Global rates fall modestly after report China was pessimistic about a trade deal. GBP rising on UK election polls. Positive local data doesn't move many needles

There have been few fresh developments overnight, with the exception of a report that China was growing pessimistic about the prospect of a trade deal, and market moves have been reasonably modest. 

The GBP has outperformed in the FX market as the Conservatives have extended their lead in the polls.

The NZD has traded a very narrow range to start the week and domestic rates were virtually unchanged yesterday. 

There’s not too much to report from overnight in terms of fresh developments.  The daily stream of trade headlines continues, with CNBC reporting that that China was growing pessimistic about a trade deal.  The Chinese government is concerned that Trump continues to insist publicly that he has not agreed to scrap some tariffs, despite the two sides reportedly reaching an agreement to that end earlier in the month.  According to the report, China was also monitoring the impeachment hearings and wondering whether it was best to delay an agreement until there is more clarity on the political outlook.  Separately, Reuters reported that the US was set to extend a 90 day exemption for US firms to do business with Huawei. 

The market reaction to the report saw the S&P500 drop as much as 0.5% while the10 year Treasury yield fell from its intraday highs of 1.85% to 1.8%.  The equity markets have largely recovered those losses, leaving the S&P500 and NASDAQ flat on the day, although the 10 year Treasury yield remains stuck around 1.8%.  The muted market reaction to the news overnight, in the context of the synchronised run-up in equities, bond yields and inflation expectations over the past month, suggests that the market still has high expectations for a Phase-one trade deal. 

There hasn’t been any major global economic data over the past 24 hours.  The NAHB housing index was slightly lower than expected, but remains near cyclical highs.  The index points to a sharp recovery in the US housing market since the end of last year, likely due to the drop in US mortgage rates.  Meanwhile Fed Chair Powell met Trump at the White House.  Trump said they had a “very good and cordial” meeting spanning topics including trade, low inflation and negative interest rates.  A Fed statement said Powell’s comments were consistent with his recent public remarks and the policy rate outlook was data dependent.

The GBP has been the top performer in the FX market to start the week after the polls collected over the weekend indicated that the Conservatives have a healthy lead over Labour.  The weekend polls had the Conservatives leading Labour by 8% to 17% while the betting markets now have an outright Conservative majority at around a 70% chance.  The GBP has risen 0.5% this week and is pushing up towards 1.30, near six-month highs. 

The fall in US rates appears to have weighed on the USD, which has fallen 0.2%-0.3%, in index terms, to start the week.  The USD indices have fallen around 0.6% over the past week as the US 10 year Treasury yield has fallen from around 1.95% to 1.8%.  The USD indices remain well contained towards the middle of the trading ranges over the past six months. 

The NZD and AUD have traded in very narrow ranges to start the week (0.6390 – 0.6412 for the NZD).  The NZD continues to hover just above 0.64.  We continue to see the NZD as very cheap compared to our short-term fair value estimates (in fact, at 8%, the discount is it largest in a decade).  We see the next likely breakout in the NZD to be higher rather than lower, although the potential signing of a US-China trade deal may be needed as a catalyst. 

In domestic data, following on from the rebound in the PMI on Friday, the services equivalent – the PSI – increased to 55.4 in October.  The PSI now sits around 1pt above its long-run average and is at its highest level since January.  Encouragingly, the new orders subcomponent increased to 62.1, indicating strong expansion.  Combined, the PMI and PSI point to growth closer to 2%, rather than the 1% suggested by the readings a few months back, implying a more positive outlook than the business surveys.  For the RBNZ, it’s another indicator that adds weight to its decision last week to keep the OCR on hold at 1%.

There was very little movement in the domestic rates market yesterday, with swap rates falling by less than 1bp.  Following on from the hawkish surprise at the RBNZ’s November MPS, NZ rates sit near their highest levels in around 3 months (the 2 year swap rate is 1.17% and the 10 year rate is 1.53%).  The improving global backdrop, subject to a US-China trade deal not falling over at the last minute again, argues for NZ rates to sustain a higher trading range over the coming months. 

There is a bit more to focus on in the session ahead, with the RBA minutes released and NY Fed President Williams speaking.  There is also another Global Dairy Trade auction tonight.  We anticipate a further increase in the GDT-weighted price index which would add upside pressure to our already-solid milk price forecasts for 2019/20 of $7.10.