Friday, January 29, 2016

Fed Cautious, Japan Less Than Zero Weekly Market Update: Fed Cautious, Japan Less Than Zero
Fri, 29 Jan 2016 16:19 PM EST

Steadying crude prices and another bout of central bank cajoling helped global equity markets stabilize this week. The Bank of Japan surprised markets by putting interest rates into negative territory for the first time ever, joining the ECB and various other European central banks. Voting 5-4 in favor of the measure, the BOJ announced that it will charge a rate of -0.1% for excess reserves parked at the bank by financial institutions, and implied that lower oil prices made its decision necessary. At the scheduled meeting on Wednesday, the US Federal Reserve left the door open to a March rate increase despite acknowledging that "economic growth slowed" since its last meeting in December. Meanwhile, the PBoC pumped cash into the Chinese economy and continued its streak of very gradually strengthening the yuan exchange rate. Stocks continued to be to be very volatile, and by Friday the DJIA posted its eighth straight day with a triple digit move. For the week, the DJIA gained 2.3%, the S&P rose 1.7%, and the Nasdaq added 0.5%.

Global interest rates dipped on the news the BOJ was going negative. The 2-year US Treasury yield dropped to a 3-month low while German short rates forged further into negative territory. Fed fund futures found buyers after the FOMC statement on Wednesday and remained bid through Friday, with many acknowledging it will be even harder for the Fed to gradually take rates higher if major Central Banks around the world keep their foot on the stimulus pedal. The Dollar rallied 2% against the Yen and 1% against both the Euro and Pound on Friday further complicating factors.

The FOMC offered more cautious language in its statement, warning that economic growth slowed late last year, after previously describing the expansion of economic activity as moderate. Further, the statement abandoned its balanced outlook language ("the committee sees the risks to the outlook for both economic activity and the labor market as balanced") and said inflation would "remain low in the near term." On the positive side, the Fed noted further improvement in labor market conditions. Analysts said the changes reflected a more cautious outlook, but hardly ruled out more rate hikes. Friday afternoon Dallas Fed President Kaplan clarified that the message from FOMC statement was that more time is needed to assess global situation. He said the committee has good reason to be patient on rate decisions, and that the number of rate hikes this year is not locked in.

Heading into Friday's BoJ decision, expectations had been piling up for Kuroda and company to respond to softer economic data. The final straw were the lower inflation rates seen in the Japan and Tokyo January CPI prints - particularly in the forward-looking capital region - along with bigger than expected declines in household spending and industrial output. Echoing Mario Draghi's famous phrase, BoJ Chief Kuroda said the bank was prepared to do "whatever it takes" to achieve its 2% inflation target, and that the bank would go even deeper into negative territory if needed. In addition, the BoJ cut its FY16/17 CPI projection to 0.8% from 1.4% prior but maintained its FY17/18 forecast at 1.8%, noting that the assumptions were based on oil prices rising to over $40/bbl by 2018.

The PBoC used liquidity injections ahead of the lunar New Year holiday to add the most funds to the Chinese financial system in three years to help stem the seasonal cash crunch. The bank auctioned a total of 590 yuan or nearly $90 billion in reverse repos in two auctions. The PBoC has signaled its preferences for such lending and liquidity operations in place of RRR cuts, although officials also said this week that RRR cuts can still be used, if needed. Meanwhile, as of Friday the PBoC has strengthened the yuan midpoint for 15 consecutive sessions. Analysts suggested that the BoJ move would put heavy pressure on the Chinese to resume devaluation of the yuan.

Russia and OPEC began the painful process of admitting that oil prices have sank too far and that something must be done to put a floor under the market. There were reports from mid-week that OPEC was considering a meeting with major non-OPEC producers to discuss the market and possibly attempt to get all parties to agree to equal, coordinated production cuts. One report suggested the Saudis wanted everybody to cut 5% of production. OPEC officials downplayed the reports, but did say the door was open to cooperation. Iran could dampen the chances of a broad producer agreement, as Tehran appears focused on restoring its oil industry to pre-sanction production levels. The reports helped WTI test above $34 on Thursday and Friday, while Brent managed to test above $35/bbl.

Another January regional manufacturing report surprised to the upside, offering a glimmer of hope for the battered US manufacturing sector. Earlier in month, the New York Fed's January Empire survey hit its lowest level since the depths of the recession in early 2009, while the Philly Fed manufacturing index improved significantly on a m/m basis, but remained in negative territory. On Friday, the Chicago PMI saw its biggest m/m rebound in decades, rising back into expansion territory at 55.6 from a six-year low of 42.9 in December. The new orders component of the barometer jumped to the highest level in a year, while production also surged. The December durables report was much less positive, with the headline figure down 5.1% - the biggest monthly drop since mid-2014 - following a 0.5% decline in November. Orders for nondefense capital goods (ex-aircraft) - a key proxy for business investment - plummeted 4.3%. Analysts suggest that the headline loss was mostly due to big declines in the very volatile aircraft orders category, while the nondefense capital goods slip was largely concentrated in the oil and gas sector.

Among the most notable stories out of earnings season was the extreme volatility hitting elite tech stocks. Shares of Amazon rose 9% ahead of its report on Thursday afternoon, then plunged 13% after market as profits widely missed expectations (nearly every other metric telegraphed excellent and sustained growth in Amazon's various businesses). There was no run up ahead of Apple's results, as most observers expected the company to offer disappointing iPhone sales, although the reaction to modest miss (74.8M v 76Me) was compounded by the firm's typically conservative forward revenue guidance. Shares of Apple were down around 8.3% on the week by Thursday afternoon. On the positive side, Facebook gained 15% to a new all-time high on big double-digit gains in daily and monthly active users, and a 57% y/y gain in ad revenue. Microsoft was up 5% on modest outperformance in its second quarter, even as net income and revenue slipped lower y/y.

Johnson Controls agreed to combine with Tyco, in a deal that appears to be chiefly engineered as a tax inversion to move JCI to Ireland and lower its corporate tax rate. Shareholders of Johnson Controls will own about 56% of the combined company and Tyco holders will own 44%. After a tangled, months-long, three-way merger drama, Nexstar has secured a deal to acquire Media General for more than $2.1 billion. Meredith Corporation bowed out from its own attempt to combine with Media General, in exchange for a $60 million breakup fee and a first look at some of the divestitures that may be required to get Nexstar's Media General deal done. Media General agreed to be acquired for $10.55 a share in cash and 0.1249 of a share of Nexstar common stock.