News of strong Chinese exports helped lift market sentiment and gave a fillip to the major and most emerging market currencies. The yen and dollar were broadly weaker. The positive news stream carried over to Europe, where France reported better-than-expected industrial output figures and the Spanish and Italian bond auctions were well-received, sending yields sharply lower. The U.S. Treasury market is snapping a four-day advance as the safe haven appeal of core bond markets has lost some luster today.
The BOE and ECB meetings are not expected to lead to any policy changes. That said, if there is a surprise, it is more likely coming from the ECB than the BOE. In his brief but notable tenure, Draghi has surprised the market more than once with decisive action. He had revealed that a majority had previously wanted to cut the repo rate and the recent string of economic data seems to confirm the area, including Germany, contracted in Q4.
However, we suggest that what ultimately counts is not how the economy does in an absolute sense, or even relative to market expectations, but relative to the ECB's expectations. The key is not Q4 but prospects for Q1, and here the news stream, while light, has suggested some stabilization may be taking place. Given what we assume to be an official reluctance to impose a negative deposit, there is scope for one more 25 bp refi rate cut before difficult decisions will be required about the rate corridor. We suspect the ECB is more likely to deliver that remaining rate cut if the downturn appears to be more protracted.
China's exports rose 14.1% year-over-year in December, the strongest since May and nearly 3x greater than the consensus. In November, exports rose 2.9% year-over-year. Imports rose 6.0%, whereas economists had forecast a 3.5% gain after the flat November reading. This produced a trade surplus of $31.6 bln after a $19.6 bln surplus in November. Of note, for all of last year, China's exports to the U.S. surpassed exports to the EU. Yet before U.S. protectionist sentiment gets aroused, it should be appreciated that while China's exports to the U.S. rose 8.4%, China's imports from the U.S. rose 8.8%.
Separately, China reported disappointing new yuan loan growth of CNY454.3 bln down from CNY552.9 bln in November. However, in the context of other signs that the slowdown in the Chinese economy may have ended, the disappointing new loan growth may reflect other sources of financing (China's own shadow banking sector). Tomorrow China reports CPI figures. The unusually cold winter in China and news of greater rice imports point to some upward pressure on food prices that often inflate China's CPI.
The continued decline in Spanish and Italian bond yields is impressive. Spanish 10-year bond yield is off 24 bp thus far this year, with 14 bp decline being recorded today. The yield is below 5% for the first time in nearly 10 months. The 2-year yields is around 2.14%, the lowest in more than 2 years.
The 10-year Italian yield is off about 10 bp to push the yield near 4.16%, the lowest since late 2010. We note reports of new interest by foreign investors in Spanish and Italian bond markets and an improving deposit picture. Italy reported today, for example, that deposits rose 6.6% year-over-year in Nov.
In Japan, the prospects of a weaker yen appears to be changing foreign investor behavior and specifically to favor Japanese stocks over bonds. Foreign purchases of Japanese stocks in December was JPY1.54 trillion, the most in about 7.5 years. Drawing from the weekly MOF data, foreign purchases of Japanese shares has been partly funded by the sales of Japanese bonds.
Japanese investment patterns, however, do not appear to have changed. Japanese investors have as they generally did all last year, pared their foreign equity holdings (using a four week average to smooth out the weekly noise) and have generally bought small amounts of foreign bonds.
The dollar is once again trying to establish a foothold above JPY88.00. While some resistance is expected near the recent high ~JPY88.40, many look for a move toward JPY89.20 over the next week, ahead of the January 21-22 BOJ meeting.