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Daily Agenda: Markets React to Deflationary Expectations

RBA takes a more hawkish stance; Puerto Rico defaults; Greek bank stocks take beating; Aetna earnings beat estimates.

Euro zone producer prices for June released today registered a 2.2 percent year-over-year on weaker commodity price inputs, and bond markets on the Continent are continuing to position themselves for a prolonged low inflation. In a research note issued today, the cross-asset strategy group at Société Générale noted that “all Bunds now out as far as end-2018 have gone below the –20-basis-point limit again,” adding, which “in principle should bolster European Central Bank public sector purchase program buying further out the curve.”

Reserve Bank of Australia head tweaks language. The Reserve Bank of Australia left benchmark rates unchanged as anticipated, but took currency markets by surprise with a shift in language. In the release, RBA governor Glenn Stevens and his colleagues omitted from the statement that a further decline of the Australian dollar seems both “likely and necessary.” The Aussie rallied by 1.5 percent against both the euro and U.S. dollar in response to the hawkish policy stance.

Puerto Rico in default. The Public Finance Corp. of the Commonwealth of Puerto Rico officially defaulted yesterday after missing a payment due on August 1. The island’s government has indicated that it will lay out a plan of reorganization before creditors by September 1. This marks the commonwealth’s first default since coming under U.S. jurisdiction 117 years ago.

Greek bank stocks collapse. The four largest banks in Greece have lost roughly half their market value since the Athens Stock Exchange reopened Monday after a five-week hiatus. Shares of Piraeus Bank, Alpha Bank National Bank of Greece and Eurobank Ergasias reached the exchange’s maximum decline threshold of 30 percent before trading was halted.

Aetna earnings beat estimates. Hartford, Connecticut–based health insurance company Aetna reported a net operating profit of $2.05 per share for second-quarter 2015, beating consensus estimates of $1.82. Aetna, which is in the process of merging with insurer Humana, also guided expectations higher for full-year 2015.

Shanghai shares rebound on selling crackdown. The Shanghai Composite index closed up nearly 3.7 percent in today’s trading session— the biggest upswing in nearly a month. The rise came amid a crackdown on short selling by the China Securities Regulatory Commission (CSRC) and the exchanges themselves announced that multiple large brokerage firms had completely suspended the business for client and principal accounts. Yesterday the CSRC unveiled the suspension of trading privileges for 30 large accounts, including one for the brokerage arm of hedge fund titan Citadel Investment Group.

Portfolio Perspective: Are Bond Yield Curves Telling Us Something? Robert Savage, CCTrack Solutions

Investors would be well advised to pay attention to the flip-flop from flattening to steepening trades seen in the global bond markets last week. One of the best indicators for growth 12 to 18 months out is the change in the yield curve. The U.S. markets’ thinking, following the FOMC announcement on Wednesday, was clear: the FOMC may act in September but the potential for growth in the U.S. is now lower and given the weaker demand globally as shown from commodities, the end rate would be 2 percent not 3.5 percent as forecast by the Fed’s dot plot — suggesting a flat US curve. The U.S. second-quarter 2015 employment cost index (ECI) changed all of that logic as the report showed no wage inflation risks with a 0.2 percent quarter-over-quarter rise, marking the lowest rate since 1982, the year report started.

There are some doubts about whether the ECI report matters. St. Louis Fed President James Bullard noted in an interview with The Wall Street Journal, “We are in good position to make the first normalization move” for raising rates at the September 16–17 meeting. The 25 -basis-point increase that the market has been penciling in “would essentially be a nonevent in financial markets,” Bullard added.

The confusion over tighter labor markets doesn’t jibe with the lack of wage inflation. The upward shift in some wages using the San Francisco and Atlanta Fed models suggests 3.2 percent annual gains, while the ECI is at 2 percent. The decision over what data matters and which one can drive the FOMC in September will have to be part of the FOMC speeches though September 17. Until then, the curve in the U.S. maybe the best measure for the mood over lift-off.

Robert Savage is the CEO of CCTrack Solutions, a New York–based hedge fund firm.

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