Danske Daily - Positive Signs From US And China Trade Talks

Markets are set to digest the results of the US-China trade negotiations this morning after the two sides agreed to continue talks in February.

On the data front, we have some interesting numbers today to finish off a busy week. PMIs are due to be released in many countries before noon and should give more input into the slowdown in the global economy.

We expect euro area preliminary inflation for January to decline to 1.3% y/y (consensus 1.4% y/y) down from 1.6% y/y in December. However, this is driven entirely by energy prices. Focus is instead set to be on the core inflation number, which we expect to stay unchanged at 1.0% y/y.

Later today all eyes turn to the US employment report and ISM manufacturing. We expect unemployment to rise due to the government shutdown. When it comes to payrolls, it is unclear whether the shutdown affects this, so focus is likely to be on private employment, which should be unaffected. Wage growth is also likely to draw attention. We look for a decline from 3.2% y/y to 3.1% y/y, which would cement the view that the Fed is firmly on hold now.

The ISM manufacturing index took a big dive in December. We expect it to fall a bit further in January from 54.3 to 54.0.

Asian stocks are mostly flat this morning, weighing up the positive signs from the trade talks between the US and China against a further fall in the Chinese Caixin PMI manufacturing index. On the trade talks, the Chinese side said in a statement that the negotiations had made 'important progress' and described the discussions as 'candid, specific and constructive' (see here ). On the US side, both Donald Trump and his top negotiator Robert Lighthizer reported substantial progress. Trump also said that he and Chinese president Xi Jinping would meet soon to try to seal a comprehensive deal. Steven Mnuchin and US Trade Representative Lighthizer are scheduled to visit China in mid-February to hold the next round of talks. We see the developments as a further sign the two sides are keen to make a deal and continue to expect a deal by the end of Q2 (75% probability). That we have not yet met any major roadblocks in the talks - even after negotiations about the most thorny issues - suggests to us that it is indeed possible to make a deal. In our view, it will still be difficult to meet the 1 March deadline but it seems increasingly likely that Xi and Trump will sign a deal at a meeting at some point in March.

Overnight, the Chinese Caixin PMI manufacturing index fell more than expected from 49.7 in December to 48.3 in January. This is the lowest reading since February 2016. However, we see the index stabilising soon in line with the official PMI index, which increased slightly yesterday on a small pickup in the export order index.

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Scandi markets In Norway, we get unemployment figures for January. Changes to NAV’s methodology have made its jobless data harder to interpret since last summer but the sharp fall in December clearly suggests to us that the labour market is continuing to tighten. We expect the seasonally adjusted rate to be unchanged at 2.4% in January. The monthly PMI has had its thunder stolen somewhat by the confidence data released last week by Statistics Norway. There are still clear signs that the oil-driven upswing in Norwegian manufacturing is continuing despite the global slowdown but we still expect a moderate decrease in the PMI to 55.0 in January.

Fixed income markets

The fixed income rally intensified yesterday as the market continued to price in the neutral stance from the Fed and a weaker global outlook. In Europe, core markets saw support from the lacklustre eurozone Q4 growth data (0.2% q/q) and the January supply wave now being behind us. The GDP data also underlined the divergence between Spain (+0.7% q/q) and Italy, which slipped into recession in Q4. Consequently, Spain outperformed Italy by 4bp. It is noteworthy that the Bund spread tightened 1bp to 53.5bp.

We expect the fixed income rally to continue this morning following the fall in US yields and the Bundesbank’s Jens Weidmann saying late in the afternoon that the weakness in the German economy carried into 2019 and that growth will be significantly lower than projected just a few weeks ago. The market discussion is no longer whether and when the ECB will hike but what its next easing move will be.

Index extension in the EUR government bond market might also still be supportive. Total BPV is increased by 0.11 (Bloomberg/Barclays Euro government all index >1Y). The winners in terms of increased duration are Belgium (+0.18), Germany (+0.19), The Netherlands (+0.5), Spain (+0.24) and Slovenia (+0.6).

FX markets

Weaker-than-expected domestic data (retail sales, trade balance, NIER) have weighed on the SEK over the recent weeks and today’s services PMI may just add to the poor cyclical sentiment. Note, however, that the Swedish macro surprise index has reached historically stretched, i.e. downbeat, levels, suggesting that a lot of negativity is already priced into EURSEK. Looking at RSI, the cross has reached technically overbought territory. Our short-term model based on relative rates and a proxy for risk has fair value at around 10.25.

An offered SEK, meanwhile, has been a non-negligible factor for sending EUR/NOK lower via NOK/SEK interests. While we still expect a stronger NOK over the coming months, we doubt EUR/NOK will reach the 9.50s over the coming week as (1) SEK looks oversold, (2) the domestic data calendar is fairly thin (expect little price action after today’s NAV release) and finally (3) as structural liquidity is set to improve temporarily next week.