ON DECK FOR TUESDAY, JULY 27

KEY POINTS:

  • Déjà vu in the markets
  • Markets focus on the possibly exaggerated China narrative…
  • ...and after-market US tech earnings
  • US appetite for equipment spending remains strong
  • US consumer confidence, Richmond gauge pending
  • CDN CPI preview

This feels like a replay of yesterday morning in the markets. Equities are softening like they did at this time yesterday before turning higher later in the day. Sovereign yields are pushing lower with the US and Canadian 10 year notes outperforming and down 5bps, kind of like they were early yesterday before Treasuries reversed course later in the day. The USD is back to depreciating after gaining earlier in the European market open.

Like yesterday morning, the alleged catalyst is ongoing selling in China’s stock market and the ripple effects elsewhere that are partly driven by China growth worries. That, in turn, is driven by concern that President Xi Jinping and the Communist Party of China are pursuing a self-ruinous regulatory clamp down on the mainland’s private sector and Hong Kong’s liberties. At this point I view the mainland side of the worries as a micro trade magnified by late July global trading, but obviously worth monitoring. We’ve seen plenty of 5% corrections in mainland China stocks over the years so the headlines that scream of a ‘rout’ sound like they’re the stuff of the Twitter crowd’s attention deficit issues. The Hang Seng is in bigger freefall with a 14% drop since late June, but here too we’ve seen similar or bigger moves plenty of times, like 2011, 2015, 2018, early 2020 etc. The Hang Seng’s p/e of 10.9 (or 12 on a 1-year forward basis, 10.7 on a two-year forward basis) doesn’t strike me as particularly rich.

The only overnight release was South Korean GDP for Q2 that was in the ballpark of expectations (0.7% q/q, consensus +0.8%).

UNITED STATES

Tech earnings and a handful of US macro reports will dominate calendar-based market attention. Macro releases are concentrated in the N.A. morning and are expected to trade-off an already released gain in US durable goods orders against expectations for softer consumer confidence (10amET) despite nonfarm payroll gains and having more to do with the virus and the winding down of stimulus cheque distributions. The Richmond Fed’s manufacturing gauge is also due out for July (10amET).

US durable goods orders, headline / ex-trans, m/m % change, SA, June:
Actual: 0.8 / 0.3
Scotia: 2.5 / 1.0
Consensus: 2.2 / 0.8
Prior: 3.2 / 0.5 (revised up from 2.3% / 0.3%)

Net of positive revisions, US durable goods orders were a minor disappointment but given the guesswork that is involved I view it as a strong overall reading especially in terms of momentum in core orders.

Headline orders were up 0.8% m/m (consensus 2.2%) but the prior month’s gain was revised up by over a percentage point to explain away much of the disappointment in June. Dang revisions. Ex-trans orders were up 0.3% (consensus 0.8%) with a smaller upward revision to the prior month. The key is that core orders were up 0.5% m/m but they too were revised up to a 0.5% prior gain from an initially reported 0.1% rise.

Core orders ex defense and air have been up for four consecutive months and for 13 of the past 14 months as clear evidence of appetite for equipment spending (chart 1). Breadth was decent as shown in chart 2 (details here). Defense orders fell -1.5% but after a 15.3% prior jump) and vehicles and parts slipped (-0.3% m/m, also after a 2% prior gain). The nondefense aircraft part worked out within the ballpark of expectations at +17% m/m for the third straight large gain. Computers/electronics were up 1% m/m, machinery orders were up 0.6% m/m and primary metals were up 0.4%. Electrical equipment was flat but after a 3% prior gain and fabricated metals were down 0.8% m/m for the second straight drop.

Apple, Alphabet/Google and Microsoft highlight the main earnings risks in today's after-market.

CANADA

For tomorrow’s Canadian CPI report for June I went with +0.6% m/m NSA and 3.5% y/y. That’s toward the higher end of consensus with even two tail risks of higher and lower in my view, but be careful toward often inaccurate/incomplete and generally unreliable Canadian consensus surveys. The median ‘big five’ bank estimate is 3.4% y/y.

In a nutshell, weaker base effects trade off against reopening and supply chain effects plus revised pandemic-era weights with an eye on revisions as the old CPI converts to the new weights. Further comments on the drivers are as follows.

  • base effects would take the y/y rate down to 2.8% y/y from 3.6% prior;
  • much of the reduced year-ago base effect is due to gas prices, but the month-over-month weighted contribution of gas prices is <+0.1%. Note that the gas price level remains high even as the pace of year-over-year gains dissipates;
  • June usually has relatively low seasonality with a small typical up-tick in average prices;
  • On supply chain and reopening effects, I went with another strong 0.5% m/m NSA rise over and above the other arguments. This is one main area where two-tail risks are focused.;
  • Then there is the issue of the revised pandemic-era weights. That adds a few tenths to y/y but unless Statistics Canada breaks out the effects then it may be difficult to discern the role of shifted weights from the other drivers like supply chain and reopening effects. Chart 3 shows the changes in the basket weights that will apply in tomorrow’s report relative to the prior 2017 basket weights. The accompanying table shows the weight changes between those two periods but also relative to the adjusted CPI measures the last time they were published by StatsCan up to January of this year. It’s the 2020 changes relative to the adjusted CPI weights from earlier this year that matter in tracking the potential for tomorrow’s revised CPI to track higher than official CPI to date.

  • Finally, on core measures, I think they will edge up again but the disappointing part about StatsCan’s revised basket weights last Wednesday is that they did not provide the full basket that is necessary to work through implications for the BoC’s 3 core measures. Those are based upon 55 basket components and they only provided high level basket weights. Measures like trimmed mean and weighted median CPI are super sensitive to the exact measures for the full suite of price subindices but we’ll only find those out tomorrow. 

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