Notes From Underground: Clearing Up Some Odds and Ends

This week brings Prime Minister Abe’s fiscal plan, the Reserve Bank of Australia’s rate decision, the Bank of England’s monetary results and U.S. nonfarm payrolls on Friday. So let’s put some perspective to tonight’s main events. The RBA will announce its overnight interest rate and consensus is calling for a 25 basis point CUT to 1.5%. Analysts believe that the weakness in the natural resource sector is aiding the reduction in capital expenditure. Also, Aussie inflation is at the bottom of the RBA‘s target range, which provides rationale for the RBA. I am not so sure of a CUT for this is coming at the end of Governor Stevens’s term at the RBA. Dr. Phillip Lowe will take over September 16 so this is the penultimate meeting for Mr. Stevens.

Every minister of finance and central bank head is noting the uncertainty caused by the BREXIT vote and is being cautious in word and deed. The fact that global equity markets have rallied post-Brexit may give Governor Stevens the latitude to give his successor the ability to cut rates upon the onset of global headwinds. The Aussie has rallied against the U.S. dollar but the Aussie has been weak against two of its main trading partners: the KIWI and YEN (though is stronger versus the Chinese yuan). I make the rate cut a toss-up but would look for technical support on the Aussie dollar outright. Why? If the Japanese government announces a larger FISCAL STIMULUS than has been previously publicly vetted, it may be bullish for the natural resource producers. A global-oriented fiscal stimulus initiative could push the Aussie dollar higher especially as it has short-term interest rates much higher than other developed nations.

The markets are expecting a 28 trillion YEN fiscal package from Abe but there is much dissension about the various elements that will be the key components. Will it be large infrastructure projects such as PORT enhancements in rural areas, a new high-speed train or a reinvigorated LENDING SCHEME, which will provide cheap funding for small and medium enterprises? There has been discussions about tuition and wage enhancements for the lower-income Japanese citizens. Combined with the recent BOJ announcement about enhanced U.S. DOLLAR lending facilities for Japanese financial institutions the NIKKEI OUGHT to be the bellwether of market sentiment. The NIKKEI rally has stalled since the BOJ disappointed investors with no rate cut and no new additional bond purchases July 29.

The increased Nikkei ETF purchases has provided some support for Japanese equities but the sizable YEN rally has been a negative for overall for the stocks of Japanese exporters. THE MARKET NEEDS TO SEE THE CORRELATION OF NIKKEI to the YEN decouple for verification of the success of any Japanese fiscal stimulus policy. Be patient as the new plan is unveiled tonight.

***Keep this on your radar: Hinkley Point. In the post-Brexit world analysts surmised that the British would be the odd-man out and be punished for the temerity to exit the European Union. The BRITS were to move to the back of the “queue” for trade deals. They were also labeled an international PARIAH, which would result in the collapse of London as a global financial center. It is far too early to determine the correctness of forecasts, but during the past week it has been Whitehall that has been the progenitor of political and economic surprises.

French energy company EDF, which is 85 percent government-owned, approved the entire Hinkley Point nuclear reactor project in a 10-7 vote. (There must have been much arm twisting from the Hollande Government searching for some success ahead of next year’s election.) Several EDF board members were opposed to the project but it seems that concern for French jobs and the entire French nuclear industry wanted the project to proceed as planned. Two Chinese nuclear firms were also to aid the funding of the 18 billion euro reactor in an effort to get a foot into the British energy sector.

The French nuclear industry has been under stress since the Chancellor Angela Merkel passed legislation decommissioning much of its nuclear capacity in the next decade. However, British Prime Minister May called for a review of the entire Hinkley Point project on Friday, citing concerns over the Chinese gaining control over a large segment of the British energy industry. This may in fact be the case–new Prime Minister, new agenda–but there may be other reasons. The Brits are very unhappy about Brussels’ choice of its Brexit mediator, Michel Barnier, who has a past history of being a harsh negotiator in his dealings with the U.K.

We won’t know what prompted Prime Minister May to call for a delay of Hinkley Point until further research confirms the benefits of such an enormous endeavor. One thing is for certain: ALL PREVIOUS ANALYSIS OF THE BREXIT VOTE IMPLIED A STATIC MEASURE OF BRITISH POLICY. Prime Minister May knows she has strengths to play in negotiations with the EU and she will be dynamic in employing these measures. Hinkley Point is important for the French and it could be easily funded by an ECB searching for any BONDS to buy to meet the 80 billion euros a month target. This deal was an economic no-brainer but is now an instrument of political negotiations. It won’t be easy but the world is dynamic and always in motion. Beware of analysts caught in the quagmire of static thought. Tomorrow we will look at the Bank of England, and more odds and ends.

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4 Responses to “Notes From Underground: Clearing Up Some Odds and Ends”

  1. Frank C. Says:

    I also have DB Deutsche Bank on my radar this week hoping it does not have a nuclear meltdown. The stock hit $12.50 during the pre-Brexit sell-off. It then rallied above $14.75 on short covering. They came out with earnings and stress test results last week. The stock was very weak today. Closing near its low of $13.06.

    DB revenues were down approximately 19% this is a reflection of negative interest policies in Germany. DB cannot make make money in a negative interest environment.

    As I have previously stated the IMF considers DB the most important systemic risk to the globe. As DB goes so do we all.

    I don’t know if the sell off in DB is the result of today’s announcement that both DB and Credit Suisse were removed from the Stoxx Europe 50 index. And so portfolios are re-balancing..And/or some lucky trader front ran the announcement.

    Or is the stock down based on its lack of earnings, and 10.8% alleged capital ratio?

    DB has said that negative interest rates are killing them. If the Burghers listen to CEO John Cryan and other critics of negative rates perhaps Mr. Draghi and Ms. Yellen will be forced to re-examine the proof in the pudding that minus rates are not healthy for financial institutions.

    If one recalls in 2008 the FED opened its windows to European Banks that did business in America.
    You cannot have an ebullient economy or a ebullient stock market if you have weak financials. Unless one does what the Stoxx index did and kick out the bank laggards.

    The continued push on negative interest rates may be the basis for the next financial meltdown.However I expect Ms. Merkel and company to figure out a way to cool down the reactors.

  2. yra Says:

    Frank C.—your analysis on DB right on point.The German crown jewel is toxic right now and probably makes Draghi happy as it silences his German critics.As James Galbraith new book reiterates the Greek negotiations were all about salvaging the giant German and french banks.There was a great piece in the FT yesterday about the new book.But the ECB and its Brussels brothers promote fictional counterfactuals to justify their policies

  3. Frank C. Says:

    I forgot to mention those recent European bank stress tests did not include any scenarios for default on Greek or Portuguese sovereign debt. But I suppose that is something Mr. Mario can control. But as you say who backs the ECB?

  4. Bojo Says:

    Yes, and together with content, Barnier does not seem like a very friendly choice also because of language. He had basically never spoken English in public until 2 years ago, also due to his poor English (he has improved in between). And now he is the mediator with the Brits.

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