The Loonie depreciated by over one percent this week in the wake increased possibilities of a June rate hike by the US Federal Reserve & weaker than expected economic data. Firmer crude oil prices are currently not providing support to the Loonie as the forest fire in Fort Murray and surrounding areas has reduced Canadian Oil Sands output by about 1.5 million barrels out of Canada's total output of about 5 million barrels. As per data from CFTC, long Canadian dollar positions fell slightly lower to 22.7k from 25.9k last week. This buildup of long Canadian Dollar/Short US Dollar position on the premise of higher crude oil prices could trigger a rally higher in the USD/CAD if it trades weaker and stop losses get triggered.
Consumer Price Inflation pushed higher in April as headline CPI increased by 1.7% year on year. The impact of the weaker Canadian Dollar is feeding through the economy as seven of the eight major components showed an increase in inflation. Food prices which have a weightage of 16.4% in CPI were up 3.2%. The other major component, shelter costs which has a weightage of 26.8% in CPI was up 1.4%. The only segment that showed a decline year on year was Clothing and footwear. Bank of Canada's Core inflation reading which excludes (fruit, vegetables, gasoline, fuel oil, natural gas, mortgage interest, intercity transportation & tobacco products) also increased to 2.2%. Higher inflation would curtail the flexibility of Bank of Canada to cut interest rates with Core CPI slightly above its target at 2%.
Wholesale sales contracted for the second consecutive month in March by 1% to $54.6 billion. The biggest contributor to this decline was the motor vehicle and parts sector which contracted by 2.5% to $10.3 billion. In provinces, Ontario contributed the largest chunk of the contraction of 1.4%, falling to $28.1 billion. Alberta which is reeling from the crash in crude oil prices, reported wholesale sales of $6.2 billion which was the lowest since September 2011. At the retail level also the trend was similar with march retail sales contracting by 1% to $43.8 billion. Here again Motor vehicle and parts segment was the main contributor for the decline, contracting by 2.9%.
The weak Canadian Dollar attracted foreign investment into Canada for the third consecutive month in March. Foreign investors acquired $17.2 billion worth of Canadian securities, with inflow of $8.1 billion into Canadian private sector bonds & $6.8 billion into Canadian equities. On the other hand, investments by Canadians overseas was low key at $2.3 billion. For Q1 the net inflow into Canada was at $52.8 billion which is a new record high, thanks to the weak Canadian Dollar that is proving attractive to overseas investors.
As per data from the Canadian Real Estate Association the number of homes sold nationwide over the MLS system was at 57,669 which is a 10.3% increase from April 2015. This is also a record high number, even as supply seems to have dipped lower by 3.7% in April 2016 from April 2015, with listings for sale in MLS amounting to 103,028. The GTA is witnessing a greater compression in supply with listings down by 10.3% in April, well over the national average. The two key housing hotspots of Greater Toronto Area & Greater Vancouver Area the key drivers of the housing market.
Credit agency Moody's announced a spate of downgrades and cuts to rating outlooks over the last week in the GCC. Saudi Arabia had its rating cut from Aa3 to A1, which is the first ever downgrade since it commenced rating the country over 20 years back. The reason cited by Moody's was deepening concern over the country's precarious fiscal position and ability to diversify away from oi revenues. The rating outlook was stable, which means there is no imminent danger of a further downgrade. Oman rating was cut from A3 to Baa1 & is just three notches above junk rating. The reason cited for the downgrade was the negative impact on Oman's sovereign credit profile due to protracted period of low crude oil prices. This is the second downgrade this year for Oman after February's downgrade from A1 to A3. Bahrain's rating was cut further into junk territory to Ba2 with a negative outlook.
The other three GCC countries Qatar, Kuwait & UAE were put on negative look, meaning that we could see a cut in rating in the next 18 months if the credit profile deteriorates further. Moody's expects the Abu Dhabi government's large reserves to come in handy as the UAE government faces the challenges due to the slowdown in the economy.
Not done with the sovereign rating, Credit agency Moody's cut the outlook for five Abu Dhabi banks to negative, while retaining the ratings. The rating for NBAD remains at Aa3, ADCB, UNB & Al Hilal Bank at A1 & ADIB at A2. The slowdown in the GCC economy due to lower crude oil prices is feeding through the banking sector results. The banking sector which is a reflection of the economic growth is facing headwinds from lower deposit accretion, due it its chief source in the region crude oil exports faltering. On the other hand, as the economy slows down bad debts have started to increase putting pressure on bank balance sheets. Moody's cited the capacity and willingness of the Emirate of Abu Dhabi to provide support to the banks which helped in retaining the ratings. The negative outlook for UAE Government and the five Abu Dhabi banks was due to possible weakness over time due to fiscal pressures as crude oil revenues accounted for about 50% of UAE fiscal revenue.
The Indian Rupee finally succumbed to pressure falling over 1% during the week. The strength of the US Dollar in international markets due to Fed rate hike fears, foreign exchange outflows, higher crude oil prices which will put pressure both on the fiscal & trade deficit were factors that contributed to this fall.
Inflation at the wholesale level returned to positive territory after 17 months in negative territory. In April, WPI was at 0.34% (year-on-year) & is sharply higher from March's -0.85%. The increase in inflation was broad based with all the three components; Primary Articles, Fuel & Power & Manufactured Products in positive territory. Within manufactured products the prime movers were Sugar & Food Products at 8.36% & 3.21% respectively. Industrial manufactured goods were largely in deflationary state, indicating that the industrial demand is not showing signs of revival. The rise in global crude oil prices which resulted in prices hikes is showing up in WPI, with the petrol component up by 4.84%. Reserve Bank of India used to target WPI for monitoring Inflation in the economy, but this was changed to CPI over the last few years. CPI which has a large weightage of about 55% for Food products skews inflation data and thereby impacts RBI rate cuts. With inflation at the producer level trending below zero percent for 17 months, it could have been a missed opportunity to cut rates by Reserve Bank of India. Tracking Consumer Price Index (NYSEARCA:CPI) which has a weightage of 55% for food prices which is more a supply side issue. An increase or reduction in interest rates by RBI, will hardly have an impact on the chief driver of inflation which is currently food prices.
The manufacturing sector is facing headwinds from borrowing costs which are around 10% for prime customers and is one of the highest amongst India's competitors in the global market. In most OCED countries prime rates are close to about 1-3% and also in most emerging markets prime rates are about half of what it is in India. The other impact of higher WPI would be on GDP as the deflator for the services sector is based on WPI. This means that GDP for the current fiscal year could be lower due to the impact of the deflator.
The parliament passed the bankruptcy bill this will, which will change the landscape & ease the process of winding up failed businesses and help in debt recovery. The bill was passed through both houses of parliament and now needs the President's sign off & once that is done it will be the law. The current scenario for bankruptcy is quite complex with several laws having jurisdiction for various aspects which leads to in-ordinate delays. What the new law a new class of insolvency professionals will be created who will aid the process of liquidation and also takeover of insolvent companies. The banking sector which has about 6% of non-performing assets, largely concentrated amongst the large public sector banks.
In recent weeks as risk aversion has increased in markets the Japanese Yen has strengthened from over 121.00 in January and traded below 106.00 in early May. This has raised concern with the large Japanese conglomerates who have lobbied hard with the Bank of Japan to stem this appreciation, which is hurting their business. Japanese Finance Minister Taro Aso has expressed his view that excessive and disorderly currency moves were undesirable and stated that BoJ would not hesitate to step into the markets and intervene by buying US Dollars if they consider Yen appreciation to be out of sync with economic fundamentals. US Treasury officials on Friday commented that conditions are not disorderly and market fluctuations should not be construed as disorderly.
In 2011, post the Tsunami in Japan, the G-7 had permitted Japan to intervene in the markets to weaken the Yen. In the current scenario if Japan does intervene in the markets to weaken the Yen, this could result in weakening of the Chinese Yuan daily fixings by China and lead to a spate of competitive devaluations which could be quite chaotic globally. The US has been opposed to any such intervention to weaken the Yen and in the run up to the Presidential elections with the US trade deficit with China, Japan & Mexico in the spot light, it will result in calls for greater trade barrier to protect from such moves to spur more exports into the US. The G-7 meeting just is around the corner, will have a lot on its plate, with Japan's demand for intervention, Brexit & pressure on German to reduce its vast trade surplus.
Crude oil prices hit the highest level since October last year and Crude Oil Benchmark WTI is up 86% from its low of $26.05 traded on Feb 8 earlier this year. The firmness in crude oil prices this week was on account of some supply side issues. The forest fire in the heart of the Canadian Oil Sands has disrupted production of about 1.2 million barrels per day. In Nigeria, militant attacks had reduced output in the Niger Delta region. A report from Goldman Sachs mentioned that oversupply is now coming to an end & on the demand side higher offtake from India & China could impact prices going forward.
US economic data was quite upbeat with Housing starts, Industrial Production, Existing Home Sales & CPI all above expectations. The minutes of the FOMC meeting on 26-27 April revealed that FOMC members were of the view that the US economy could be ready for another interest rate increase. FOMC members preferred to see signs of a pick-up in economic growth in Q2 along with better employment and firmer inflation data. This means a rate hike in June is firmly on the table. Data this week confirmed a few of the requirements, CPI for April perked higher with the headline number up 1.1% (year-on-year) spurred by a jump in gasoline costs. The core CPI number which excludes volatile food & energy prices, went the other way falling 1 bps to 2.1%. Existing Home Sales increased at an annual pace of 5.45 million, which was above consensus forecasts at 5.4 million. Housing starts were also upbeat at an annual pace of 1.172 million again better than consensus forecasts at 1.135 million. Industrial Production was upbeat posting growth of 0.7% lead up increased output in the utilities sector. The other strong sector was vehicles which posted strong growth of 1.3% for the month and up 4.3% year on year.
Strong US economic data which followed good retail sales data last week, combined with the hawkish minutes from the FOMC meeting in April sent the US interest rate curve higher. The probability of a Fed rate hike at the June meeting increased to about 30% from just about 5% last week. For the July FOMC meeting Fed Futures are pricing a 53% probability of a rate hike as compared to 11% about a month back. The one asset that lost value in the midst of a higher probability of a Fed rate hike was Gold, posting losses for the second consecutive week.
Compiled & Researched by: Shailesh N. Mulki
Disclaimer: This is not a research report and the views and information contained herein are the personal views of the author. These should not be taken to constitute advice or recommendation.
Source: Bloomberg.com, Investing.com