Implications of a slightly improved macro narrative

The global narrative is turning better as trade war risks recede. China moves to ease RRR and trade tensions.
Eugene Leow, Nathan Chow12 Sep 2019
    Photo credit: AFP Photo

    Rates: Strategies for a better global narrative         
    The global narrative is taking a turn for the better. News broke this morning that the US is postponing the imposition of an extra 5% of tariffs on Chinese imports to mid-October (from the start of October). This trade war de-escalation came as China also extended an olive branch by announcing that selected US imports would be exempted from the 25% tariffs that has been put in place. With the market perceiving that HK’s political situation and that hard Brexit risks have receded somewhat, we think conditions have aligned for higher USD rates. Moreover, we are wary on duration in the DM space given that rates have generally already factored in aggressive monetary policy easing. Risks of the Fed and the European Central Bank (ECB) actions disappointing the market should not be underestimated. 

    We think that there is scope for Asia rates/govvies to outperform US Treasuries over the coming few weeks as sentiment improves. In particular, we like Indo govvies(for the high absolute yields) and SGSs (for the high relative yields compared to AAA-rated peers and USTs). MGSs also screen well in our Asia Rates Valuation Indicator (ARVI). For India,we think that improved sentiment may be better expressed via bets on a narrower govvie-swap spread. In the 5Y segment, the govvie-swap spread (generic) stands at 125bps (close to 2% above the decade average) and seems excessive by historical standards.   

    China: Moving to ease RRR and trade tensions

    The People’s Bank of China will look past the stronger-than-expected headline inflation and maintain an accommodative monetary policy stance. The central bank recently announced that the reserve requirement ratio for financial institutions will be lowered by 50 bps on September 16, followed by two more cuts in the urban commercial banks’ RRR by a total 100 bps on October 15 and November 15. CPI inflation came in a tad firmer at 2.8% YoY in August vs the 2.7% consensus. The major lift came from food prices which is likely to keep pushing higher in the coming months. Pork prices have spiked 46.7% as a result of supply disruption caused by the African swine flu.

    We, however, prefer to focus on the muted demand-pull inflation signalled by a three-year low core inflation rate. Non-food inflation has eased further to 1.5% from 1.6%. Supply-side pressures were not evident either, not helped by lower commodity prices. PPI inflation turned negative for a second straight month in August (-0.8% YoY vs -0.5% previously). Despite relief that China and US will resume trade talks in October, China slowdown worries have not gone away. In the near-term, sentiment is likely to receive a boost from both sides dialling back some tariffs to provide a more conducive environment for the talks in Washington. China may have started to deliver another gesture of goodwill with a modest fall in the mid-rate for USDCNY over the past week.

    Eugene Leow

    Rates Strategist - G3 & Asia


    Nathan Chow

    Strategist - China & Hong Kong


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