived.
In South Africa, industrial production growth accelerated sequentially in November, but it didn’t matter to global capital allocators. All that matters to investors is the slumping ZAR, which has fallen another -6.7% vs. the USD in the YTD to lead all emerging market currencies to the downside; this is on top of last year’s -25% decline. Its accelerated plunge to new all-time lows underscores a loss of faith in the Zuma administration’s willingness to enact the appropriate tightening measures – both monetary and fiscal – that can help protect international capital from further declines. Moreover, a sovereign downgrade to junk status is now a meaningful near-term risk in the context of the aforementioned deteriorating policy outlook. While credit ratings downgrades aren’t exactly meaningful leading indicators, a change in classification to junk may instigate incremental capital outflows. All told, we reiterate our bearish bias on South African capital markets and the rand.
Jumping ship, what does the following chart suggest about the outlook for global growth in 1H16 (and potentially beyond)?
Enjoy your respective evenings and best of luck out there managing the aforementioned risks.