Risk rebounds on hopes China will attend trade talks
Trade tariff uncertainty delivered a blow to all asset classes when President Trump tweeted his frustration over the progress with trade talks with China and announced a tariff threat increase deadline for this Friday. Global equities sold off across the board as we saw risk aversion flows dragged oil initially lower, while pummeling emerging market assets. Financial markets however saw a steady reversal after reports that the Chinese will still go to DC, albeit with a smaller group than what was previously planned. The base case still remains we see a framework agreement reached, but the market is still repricing in the risk.
RBA – Easing bias expected
Fed – Escalates warnings on high-risk corporate debt
Stocks – Volatile trade sees key rebound
Oil – Middle East tensions outweigh trade worries
Gold – Uninspiring rally following trade worries
The Reserve Bank of Australia (RBA) rate decision is a live meeting with the current implied probabilities showing a 46% chance of a 25 basis point rate cut this meeting and an 89% chance we will see a rate cut this year. A rate cut would be the first for RBA Gove Lowe, which would make him the first in the developed world to deliver one in this current cycle.
Aussie has recovered about half of its losses that stemmed from the Trump tariff threat, but we could see a retest of the recent 4-month lows if the RBA confirms a return to having an easing bias. The big miss on first quarter CPI should allow the RBA to signal rate cuts are coming, but that may not happen until we see the statement on Friday. If the RBA remains patient on waiting to see if inflation is benign and hopeful the strong labor and consumer market will keep the economy growing, we could see Aussie rebound strongly.
The Fed’s release of their Financial Stability Report cautioned a growing escalation on high-risk corporate debt. The Report noted, “some contacts noted the potential for excessive risk-taking, owing in part to a more accommodative monetary policy stance than had been previously anticipated.” The twice annual report stated, “Lending standards and loan covenants generally remain weak, reflecting high investor demand for leveraged loans in recent years.”
The heightened warnings showed leveraged loans rose 20.1% with the businesses with the biggest debt loads are taking the riskier loans. The concern is if we see the credit market weaken, how bad will these loans lead to big unexpected losses. The Fed may be reconsidering enacting the counter-cyclical capital buffer, a move that would require the big banks to raise their capital demands.
US stocks recovered most of their earlier losses as markets reprice the risk of trade talks falling apart. The US became frustrated with Chinese officials flipflop of agreeing to changes that would require changes to Chinese law. Trade talks will continue this week and the base case still remains that we will see progress that will lead to a final deal. Stocks have survived a soft first quarter earnings season and accommodative stances globally are likely to shelter any minor selloffs. The risk of trade talks falling apart are probably closer to 30% and markets should not be surprised if we see further roadblocks over the next couple weeks.
The S&P 500 started the week lower with a gap of over 1% following Trump’s tariff threats and the Chinese pulling away from talks this week. Stocks finished the day erasing the majority of the decline. Asia markets are poised to open higher following the talks are not dead rebound.
Geopolitics are providing a nice base for oil prices as markets shrug off President Trump’s new threat of tariffs. The stage is set for growing tensions between the US and Iran. The US is mobilizing warships in the Persian Gulf in response to troubling Iranian actions.
Oil’s pullback saw technical buying ahead of the $60 a barrel and continued geopolitical risks may keep the rebound going. US stockpiles are expected to see a build of 1.2 million barrels, so we may see surging US production slow a bit here.
It is tough to be a gold bug. The precious metal did not deliver a substantial gain following the Trump tariff threat and markets may see bearish momentum accelerate if we do see a positive outcome with the talks in Washington DC this week. Gold seems to not be catching bid from the global accommodative stance that has been delivered by the Fed, PBOC and ECB.