Saudi throws in the towel

The S&P 500 printed its 42nd record high this year yesterday on the back of a mix bag of economic and corporate news.

First, the latest GDP data confirmed that the US economy grew 3% in Q2 and the price pressures fell. Corporate profits rose 3.5% in Q2 versus a 1.7% gain penciled in by analysts, and up from negative 2% the quarter before! Wait, wait, wait. The initial jobless claims came in lower than expected and continuing claims fell, defying the worries of an alarmingly softening jobs market. And if you put the strong data in the context of questionably dovish Fed, the US economy will soft-land on a mountain. It will be great if – and only if – the loosening monetary policy fed to a strong economy doesn’t boost inflation.

Due today, the Fed’s favourite gauge of inflation, the core PCE index, is expected to remain unchanged at 0.2% on a monthly basis, and print a small uptick – from 2.6% to 2.7% - on a yearly basis. Additionally, the personal income may have risen faster, but personal spending a bit slower than the previous month. A set of data in line with expectations will certainly keep the soft-landing vibes in play and secure a 43rd record high for the S&P500 before the weekly closing bell. But a stronger-than-expected PCE read, God Forbid, could bring the idea that the Fed and the dovish Fed expectations may have gone ahead of themselves and call for some correction. Yesterday’s robust GDP read brough the probability of 50bp cut at the November meeting slightly below 50%, but the chances are still very close to a coin toss.

China’s pandora box

China announced a mix bag of monetary and fiscal measures this week to prop up its economy and bring investors back to its shattered markets. This explosive cocktail of monetary and fiscal measures was what investors were demanding since years. And the satisfaction is clear – at least in the short run. The CSI 300 index gained more than 15% since the beginning of the week. The index pulled out the May-to-date negative trending channel top, and the almost two-year bearish trend top to catapult itself into a greatly overbought territory just before the beginning of a national holiday in China, next week. Likewise, Nasdaq’s Golden Dragon index is up by 20% since the week began and broke above its own two-year downtrending channel top. Buyers were so crowded in Shanghai that  Shanghai’s stock exchange encountered problems to follow up orders.

Could this euphoria last? Maybe. The structural and balance sheet challenges, heavy local debt burden, the aging population, deflation and loss of confidence are hard to reverse. Enthusiasm could fade rapidly if the economy doesn’t react. Today, all we have in hand is that the Chinese industrial profits grew 0.5% ytd in August, meaningfully down from 3.6% printed a month earlier.

Ouch

WSJ reported that Saudi Arabia will drop its $100pb price target and start increasing output in December to gain market share. Ouch. This was a possibility that we were exploring since Saudi decided to shoulder production cuts by unilateral cuts. It’s finally happening now. If Saudi is not playing the production restriction game along with its OPEC peers, it will be hard for the rest of OPEC to hold on to a price-supportive strategy Concretely, if Saudi starts pumping, the others must follow to increase their revenue, as well. And that’s outright bearish for oil prices, also provided that the non-OPEC countries are pumping abundantly as well.

Voila, US crude is down to $68pb and the short-term outlook remains strongly negative.

In Europe

The Swiss National Bank (SNB) cut the interest rates by 25bp yesterday, as expected. The USDCHF barely reacted to the news but the SMI index closed the session near the highest levels since the beginning of this month. Beyond the Swiss borders, the Stoxx 600 flirted with ATH levels as the rate cut expectations in the developed world combined to the Chinese stimulus measures boosted appetite for Europe’s China and growth-sensitive stocks. LVMH jumped 10% yesterday as if the Chinese government decided to pump money directly into Louis Vuitton.

Anyway, the early CPI reads for France and Spain for September are due to be released this morning. The figures are expected to point at a further easing in price pressures. If that’s the case, we could see the 1.12 resistance strengthen before the closing bell. But the US dollar, and the PCE report will say the last word.