The Daily Prophet: Despondent Bond Traders Say Enough Is Enough

Connecting the dots in global markets.

The last few weeks have been tough for the bond traders, with words such as "rout," "plunge" and "harrowing" used to describe a selloff that's produced the worst monthly losses since November. But on Thursday, they showed they're not ready to go down without a fight.

Traders came out in full force at the Treasury Department's monthly auction of $28 billion in seven-year notes. They bid for 2.70 times the amount offered, a so-called bid-to-cover ratio that's only been surpassed two times since the start of 2014 for that maturity. What makes the results even more remarkable is that the auction was the last before the Federal Reserve transitions to a much tighter monetary policy program next month known as Quantitative Tightening whereby it starts shrinking its balance-sheet assets. Whether this marks a turning point remains to be seen, as the reasons for the weakness in the bond market in recent weeks remain.

The declines started Sept. 8 after China reported higher-than-forecast inflation numbers, leading many to worry that a return of the so-called Global Reflation Trade was at hand, according to FTN Financial economist Chris Low. Then, just as traders cut the odds of a December Fed interest-rate hike to a minuscule 20 percent, central bank officials started talking more hawkishly. Then came Hurricanes Harvey and Irma, which led to higher gasoline prices that will cause headline inflation numbers to be elevated for the next few months. And finally, this week, the Trump administration released more details of its tax-cut plan, raising concern the government will need to sell even more bonds to make up for any lost revenue just as the Fed begins to reinvest less of the maturing proceeds from its bond holdings back into the market. 

STOCKS ARE UP, VALUATIONS AREN'T
Following a wobble in August, global stocks are back on track with the MSCI All-Country World Index poised to show a sixth straight quarterly gain. The gauge has risen 4.23 percent since the end of June and 14.9 percent this year. Equities will eventually pull back -- maybe -- but not anytime soon, according to some of the world's biggest banks. Barclays just published its fourth-quarter outlook and said it doesn't see a plausible catalyst that could upset valuations in risky assets. In the U.S., for example, the S&P 500 Index is up 12 percent for the year, but price-earnings multiples have held steady at about 21 due to rising corporate profits. Goldman Sachs says that given the late stage of the business expansion, rising fiscal stimulus expectations in the U.S. and continued strong macro data, there's no reason to believe that equities and other riskier assets won't continue to perform well, especially shares of cyclicals, financials and small caps.

THE PARTY'S JUST BEGUN IN INDIA
The rising tide that is the global stock market isn't lifting all boats. Emerging markets are in a nasty downtrend, with the MSCI EM Index falling for a sixth straight day to bring its loss for the month to 1.36 percent. September is the worst month for the benchmark since November. But don't throw the baby out with the bathwater, at least according to Morgan Stanley. The firm is going all in on Indian equities, saying a recent flood of cash into local stock funds is just the beginning, as the nation's savers chase equity returns amid diminishing appetite for gold, property and fixed income, according to Bloomberg News' Ameya Karve. "The party has just begun," said Ridham Desai, managing director at Morgan Stanley India. Inflows to local equity funds reached a record 204 billion rupees ($3.1 billion) in August. The gush of liquidity has provided a buffer against outflows sparked by the risk-off sentiment across Asia. Morgan Stanley figures that earnings for members of the benchmark Sensex index will rise 11 percent in the year ending March 2018, and 19 percent in the following financial year. It sees the economy growing at an average 7.1 percent annually for the next decade.


IT WAS BOUND TO HAPPEN

Perhaps no market in the world is more predictable than the one in oil. Every time the price of a barrel of crude rises above $50, U.S. shale drillers ramp up production to take advantage of the surge. Then, as supply increases, prices fall. We may be seeing the start of that trend again after oil rose from $46 to more than $52 only to ease back closer to $51 on Thursday. U.S. government data released Wednesday showed American drillers lifted output almost 9 percent during the past three weeks, the biggest three-week increase in half a decade, according to Bloomberg News' Meenal Vamburkar and Jessica Summers. The exuberance of U.S. explorers may offset supply curbs by OPEC and allied producers such as Russia. "If we see signs of U.S. production levels rising, the market is really vulnerable to a turnaround right now," said Gene McGillian, a market research manager at Tradition Energy. Oil has risen more than 20 percent since late June, the classic definition of a bull market, amid forecasts for improving demand, the return of U.S. Gulf Coast refiners after Hurricane Harvey, and Turkey's threat to halt Kurdish crude shipments through its territory.

WOE CANADA
Bank of Canada officials may want to rethink their hawkishness after raising interest rates twice this quarter. That's because a survey released Thursday showed sliding among optimism small and medium businesses. The Canadian Federation of Independent Business found that business confidence declined for the fourth consecutive month, reaching the lowest level since March 2016 after peaking in May. Canada’s Chamber of Commerce issued a similar warning about business confidence this summer. A separate survey from the Business Council of Canada, an Ottawa-based advocacy group, found that chief executives are worried the nation has become a worse place to do business, with burdensome regulations and rising costs of labor and energy. The reports highlight an undercurrent of worry that exists among Canadian businesses, even as they benefit from one of the strongest growth spurts over the past decade, according to Bloomberg News' Josh Wingrove and Erik Hertzberg. Those concerns are being driven by everything from growing protectionism in the U.S. to rising taxes and regulatory costs, including new carbon pricing and higher minimum wages.

TEA LEAVES
Friday could be a very volatile day in markets, as the U.S. Commerce Department reports personal income and spending data for August. The figures are likely to begin showing distortions related to Hurricanes Harvey and Irma lasting for a few months. The median estimate of economists surveyed by Bloomberg is for incomes to increase 0.2 percent, down from 0.4 percent in July, while spending is seen slowing to 0.1 percent from 0.3 percent. The economists at Bloomberg Intelligence figure that the increases could be even weaker in light of the poor retail sales already reported for the month. The inflation component of the report will also be closely watched, with the personal consumption expenditures index  expected to show a gain of 0.3 percent, up from 0.1 percent in July and reflecting higher gasoline prices. 

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