US factory orders expand in the face of recession worries

• Financial markets crumbled overnight as markets price in the prospect of a recession occurring in the near term, battering equities and commodity prices while providing some support to government bonds. Despite the anxiety in financial markets, data from the US at least still shows the economy expanding. Factor orders in May rose by 1.6% m/m, faster than the market expected while stripping transport orders showed a strong 1.7% gain m/m for core factory orders. Shipments also improved with a 3% gain m/m helping to alleviate some of the supply chain pressures that have been driving inflation. Anecdotal reports suggest that retailers in the US are holding excessive inventories which may worsen should demand start to fade in the face of higher borrowing costs.
• Final June PMIs for the Eurozone were revised up slightly to 53 from 52.8 in the flash print. That still represented a marked slowdown from the 56.1 recorded a month earlier. In the UK, the June final estimate was also revised higher to 53.7 from 53.1 earlier and also represents an acceleration in activity from the 53 level recorded in May. Nevertheless, the indicators are still at low levels compared with the trend observed in the last 18 months with many negative headwinds likely to affect the broader European economy in coming months.
• Only a few weeks after surviving a vote of no-confidence, UK prime minister Boris Johnson has suffered a political defeat following the resignation of two senior cabinet ministers. Rishi Sunak and Sajid Javid, the chancellor of the exchequer and health secretary respectively, both withdrew from cabinet overnight in the wake of a scandal involving a Conservative party MP whom the prime minister had recently promoted. While the pass-through to the economy is likely to be minimal, the change in the exchequer will be critical while the UK endures a substantial squeeze in the cost of living and labour unrest affects broader economic activity.

Today’s Economic Data and Events

• 10:00 GE Factory orders m/m May: forecast -0.5%
• 13:00 EC Retail sales m/m May: forecast 0.4%
• 18:00 US ISM Services index June: forecast 54
• 18:00 US JOLTS Job openings May
• 22:00 US FOMC minutes June 15

Fixed Income

• US Treasuries rallied sharply as recession fears took hold of markets. The 2yr UST yield saw a range of movement of almost 20bps from peak to low, falling from more than 2.95% to around 2.77% before settling the day only slightly lower compared with the last full trading day at the end of last week. In the 10yr, yields fell by 7bps at the closet to 2.8054% having shown a similarly wide round trip from peak to lows.
• The market continues to face the risk of sustained hikes from the Federal Reserve, with an options implied peak in the Fed Funds rate at less than 3.4% by March 2022 before a move to less than 3.1% by June 2022. The shift in trading from inflation to recession is being compounded by the lack of any pricing data while the minutes from the latest FOMC will shed some light on what the priority is for the Fed.
• Moves in European bond markets were more aggressive than in the US with major rallies across economies and maturities. The 2yr Schatz yield fell almost 19bps to 0.421% while the 10yr bund dropped by 10bps to 1.225%. in the UK, 2yr gilt yields fell 13bps to 1.656% while the 10yr yield dropped almost 15bps to 2.046%.

FX

• Currency markets collapsed overnight with EURUSD hitting its lowest level since December 2002. The pair closed at 1.0266, down 1.5% and raising the threat of hitting parity with the US dollar. Markets are quashing the prospect of a 50bps hike by the ECB at their September meeting in the face of strong recession risks.
• GBPUSD dropped by more than 1.4% to 1.1947, its weakest level since the peak of the pandemic. The uncertainty thrown up by the resignation of major cabinet members in the UK will also mean a cloudy outlook for policy making near term while the economic challenges for the UK economy are acute.
• USDJPY failed to provide any risk-haven salve overnight, rising by 0.17% to 135.85. In the risk-on space of commodity currencies, all major pairs took a beating. USDCAD rose by more than 1.3% to 1.3033 while AUDUSD fell by 0.9% to 0.6802 even in the wake of the RBA hiking rates by 50bps overnight and NZDUSD fell by 0.6% to 0.6172.

Equities

• Optimism over the potential boost to global trade by a rolling back of Trump-era tariffs on China did little to boost global equity markets yesterday. Europe saw particularly sharp losses as the CAC dropped -2.7% and both the DAX and the FTSE 100 lost -2.9% on the day. UK stocks were roiled by a gloomy assessment from BoE Governor Andrew Bailey and political turmoil in PM Boris Johnson’s cabinet.
• The situation was more mixed in the US where the S&P 500 added 0.2% and the NASDAQ 1.8% but the Dow Jones ended the day -0.4% lower.
• Locally, the DFM was the biggest loser on the day as it dropped -1.1%. The Tadawul ended -0.1% lower and the ADX -0.4%.

Commodities

• Commodities weren’t spared the rout in markets overnight with a loss of almost 10% in the Brent market to USD 102.77/b and more than 8% in WTI, taking the US benchmark to less than USD 100/b for the first time since April. The threat a recession poses to oil demand is being priced forward even if in actuality oil demand shows a relative inelasticity to broader economic conditions and is able to better weather economic slowdowns.
• Negotiations to restore the JCPOA, the Iran nuclear deal, look to be faltering as Iran continues to insist on adding provisions not related to its nuclear programme while the US lead on the negotiations called the recent resumption of talks in Qatar “more than a little bit of a wasted occasion.”

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