Sunday, 25 September 2011

Shocks and Surprises, Week ending September 24th

The week's news and markets were once again dominated by the Euro-crisis – a Three Act Tragedy in which I think we're in the middle of Act Two, where the Princes of Europe continue not to notice that the palace they have built over the last 50 years is on fire, and the portcullis still down. It's in the nature of these dramas that Act One is largely taken up with the technical business of scenery setting, Act Two is largely taken up with argument, and Act Three is all about the body count.

Outside the Euro-palace gates, the noises-off continue to be discouraging. There was a parade of nasty shocks where things turned out worse than Euro-economists had expected: these ranged from industrial orders (down 2.1%, and dreadful downward revisions from Italy), consumer confidence (worst for two years), French consumer confidence, and PMI readings for both manufacturing and services, and, outside the Eurozone, UK orders. Actually things could have been worse – readings from Germany were at least no worse than expected, and neither was the fall in the Eurozone Composite PMI (though it showed an actual contraction at 49.2, and the new orders reading fell the steepest since July 2009). But everyone's now waiting for Act Three.

Nonetheless, Europe is not the whole world, thankfully, and there were significant surprises out the US last week which got sucked under to oblivion in the tail-wake of the Euro-crisis. One cannot judge the likely near-term course of US household deleveraging cycle without taking into account the housing market, because that's at the centre of the whole issue. And last week, there were two major upside surprises: sales of existing houses jumped by 7.7% MoM, which was almost double the most optimistic reading in the normal level of expectations, with purchases of single-family homes up 8.5%. Now, it's true that prices are still falling (down 1.7% MoM and 5.1% YoY), but when you're looking for the bottom of the market, it's volume that matters. Builders also seem to feel some sort of a bottom is being reached: building permits jumped 3.2% MoM, which again was outside the range of expectations by some considerable distance. In fact, expectations for MoM results remain immovably negative even though three out of the last four months have shown significant growth (May up 8.2%, June up 1.3%, July down 2.6%, August up 3.2%).

So tomorrow's new housing sales data, also for August, will therefore be worth watching. Consensus is looking for only 294k, a fall of 1.3% MoM, still conservative. Even so, it would represent a rise of 5.2% YoY. The balance of last week's data suggests we can't rule out an upside surprise on this one. So to do bank balance sheets, where the Fed data tells us closed-end residential loans rose 5% YoY in August, after rising 5.3% in July.

In Asia, the main 'shock' is that the strength of the yen is catching up with Japan's exporters. As usual, the J-curve effect, in which the initial lack of trade balance response to a sharp currency appreciation is suddenly and dramatically reversed, caught us us economists out. We can walk the J-curve drill in our sleep, but it still gets us every time – I have no idea why. Well, the data for August showed export growth achieving less than half the bottom end of analysts' expectations, whilst import growth exceeded even the top end of the range of consensus. China looks to be the main beneficiary – exports to China rose only 2.4% YoY, but imports from China leapt to 16.3% YoY, and Japan's trade deficit with China almost tripled on the month.

And the data from China this last week suggested it will welcome all the benefit from the strong yen it can get. I think there were three data-series from China which were distinctly disappointing this week: the MNI Flash Business Sentiment Survey, the HSBC/Markit Flash Manufacturing PMI, and Taiwan's export orders. Since there's only a published consensus on Taiwan's export orders we'll start there: they rose 5.3% YoY in August (vs 11.1% in July), which was below the bottom end of expectations. The main reason for the slowdown was growth in orders from the US, which fell to 9.1% YoY from 16.8% in July, but orders from HK/China didn't help – they fell 0.4% MoM, and grew only 3.4% YoY (vs 6.5% in the previous month).

The shock from the HSBC/Markit Manufacturing PMI is less in its headline (it fell to 49.4 from 49.9 – but this just takes us back to July levels) than in the details – sharp falls in new orders, particularly export orders, and stocks of purchases all suggest more slowdown is on its way, whilst inflation in both input and output prices continues to accelerate. Similarly, the shock from the MNI Flash Business Sentiment Survey isn't immediately obvious – it rose to 59.27 in September from 55.4 in August. Not bad – except that this reading of how listed firms are feeling isn't seasonally adjusted, and that 7.9% MoM rise is frankly pallid compared with, say, the 11.9% recorded last September. In fact, on a YoY basis, the reading was down 14.8% YoY (vs a fall of 10.9% in August).

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