Author: Consultant

Asia-Pacific markets mostly fall sharply; China’s factory activity shrinks

https://www.cnbc.com/2022/09/01/asia-markets-china-caixin-manufacturing-pmi-south-korea-gdp-stocks.html

Crude Oil Sees Further Downside Following Yesterday’s Sharp Pullback

Following the sharp pullback seen in the previous session, the price of crude oil saw further downside during trading on Wednesday.

Oil prices regained some ground after an initial sell-off but once again came under pressure in the latter part of the session.

Crude for October delivery tumbled $2.09 or 2.3 percent to $89.55 a barrel after plummeting $5.37 or 5.5 percent to $91.64 a barrel on Tuesday.

Concerns about the outlook for the global economy continued to weigh on oil prices following the release of disappointing Chinese data.

A report showing record high inflation in the Eurozone also led to worries aggressive monetary policy tightening by the European Central Bank could trigger a recession.

Oil prices recovered from their early lows after a report from the Energy Information Administration showed U.S. crude oil inventories fell by more than expected in the week ended August 26th.

The report showed crude oil inventories slid by 3.3 million barrels versus expectations for a decrease of about 1.5 million barrels.

The EIA also said gasoline inventories declined by 1.2 million barrels, while distillate fuel inventories inched up by 0.1 million barrels.

At midday: TSX slips on sell-off in energy stocks, downbeat GDP data

Canada’s resource heavy main stock index fell on Wednesday after a drop in the sector and others including energy and materials added to the dour sentiment from data showing slower-than-expected growth in the domestic economy.

At 10:25 a.m. ET, the Toronto Stock Exchange’s S&P/TSX composite index was down 71.86 points, or 0.37%, at 19,441.04. The index is headed for its fourth straight decline, and is down 1.2% for the month mainly due to falls in oil prices.

The energy sector dropped 0.6% as crude prices continued to slide on worries about a slowing global economy, bearish oil demand signals from OPEC+ and increased COVID-led restrictions in China.

Canada’s statistics agency data showed economic growth lagged in the second quarter and most likely dipped into negative territory in July, signaling the economy may be cooling more quickly than expected.

The negative print for July suggests third-quarter growth will come in short of the Bank of Canada’s forecast of 2%, said economists. Still it was unlikely to sway the central bank from its current tightening path.

“Central banks are worried more about inflation than they are about the possibility of a recession,” said Michael Sprung, president at Sprung Investment Management.

The healthcare sector jumped 2.5% after Bausch Health soared more than 20%.

Money markets see a roughly 75% chance that Bank of Canada will increase rates by 75 basis points next week.

Meanwhile, gold prices were on track to post their longest streak of monthly losses since 2018 as traders anticipated more interest rate increases by central banks to combat inflation. The TSX materials sector, which includes precious and base metals miners and fertilizer companies, lost 0.4%.

“We could have quite a bit of choppiness in the weeks ahead,” said Colin Cieszynski, chief market strategist at SIA Wealth Management.

World stock markets staged a tepid recovery on Wednesday after a three-day losing streak, but stubborn inflation that has central banks on both sides of the Atlantic preparing to raise borrowing costs again next month kept investors on edge.

Wall Street was mixed in early trade as U.S. crude oil prices sank for a second day, as worries that tightening monetary policy around the world will hurt demand and drag on the global economy.

The MSCI all-country stock index was little changed on the day and was down 18% for the year as war in Ukraine, surging energy prices and rising interest rates take their toll on risky assets.

The U.S. S&P 500 index and the Dow Jones Industrial Average were also flat, while the Nasdaq Composite rose 0.49%.

Europe’s STOXX share index of 600 companies dropped 0.6% to a six-week low, leaving it down about 14.5% for the year.

Economic news remained grim with overnight data showing that economic activity in China, the world’s second-largest economy, extended its decline this month after new COVID-19 infections, the worst heatwaves in decades, and struggles in the property sector.

Headline euro zone inflation for August rose to another record high, beating expectations and solidifying the case for a hefty rate hike by the European Central Bank on Sept. 8.

Russia halted gas supplies via a major pipeline to Europe on Wednesday for three days of maintenance amid fears it won’t be switched back on, adding to worries of energy rationing during coming winter months in some of the region’s richest countries.

The energy crunch has already created a painful cost-of-living crisis for consumers and businesses and forced governments to spend billions to ease the burden.

German bonds were set for their worst month in over 30 years as euro zone inflation hit a record high.

Markets are betting that the U.S. Federal Reserve and the ECB will both raise their key borrowing costs by 75 basis points when they meet next month.

Jamie Niven, a senior bond fund manager at Candriam, said rate hikes anticipated for this year had been largely priced into markets, especially in the United States.

Investors have begun pricing out previously anticipated rate cuts next year following Fed Chair Jerome Powell’s hard-hitting speech last week.

“I think there is more pain to come in credit markets and in equity markets before we see a brighter outlook. I don’t think central banks are going to be in a state where they can cut to kind of soften the blow of recession,” Niven said.

While there may be occasional quick flips or dramatic rallies back into riskier assets like stocks at times, they will ultimately be lower towards the end of the year, Niven said.

U.S. non-farm payrolls data due on Friday could make the case for a big rate hike, analysts said.

In Asia overnight, Japan’s Nikkei sagged 0.4% and Chinese blue chips were little changed. Hong Kong’s Hang Seng was down 0.16%, recovering from steep early declines.

The two-year U.S. Treasury yield, which is relatively more sensitive to the monetary policy outlook, hit a 15-year high at 3.497% overnight, but eased back to 3.4357%.

The 10-year Treasury yield, which hit a two-month high of 3.153% on Tuesday, stood at 3.1063%.

The dollar index was flat at 108.74, after starting the week by marking a two-decade high at 109.48.

Sterling is set for its worst month since late 2016 against the dollar as UK inflation is already at 10% and rising, with the Bank of England set to increase rates next month.

Gold fell 0.3% to $1,718.4 an ounce, a one-month low.

Crude oil fell further after declines of more than $5 overnight, but drew support after industry data showed U.S. fuel stocks fell more than expected.

U.S. West Texas Intermediate (WTI) crude futures were down 1.3% at $90.45 a barrel, after sliding $5.37 in the previous session, driven by recession fears. Brent crude futures for October fell 2.7%.

On a brighter note, cryptocurrencies staged a rebound, with bitcoin up 1.8% at $20,182.

Private payrolls grew by just 132,000 in August, ADP says in reworked jobs report

• Private payrolls grew by just 132,000 for the month, a deceleration from the 268,000 gain in July, ADP said in its monthly payroll report.
• August’s numbers add to the inflation worries, as the firm reported annual pay up 7.6% for the month.

https://www.cnbc.com/2022/08/31/adp-jobs-report-private-payrolls-grew-by-just-132000-in-august.html

An Iran nuclear deal revival could dramatically alter oil prices — if it happens

• “Should the nuclear deal be revived, 1-2 million barrels per day of extra oil could hit the market in a comparatively short period of time,” one commodities analyst told CNBC.
• Iranian negotiators in mid-August expressed optimism about the prospects for an agreement, with one advisor saying “we’re closer than we’ve been before” to securing a deal.
• But so far, it seems there are a few remaining sticking points that are proving difficult to resolve.

https://www.cnbc.com/2022/08/31/an-iran-nuclear-deal-revival-could-dramatically-alter-oil-prices.html

China is set to convene a historic meeting on Oct. 16. Here’s what to expect

• The Communist Party of China’s top leaders are expected to propose that the party hold its 20th National Congress on Oct. 16 in Beijing, state media announced Tuesday.
• This year, the gathering takes on additional significance as it’s become a widely watched marker for when China may begin to ease its stringent zero-Covid policy.
• President Xi Jinping will likely increase his share of political associates at the top two levels of the Chinese leadership, according to Eurasia Group.

https://www.cnbc.com/2022/08/31/china-is-set-to-convene-a-historic-meeting-on-oct-16-heres-what-to-expect.html

Job openings top 11.2 million in July, well above estimate and nearly double the available workers

• Available job positions in July totaled 11.24 million for the month, well in excess of the 10.3 million FactSet estimate.
• That total also was nearly double the total pool of available workers, which stood at 5.67 million for the month.

https://www.cnbc.com/2022/08/30/jolts-july-2022.html

Capital markets slowdown dents BMO’s quarterly profit and overshadows strong lending trends

A steep drop in revenue from capital markets dragged down Bank of Montreal’s BMO-T -2.57%decrease third-quarter profit despite strong demand for loans from retail clients, bringing a tepid earnings season for Canada’s large banks to a close and underlining the uncertainty those lenders face in the coming months.

An abrupt slowdown in underwriting and advisory work for investment bankers, compounded by weaker revenue from trading, loomed large over BMO’s quarterly results. Capital markets revenue fell 20 per cent year-over-year and profit was down 53 per cent, to $262-million. The drop-off was most acute in the investment and corporate banking unit, where revenue fell 36 per cent, as many corporate clients sat on the sidelines to wait out market upheavals.

In a possible sign that BMO doesn’t expect deal-making to return any time soon to the booming levels seen last year, the bank reported $49-million in severance pay in its capital market division as it trims staff in an effort to maintain profitability. The bank did not reveal how many jobs it is cutting.

The slowdown in capital markets was not unique to BMO – revenues from investment banking and trading divisions fell at most Canadian banks in the fiscal third quarter, which ended July 31. It was most pronounced at banks such as BMO and Royal Bank of Canada, which have built a larger part of their business on serving U.S. clients in capital markets.

However, there are “early signs” that activity among clients in Canada and the United States could be starting to pick up, BMO’s chief financial officer Tayfun Tuzun said in an interview. “Capital markets typically don’t stay closed for lengthy periods of time. So I think history is on our side. At one point, the wheels will start turning.”

Downbeat capital markets results overshadowed what was otherwise a good quarter for the bank’s core retail-banking business, which caters to commercial and personal borrowers in Canada and the U.S. Demand for new loans was robust, driving revenue up 13 per cent in Canada and 12 per cent in the U.S. division, while profit margins on loans also improved.

BMO is the last of Toronto’s major banks to report its third-quarter earnings, capping off a string of mixed results. Three of the Big Six banks, including BMO, fell short of analysts’ expectations for profits. And each bank reported earnings that were hobbled by weak capital markets activities and modest increases to provisions against loan losses, in spite of good underlying trends in retail lending.

But with growing uncertainty about the prospect of an economic slowdown as central banks rapidly raise interest rates to beat back high inflation, investors are looking for clues about how much that could reduce demand for new borrowing.

“That is the big question, in terms of how higher interest rates, by slowing down economic growth, will impact loan growth in different parts of our business,” Mr. Tuzun said in an interview. “The market is still, to a certain extent, struggling to measure the impact of higher interest rates and the timing of that slowdown.”

BMO’s shares fell 2.6 per cent to $124.49 on the Toronto Stock Exchange on Tuesday, and rival banks have also suffered declines in their stock prices after reporting quarterly results.

“The market reaction has been negative, as the [Canadian] banks have underperformed the TSX over the past week,” said Jim Shanahan, an analyst at Edward Jones.

BMO joined rival banks in building its reserves against possible losses from defaulting loans, though actual write-offs are still at unusually low levels. The bank earmarked $136-million in provisions for credit losses – the funds banks set aside to cover loans that could go bad. Of that sum, $32-million was set aside largely because the economic forecasts that BMO uses to predict future losses got slightly worse, requiring more provisions against loans that are still being repaid today.

Although credit losses are expected to tick higher in the coming quarters, returning to more normal levels, “that normalization probably will be orderly,” Mr. Tuzun said.

BMO’s quarterly results also suffered from the impact of two accounting items recorded as large losses. BMO booked a $649-million after-tax loss related to a hedging strategy to offset the risk to capital from rising interest rates when it closes its $17.1-billion acquisition of California-based Bank of the West. In the previous quarter, the bank recorded a $2.6-billion gain on the same hedge, however. And last week, Toronto-Dominion Bank recorded a $505-million after-tax loss on a similar hedging strategy tied to its pending US$13.4-billion deal to acquire First Horizon Corp.

BMO also took $88-million in writedowns on underwriting commitments from its role in loan syndicates, though about 90 per cent of those losses are unrealized, and the value of the underlying assets could change. Similarly, Royal Bank of Canada reported $385-million of markdowns in its disclosures last week, with three-quarters of them unrealized.

BMO earned $1.37-billion, or $1.95 per share, in the fiscal quarter that ended July 31. That compared with $2.28-billion or $3.41 in the same quarter last year. After adjusting to exclude one-time items, including the accounting loss on its hedging strategy, BMO said it earned $2.13-billion or $3.09 per share. On average, analysts expected $3.17 per share, according to Refinitiv.

“Although BMO’s quarter fell shy of consensus forecasts, the negative elements of the period were isolated to the capital markets business,” said Gabriel Dechaine, an analyst at National Bank Financial Inc., in a note to clients. That weakness should be “transitory,” he added, but the tailwind from rising interest rates, which should boost profit margins on loans, “is a more sustainable driver for the bank.”

BMO’s net interest margins – the difference between what it charges on loans and pays on deposits – increased by 10 basis points in Canada and 21 basis points in the U.S. during the quarter. (100 basis points equal one percentage point). That helped drive profit from Canadian personal and commercial banking up 17 per cent to $965-million, and 3 per cent to $568-million in the U.S.

Europe’s economies sail toward recession as Russian gas cuts bite

European Union economies seem headed for a recession as Russian gas supply cuts push up prices and limit availability, exposing the bloc’s industrial sector.

Gazprom’s decision to reduce capacity at the Nord Stream 1 pipeline to 20% has severely reduced the supply of Russian gas to the continent. EU countries, dependent on Russia for 41.1% of their gas requirements in 2020, responded by agreeing to reduce gas consumption by 15% between August and March 2023.

With governments likely to prioritize households in the distribution of available gas supplies, energy-intensive industries such as chemicals, cement and metals will likely face the brunt of the rationing, reducing industrial output in economies already bruised by the impact of inflation on consumer spending power.

“We’re looking at a situation where the European economy has lost significant momentum, mainly due to record high inflation, and the [energy] shock is worse in a worsening economy,” said Diego Iscaro, senior Europe economist at S&P Global Market Intelligence. “We think recession is very likely late this year or early 2023. Even the third quarter of this year is looking quite weak.”

Contraction ahead

The economic damage will be much more severe if Russia decides to turn off the taps completely.

“A complete end to Russian gas exports would cut eurozone GDP by around 2% whilst rationing was in place in addition to the one percentage point cut due to higher inflation,” Andrew Kenningham, chief European economist at Capital Economics, wrote in an August 9 research note.

Swiss bank UBS forecasts a recession with three consecutive quarters of economic contraction if Russia cuts off the gas supply to Europe.

Gas prices have rocketed as European countries seek supplies to fill their stocks ahead of winter. Plans have been made to build new LNG terminals to increase capacity for gas imports, while investments in nuclear power and renewables are also receiving more support. However, these projects will take time to bear fruit.

The Biden administration has pledged to increase exports of LNG to the EU and established a task force to design measures to reduce European reliance on Russian energy. The supply commitment has been likened to the Marshall Plan in 1948, which helped European economies reconstruct following World War II.

“The plunge in Russian gas flows to Europe will continue to support European gas price levels for at least the next few years,” said Ornela Figurinaite, gas analyst at S&P Global Commodity Insights. Figurinaite noted that current constraints in capacity to regasify liquified natural gas back to atmospheric temperature will keep prices high enough to reduce demand in the industrial and heating sectors.

The eurozone economy is already feeling the strain. The S&P Global Market Intelligence Eurozone composite purchasing managers index, or PMI, survey fell into contractionary territory in July for the first time since February 2021, with the manufacturing sectors in the region’s major economies — Germany, France, Italy and Spain — all registering declining PMIs.

Germany at risk

The German economy is particularly vulnerable to gas rationing, according to Iscaro. “The industrial sector is quite large compared to GDP and they have quite a strong reliance on Russian gas,” he said.

At 18% of GDP accounted for by manufacturing in 2021, Germany is more dependent on the sector than many other leading Western economies. In the U.S., manufacturing accounts for 11% of GDP, while in the U.K. it is just 9%.

Capital Economics calculates that a 50% reduction in output in energy-intensive industries would directly reduce German GDP by 2%, while ripples through the supply chain would double that cost to 4%.

Germany, which lacks large LNG terminals, is particularly exposed to Russian gas, having decided to decommission its nuclear fleet in the wake of the Fukushima disaster in 2011. Reduced output from France’s nuclear fleet has limited another important source of power for the continent.

Russian gas supplies to the EU were 30% below the average for the past five years according to the EU Commission, and the struggle to find replacement supply has left German gas stocks 29.1% below the level of a year earlier, according to Commodity Insights.

Interconnection brings vulnerability

The interconnectedness of the eurozone economy means there will be knock-on effects from a downturn in German manufacturing. Emerging European countries such as the Czech Republic and Slovakia have significant roles in the supply chain of Germany’s industrial powerhouse.

Energy rationing and high prices could persist beyond the next year even as the eurozone develops the infrastructure to import more LNG and reduce its reliance on Russia.

“Even after the necessary regasification capacity becomes available in Europe, we still need growth in global liquefaction capacity for prices to stabilize,” said Commodities Insights’ Figurinaite.

Shielding consumers

Consumer spending has also taken a hit as energy costs soar. Consumer price inflation in the eurozone rose to a record high 8.9% in July, limiting household purchasing power. Retail sales in the eurozone fell 1.2% month over month in June with the sharpest declines seen in Germany and the Netherlands.

European countries are likely to enact fiscal policies designed to shield citizens from the worst effects of scarce gas.

“Governments are likely to react the same way they reacted to the pandemic,” Iscaro said. “In France, subsidies are being used to limit the increase in energy prices, but also other countries, like Greece, have put in place measures worth 3% of GDP.”

Oncoming colder weather will add another dimension to the grim economic outlook.

“If we have a particularly cold winter things can go pretty bad quite quickly,” Iscaro said.