The Global Markets Weekly – 8/15/16

Posted August 15, 2016 by rvillareal

Navigating the Horse Latitudes

To sailors (and presumably, meteorologists) the “doldrums” refer to a region near the equator characterized by often-absent winds and humid air. Conceptually similar are the “horse latitudes,” bands centered at 30 degrees north and south of the equator, also featuring calm winds, but dry air. Those conditions are less than favorable under sail.

How did horses—fair swimmers but hardly Phelpsian—get tied up in the maritime term? One popular explanation is that ships sailing to the Americas used to throw the horses they carried overboard if calm winds meant they were running through supplies too quickly to support both crew and cargo. An alternative etymology posits that when there was little in the way of a prevailing wind, sailors found that finding and riding ocean currents could be useful, in effect “horsing” the ship around.

Financial market conditions are remarkably placid. U.S. equities sit at record highs and the S&P 500 hasn’t left a 1.5 percentage point trading band over the past month. The CBOE volatility index touched 11.0 earlier this week, lowest since early 2007 (with the exception of a handful of readings in mid-2014). Global FX volatility has subsided. The winds that buffeted investors a year ago in the wake of the surprise devaluation in the Chinese yuan, and turmoil in early 2016, seem a long way off.

There is also little rain. Many global developed market sovereign yields hold near historical lows, near or below 0% even at longer horizons. Equity valuations look somewhat stretched on weak earnings growth. The high yield space and EMs appear to offer better relative returns, the former offering roughly 6.5% in the U.S.. Slower economic growth on average also provides no clear safe harbor.

Should investors lighten the load by tossing risk assets overboard? Or, try to save cargo and crew by seeking favorable currents? The latter option may continue to reap benefits. The currents of continued liquidity provisioning by global central banks (and hints of fiscal stimulus by governments) should not be ignored. These are tailwinds for stocks, and pockets of fixed income.

The annual economic and central bank confab at Jackson Hole later this month will flesh out competing views, the conference topic “Designing Resilient Monetary Policy Frameworks for the Future”, and include an appearance by Fed Chair Yellen. A focus on asset purchases over negative rate regimes may be preferred, more color on that coming as the Bank of Japan conducts a comprehensive review of its policy framework by September.

Note: The Global Markets Weekly will be taking a week off on August 19^th. We will publish again on the 26^th.

• S.: Key data releases include July consumer price, housing starts, and industrial production releases (all Tu). The Minutes to the July FOMC meeting (Wed) will help tell whether markets (and DE) are right to discount September action in favor of December. Speeches by Lockhart (Tu), Bullard (Wed), and Williams (Fr) could tilt odds a bit as investors wait for Yellen at month-end.
• Eurozone: The tone of the ECB statement after the July Council meeting was very gloomy, albeit recognizing that the UK Brexit vote has not resulted in fresh market turmoil. It will be interesting to see if the Minutes to the Council Meeting (Thu) show the extent to which the whole Council shared this view, as well as whether ECB members were unanimous about the positive impact of negative interest rates.
• UK: Data pertaining to the post-referendum backdrop are scheduled. Regardless, Public Sector Borrowing data (Th) may show some further but modest improvement, with more to come as fresh fiscal stimulus is emerging. Otherwise, real Retail Sales (including fuels, Th) have surged recently, but with some correction in the June reading likely continuing in July on Brexit impact.
• Japan: Q2 GDP (Mo) expectations teeter between expansion and contraction, July trade data (Th) may show continued y/y export and import weakness.
• Other central banks: Only Indonesia (Fr) will see a rate-setting meeting. A cut in the policy rate is likely as the economy enjoys decelerating price pressures.

[private]gmw_0812[/private]